Say, for example, you decide to move to a state that
doesn't collect income tax -- Alaska, Florida, Nevada, South Dakota,
Texas, Washington, Wyoming, Tennessee or New Hampshire. In general,
that's a sound way to tax-proof your retirement income. But if you
move to a couple of these locales, you might find you've outsmarted
"New Hampshire and Tennessee have no general
wage income tax, but do tax stock and bond income, a prime source
of income for many retirees," says John Logan, senior tax analyst
with CCH Tax and Accounting. "So one of the main considerations
is what type of income will you be relying on in retirement."
It works the other way, too. A state that might look
unappealing at first tax glance could, in fact, be a tax-smart retirement
"New York is considered a big tax state for good reason,"
says Scharin. "But it also has exclusions for certain types
of retirement income. The pension income of government employees
-- teachers, postal workers, fire department employees -- is not
taxed by New York state, so although they're living in a high-tax
state, these people are exempt from state tax."
That's why, says Scharin, "it's kind of misleading
to look at a table that says you're in a high-tax state, because
Don't forget other state taxes
Illinois, too, exempts most federally qualified retirement-plan
income and offers very broad exceptions from taxation for other
retirement income, say Logan, who's based in CCH's Riverwoods, Ill.,
Coupled with the state's low income tax rate, 3 percent
of federal adjusted-gross income, Illinois might be a tempting place
to retire. But when you start spending your income-tax-exempt retirement
money, look out. The state and many of its local taxing jurisdictions
will get their piece of it through the sales tax.
"The amount of the tax varies considerably,"
says Logan. "You can't just look at the state sales tax rate.
When you factor in local taxes, in Illinois, some combined sales
taxes are at 9 percent."
It can go that high because, in part, there are so
many local taxing jurisdictions. The 2005 Illinois Sales Tax Rate
Reference Manual says that, along with the state's general 6.25
percent sales tax, the department of revenue also might collect
combinations of one or more of the following locally imposed taxes:
mass transit tax, water commission tax, municipal home rule tax,
municipal non-home rule tax, county home rule tax, county public
safety or transportation tax, metro-east park and recreation district
tax and business district tax.
Then there's the issue of exactly what goods and services are taxed
when purchased. Most states exempt prescription drugs from tax,
a relief for many retirees, but other items, even food and over-the-counter
medications, are taxed in some states. If you plan to spend your
retirement cooking gourmet meals for friends, make sure the local
grocery won't be collecting tax on more of your pension check than
you had planned.