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States That Do Not Tax Retirement Income 

Saving for retirement is a prominent concern for many Americans for a multitude of reasons, including high inflation rates, which can impact monthly budgets and the overall cost of utilities. In your golden years, retirees shouldn’t have to worry about taxes impacting the retirement income they worked their entire lives to earn. 

Fortunately, there are several states that don’t treat retirement income, including pension payouts, 401k distributions, and IRA payments, as taxable income. Here’s what you need to know. 

Which States Don’t Tax Retirement Income? 

It is important to note that the seven states below do not tax retirement income because they don’t have any state income tax. In 2024, the following 13 of the states don’t tax retirement income:

  • Alaska
  • Florida
  • Illinois
  • Iowa
  • Mississippi
  • Nevada
  • Pennsylvania
  • South Dakota
  • Tennessee
  • Texas
  • Washington
  • Wyoming

Instead, these states generate revenue from several other sources. For example, Alaska, South Dakota, and Wyoming rely on the sale of natural resources to keep taxes low for residents. Similarly, because Alaska is rich in oil, the state doesn’t tax residents on their income, estates, or retirement benefits.

Which States Don’t Tax Pensions? 

Seven states do not tax pension payments made to retirees: 

  • Alabama
  • Alaska
  • Florida
  • Hawaii
  • Illinois
  • Iowa
  • Mississippi
  • Nevada
  • New Hampshire
  • Pennsylvania
  • South Dakota
  • Tennessee
  • Texas
  • Washington
  • Wyoming

Similarly, Illinois, Pennsylvania, and Mississippi don’t tax IRA or 401k plans. 

Which States Don’t Tax Social Security? 

Fortunately, most states in the U.S. don’t tax Social Security. The following 39 states do not tax Social Security in retirement:

  • Alabama
  • Alaska
  • Arizona
  • Arkansas
  • California
  • Delaware
  • Florida
  • Georgia
  • Hawaii
  • Idaho
  • Illinois
  • Indiana
  • Iowa
  • Kentucky
  • Louisiana
  • Maine
  • Maryland
  • Massachusetts
  • Michigan
  • Mississippi
  • Nevada
  • New Hampshire
  • New Jersey
  • New York
  • North Carolina
  • North Dakota
  • Ohio
  • Oklahoma
  • Oregon
  • Pennsylvania
  • South Carolina
  • South Dakota
  • Tennessee
  • Texas
  • Virginia
  • Washington
  • West Virginia
  • Wisconsin
  • Wyoming

If you live in one of the following states, you can expect to pay taxes on your Social Security benefits:

  • Colorado
  • Connecticut
  • Kansas
  • Minnesota
  • Missouri
  • Montana
  • Nebraska
  • New Mexico
  • Rhode Island
  • Utah
  • Vermont

Other Ways to Avoid High Taxes in Retirement 

Aside from moving, there are plenty of other convenient ways to avoid paying excessive taxes in requirements that don’t require you to uproot your life. 

Contribute to a Retirement Account

Making regular contributions to accounts like 401(k)s, traditional IRAs, and Roth IRAs can help you save on taxes. Contributions to these accounts are typically tax deductible, meaning the money removed from your paycheck is subtracted from your taxable income. 

Keeping your money in these types of retirement accounts means you pay taxes upfront instead of when you make a withdrawal in retirement. If you’re living in a state where you’re in a high tax bracket, keeping money in retirement accounts like Roth IRAs can be beneficial in the long run. These tax-deferred accounts can help your money grow faster over long periods of time.

Convert to a Roth Account 

If you already have a traditional IRA or 401k, there are still ways you can save on taxes in retirement. In some cases, you can avoid taxes altogether on these funds by converting them to a Roth IRA account. Here’s how a Roth conversion works:

  1. Pay taxes on the converted amount. When you convert your traditional IRA or 401(k), you will owe income taxes on the amount converted because traditional retirement accounts are funded with pre-tax dollars. Meanwhile, Roth accounts are funded with after-tax dollars.  

Enjoy tax-free withdrawals in retirement. After the conversion is complete, your funds will grow tax-free within the Roth account. This means you won’t owe taxes on withdrawals in retirement, including any investment gains you might acquire. 

