Something that not many people really think through is state taxes. Most people talk about saving money on federal taxes, but state tax can also make an impact (and a pretty large one)
My goal with this newsletter post is to help you understand the impact of state taxes, and potentially give you ideas for the future.
Income taxes
Some states, like Washington, Tennessee, Florida, etc have no income tax at all. In these states, you wouldn’t have to pay any taxes on 401k/IRA withdrawals, pension, or Social Security.
Some states, like Illinois, don’t tax pensions or retirement withdrawals. In Illinois, you can contribute to a 401(k), save 4.95% on income tax, and when you withdraw that money, you don’t have to pay state income taxes. That’s a “free” 5% saved!
Contrast that with a state like California, which has a tax of up to 13.3% on your traditional 401k withdrawals. Or a state like Minnesota, which fully taxes Social Security.
The biggest planning opportunity is with 401ks:
Under federal law, a state cannot tax the retirement income (e.g. 401k) of someone who is no longer a resident or domicilary of that state. So you can totally contribute while living in a high tax state, then move (more on this in a bit), and take the distributions later. Your former state generally can’t tax these withdrawals.
Estate tax
The federal exemption to estate tax is pretty generous – $15m per person or $30m married in 2026. This means that most people would never have to pay any estate taxes upon passing away.
However, some state exemptions are not as generous.
For example, Oregon has a $1m exemption, one of the lowest in the country. So if your “net worth” is more than $1M, you may be responsible for paying state estate taxes.
New York has a “cliff” where if your estate exceeds ~$7M, the entire estate becomes taxable from $1. This can result in a tax bill larger than the amount the estate went over, which is wild. So if you are approaching that limit, consider doing some estate tax planning.
A paid off house and some 401k can push many retirees over these state thresholds. Moving domicile to a state with no estate or inheritance tax can eliminate the exposure.
How to do it right
States with high income taxes are pretty aggressive in auditing high earners/wealth people moving away from their states. States generally use 2 tests:
- Domicile – true permament home. Driver’s license, registration, car registration, where your family lives and where your important belongings are
- Statutory residence – mainly 2 rules – where do you maintain a “permanent place of abode” (owning or renting a home) AND spend more than 183 days. So if you move, but still keep a place in the old state and spend most time there, it’s a red flag.
Some states also have a “convenience of the employer” rule. So if you work remotely in Florida for a New York employer by your own choce, they may still tax you as New York income.
If you’re serious about changing your tax state:
- Switch driver’s license, vehicle registration, and voter registration
- Move financial accounts and professional relationships
- Keep a documented day count in the old state
Something to keep in mind
I suggest that you don’t just move away from something, but move to something. Don’t just move away because your state has high taxes. But if you are moving because of family, etc, taxes may just be an additional benefit.
To some people, saving money on inheritance taxes by moving to a different state may make sense. But others will PAY money just to stay close to family. It’s important to understand what truly matters. In the end, does 10% extra in tax matter as much if your family isn’t there on your final days? To each their own.