Every state imposes income tax on its residents. State income tax works in three ways. A state may impose a progressive income tax, a flat tax, or no tax at all. As compared to the federal income taxes, state income taxes are not talked about often. However, state income tax laws can significantly affect your earnings, savings, and lifestyle. Thus, consulting a tax law firm becomes crucial when filing state income tax returns.
What is a state income tax?
As the name implies, a state income tax is imposed on the income earned in that state. While federal income is similar to the state income tax, the latter is used to fund state budgets.
So, how do state income tax rates work?
Every state in the U.S uses one of the three approaches to impose a tax on its residents.
- No tax: A state may choose not to levy any state income tax on its residents.
- Flat tax: A state may tax all income or dividends at the same rate.
- Progressive tax: A state may choose to impose a higher income tax on people with higher taxable incomes.
If you live and work in the same state, you will need to file only one state income tax return each year. However, if you moved to another state or lived and worked in different states or income-producing properties in multiple states, you will have to file several income tax returns. If you fall into the latter category, consulting an experienced taxation lawyer will help you avoid confusion over filing the return.
States with no income tax
In the U.S, eight states don’t levy an income tax. These states are Texas, Nevada, Alaska, Florida, South Dakota, Tennessee, Wyoming, and Washington. Additionally, New Hampshire imposes a 5% tax on interest and dividends.
While one might be tempted to move to states with no income tax, the chances are that other taxes like property taxes, sales taxes might be higher than usual.
States with flat income tax rates
In the U.S, ten states levy flat income tax rates on their citizens. However, what is considered as ‘income’ in these states can be different than other states. In comparison, some states apply income tax rates on adjusted gross income, while some states levy tax on taxable income.
States with progressive tax structures
A majority of U.S states tax income similar to the federal government. States with progressive tax rates levy higher income tax on residents who earn a higher income. Most states charge lower income tax as compared to the federal government. Many state income tax rates range between 1% to 10%. While states with high-income tax charge anywhere between 13% to 14% tax. Besides this, there are other taxes like sales taxes, fuel taxes, utility taxes imposed on the residents.
If you live in a state with a progressive tax structure, you must seek help from a tax law firm to prevent income tax filing mistakes.