Reverse Mortgage 

Another way to avoid paying high taxes in retirement is to participate in a reverse mortgage. There are a few options when it comes to reverse mortgages, but one of the most common is the Home Equity Conversion Mortgage (HECM). This reverse mortgage option is insured by the Federal Housing Administration (FHA).

The HECM reverse mortgage is a loan just like a traditional mortgage. However, instead of making monthly payments to a lender, seniors receive payments from their lender. This is available in the form of a lump sum, line of credit, monthly payments, or a combination of the three. These funds can be used to help homeowners in a variety of situations, including retirement.

Usually, reverse mortgages benefit retirees who are looking for enough funds to retire in a particular place. They can also provide seniors with financial freedom. Funds can be allocated to pay off credit card debts or make home renovations so they can stay in one place for longer without having to tap into their liquid funds. 

How much retirees receive in their reverse mortgage is based on factors like the age of the borrower, the value of the property being mortgaged, and current interest rates. The amount a borrower receives typically ranges between 40-60% of the home’s total value. It’s important to note that the FHA puts a lending limit on how much lenders can loan to reverse mortgage borrowers. In 2024, that limit is $1,149,825. This amount can increase over time if the loan has a variable interest rate, which also provides more options when it comes to the ways you receive the money from your reverse mortgage. 

Fixed-rate borrowers are limited to only receiving their reverse mortgage payments in a single lump sum payment. But if you opt for a reverse mortgage with a variable interest rate, payments can look like:

  • Monthly payments to residents of the home
  • Monthly payments for a fixed number of months 
  • A line of credit  
  • A line of credit and monthly payments 
  • A lump sum disbursement and monthly payments 
  • A lump sum disbursement along with a line of credit 

Unlike other kinds of mortgages, the payments made on reverse mortgages are not taxable. Plus, when reverse mortgages are used early enough in retirement, they can provide income to seniors looking to convert their savings into a Roth account at a lower tax rate. 

If you’re interested in applying for a reverse mortgage, here are the necessary steps: 

  1. Meet with an advisor who will review your finances and let you know if a reverse mortgage is right for you.
  2. Meet with a HUD-approved counselor who will review the pros and cons of a reverse mortgage. 
  3. Submit your application, which will be processed by underwriting. 
  4. Obtain an appraisal to determine the current market value of your home.
  5. Schedule a closing date and sign the documents required. 
  6. Receive your reverse mortgage funds in the manner you agreed to in your application. 

When it comes to finding the reverse mortgage lender that’s right for you, research is of paramount importance. Doing so will give you the knowledge you need to understand all of the options a lender has to offer

Common Sources of Retirement Income 

When it comes to retirement income, there are several common sources. Each is taxed differently depending on the state you reside in. 

Social Security  

Social Security is a federal government program that provides retirement benefits to eligible individuals that are funded through payroll taxes workers and employers pay into the system during their working years.

Retirement Accounts 

The funds contributed to retirement accounts like Roth IRAs allow the retiree to make money through various stocks, bonds, mutual funds, and other investments that can grow over time and serve as tax-free money when retirement rolls around. 

Annuities and CDs 

Annuities and CDs (Certificates of Deposit) are two other financial products that can provide a source of income in retirement. An annuity is when an individual makes payments to an insurance company that guarantees a stream of income over a period of time. They’re offered with fixed or variable interest rates, some even offering the option of inflation-adjusted payments to help protect against inflation. 

Meanwhile, CDs are savings accounts that offer a fixed interest rate for a fixed term. Individuals who invest in CDs agree to keep their money in the account for a set period of time, earning them a guaranteed fixed interest rate on their investment. 

Pensions 

Many employers offer pensions as part of a retirement plan. Pensions provide a guaranteed source of income by setting aside funds from your paychecks over the years that you work. Unlike other retirement accounts, such as 401(k)s and IRAs, the amount of income received from a pension is not dependent on investment returns or market performance.  

Property 

If you are looking to downsize in retirement, selling your property can be a source of income. Similarly, property can provide access to a reverse mortgage in retirement. 

Reverse mortgage borrower must occupy home as primary residence and remain current on property taxes, homeowner’s insurance, the costs of home maintenance, and any HOA fees.  

This information is intended to be general and educational in nature and should not be construed as financial advice. Consult your financial advisor before implementing financial strategies for your retirement. 

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