What's your biggest worry regarding retirement? For most people, it's simply outliving their money. That's why so many of us are working so hard to save as much as we possibly can right now.
The good news is, your retirement income might actually go a little bit farther than you expect. Although Social Security was never intended to be an individual's sole source of retirement funding, at least this sliver of your future cash flow isn't taxed in most states.
Still, there are a few things you'll need to know about that taxation of your retirement benefits.
State taxation of Social Security retirement benefits
As of the latest look, 40 states don't tax Social Security retirement benefits. In alphabetical order, these states are:
- Alabama
- Alaska
- Arizona
- Arkansas
- California
- Delaware
- Florida
- Georgia
- Hawaii
- Idaho
- Illinois
- Indiana
- Iowa
- Kentucky
- Louisiana
- Maine
- Maryland
- Massachusetts
- Michigan
- Mississippi
- Missouri
- Nebraska
- Nevada
- New Hampshire
- New Jersey
- New York
- North Carolina
- North Dakota
- Ohio
- Oklahoma
- Oregon
- Pennsylvania
- South Carolina
- South Dakota
- Tennessee
- Texas
- Virginia
- Washington
- Wisconsin
- Wyoming
But what if you live (or plan on living) in one of the other 10 states? Don't sweat it just yet. A handful of them are relatively gentle when it comes to taxing these benefits. A few others may soon alter their tax rules regarding Social Security income as well.
Take Colorado as an example. Its residents between the ages of 55 and 64 aren't taxed on their first $20,000 worth of annual income from the government program, while anyone over the age of 65 living in the Centennial State doesn't owe any income tax on their Social Security benefits. This means a huge chunk of older Coloradans are actually side-stepping the state's 4.4% flat income tax on at least a portion of their retirement income.
Meanwhile, Connecticut, Kansas, Minnesota, Montana, New Mexico, Rhode Island, Utah, and Vermont each offer some degree of income-based tax breaks on Social Security income. That is to say, in several of these eight locales, only the highest of retirement earners will owe state taxes on any such benefits. In others, a decent-sized chunk of Social Security income can be deducted from the federally reported tax forms used to determine state-based tax liabilities.
And what about West Virginia? Last year is the final year that West Virginians' Social Security income will be fully taxed by the state. That's because early this year, the state's legislature passed measures that will gradually phase out the taxability of these benefits. Come 2026, the state won't be taxing any portion of anyone's Social Security income.
Oh, by the way: Feeling compelled to join the crowd, many of the few states left that still tax even a portion of Social Security's retirement income are now regularly reconsidering the practice.
Image source: Getty Images.
That said, regardless of which state you live in, your Social Security benefits are at least still subject to federal income taxation. Not all of it, though.
For individuals with adjusted gross annual income of between $25,000 and $34,000, you'll potentially owe income tax on up to half of your benefits. For anyone with retirement earnings in excess of $34,000, up to 85% of your Social Security benefits are considered taxable income. And for joint filers, these thresholds are raised to $32,000 and $44,000.
Still, even if you can save just a few thousand bucks in taxes every year just by living in a different state, it may well be worth the move.
A big-enough benefit to consider when making plans
Of course, there's more to life than minimizing your annual tax bill. Maybe you've got close family in a state that still taxes Social Security benefits. Perhaps the cost of living is low even in a state that still taxes a sizable portion of your retirement income. There's always more to the story.
For most current and soon-to-be retirees, however, saving just a few thousand bucks per year could make a major difference with their budgets -- particularly for relatively high-earning retirees with income subject to state-level taxation. At the very least, it's something worth considering. That's especially true right now if you can sell your current home at an attractive price and/or find a new one at a price you also like.
