Understanding State Income Tax: What It Is and Why It Matters
State income tax is money that workers and residents pay to their state government based on the income they earn. Unlike federal income tax, which goes to the national government, state income tax stays within the state to fund schools, roads, public safety, and other local services. Not all states collect income tax, however. Nine states currently have no state income tax at all, which means residents in these states do not pay income tax on their wages, salaries, or other earned income.
Learn About Paying Bills Through U.S. Bank Online →
Understanding how state income tax works is important for anyone considering moving or making financial decisions. The amount of state income tax varies widely by state. Some states take a small percentage of income, while others take significantly more. For example, California's state income tax rate reaches as high as 13.3% for top earners, while some states with income tax charge lower percentages. The difference in tax burden between states with income tax and states without can add up to thousands of dollars per year for many people.
However, it's important to remember that states without income tax often make up lost revenue through other means. They may have higher sales taxes, property taxes, or excise taxes on specific items. This means living in a no-income-tax state does not necessarily mean paying less in total taxes. Some people pay less overall, while others may pay about the same or even more, depending on their personal situation and spending habits.
The nine states with no state income tax are: Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, Wyoming, and New Hampshire. New Hampshire is technically an exception—it does not tax wages or salaries, but it does tax investment income and dividends. Understanding the tax environment in each state requires looking at the whole picture, not just income tax alone.
Practical Takeaway: Before considering a move based on tax differences, research the total tax burden in your target state, including sales tax, property tax, and other fees. A state with no income tax might not save you money if other taxes are higher.
The Nine States With No State Income Tax: Complete Overview
The nine states that do not levy state income tax on their residents are spread across different regions of the country, from the South to the West to New England. Each state has its own reasons for this policy and its own tax structure to support government services. Learning about each state individually helps people understand what living there might mean financially.
Free Guide to Changing Your Bank Account Password →
Alaska has no state income tax and no sales tax, making it one of the most tax-friendly states overall. However, Alaska has high property taxes in some areas and uses oil revenue to fund government services. Many Alaskan residents also benefit from the Alaska Permanent Fund, which distributes oil wealth to residents. In 2023, each resident received approximately $1,312 from this fund.
Florida is the second-largest state by population and has no state income tax. Instead, Florida relies on sales tax (currently 6% base rate, though some counties add more) and property taxes. Florida has become increasingly popular with retirees and workers seeking to avoid state income tax. The state does not tax retirement income, including Social Security, pensions, and 401(k) distributions, which is particularly attractive to older residents.
Nevada has no state income tax and a relatively low sales tax of 6.85%, though some jurisdictions add local taxes. Nevada is known for its business-friendly environment and has attracted many companies and workers. However, property taxes in some areas can be moderate to high. Las Vegas and Reno are the major population centers.
South Dakota has no state income tax and a sales tax of 4.5%, one of the lowest in the nation. South Dakota also does not tax retirement income, which makes it attractive to retirees. The state uses property taxes and other revenue sources to fund services. The cost of living in many South Dakota communities is lower than in neighboring states.
Tennessee eliminated its state income tax completely, with the last taxes paid in 2021. Tennessee has a sales tax of 9.55% (combined state and average local rate), which is among the highest in the nation. However, Tennessee does not tax retirement income, pensions, or Social Security. This appeals to retirees but means higher sales taxes for all residents.
Texas is the second-most populous state and has no state income tax. Texas funds government through sales tax (8.25% state rate plus local additions), business taxes, and other revenue sources. The state has no personal income tax whatsoever, and this policy has attracted many workers and businesses. Texas has a diverse economy and relatively low cost of living in many areas.
Washington has no state income tax but has a sales tax of 6.5% at the state level, with local additions bringing it higher in many areas. Washington has attempted to introduce capital gains taxes on the wealthy in recent years, which adds complexity. The state relies heavily on sales tax revenue and has a significant business tax.
Wyoming has no state income tax and a sales tax of only 4%, one of the lowest in the nation. Wyoming funds government through property taxes, business taxes, and mineral extraction taxes. The state has a small population (around 580,000) and lower cost of living in most areas. However, winters are harsh in many parts of Wyoming.
New Hampshire is unique among the nine states. It has no tax on wages and salaries, but it does tax interest income and dividend income at 5%. New Hampshire residents pay no sales tax, but property taxes tend to be moderate to high. The state attracts people who want to avoid income tax while also avoiding sales tax.
Practical Takeaway: Each no-income-tax state has different tax structures and costs of living. Compare the total tax burden—including sales tax, property tax, and cost of living—rather than focusing only on the lack of income tax.
How States Make Up Revenue Without Income Tax
States without income tax cannot simply operate without collecting taxes. Government services like education, transportation, law enforcement, and infrastructure still require funding. These states use alternative revenue sources to replace the money they would collect through income tax. Understanding these alternatives is crucial for determining whether a state truly offers lower taxes overall.
Your Free Macy's Credit Card Online Payment Guide →
Sales tax is the most common alternative revenue source for no-income-tax states. Sales tax is a tax on purchases of goods and services. When someone buys an item, they pay the sales tax at the point of purchase. Sales tax rates in no-income-tax states range from 0% in New Hampshire to 9.55% in Tennessee (combined state and local rates). For people who spend a lot of money on goods and services, a high sales tax can offset or exceed the savings from no income tax. For example, a person earning $60,000 per year would pay around $3,600 in California state income tax, but someone in Tennessee with the same income might pay $2,400-$3,000 in sales tax if they spend $25,000-$31,000 annually on taxable purchases.
Property tax is another major revenue source. Property tax is based on the value of real estate someone owns. No-income-tax states may have higher property tax rates than states with income tax. For homeowners, this means substantial annual payments. Property tax varies greatly within states based on local assessments. For example, in Texas, property tax rates range from about 0.3% to 1.8% of home value depending on location. In New Hampshire, property taxes average around 1.1% of home value, which is higher than Texas but still reasonable compared to some other states.
Business taxes and gross receipts taxes provide another funding source. These are taxes that businesses pay based on their revenue or income. Some states tax business gross receipts (the total revenue before expenses), while others tax net business income (profit after expenses). Washington state, for example, has a capital gains tax on the wealthy and business taxes. These taxes indirectly affect residents because businesses may pass costs to consumers through higher prices.
Excise taxes target specific products like gasoline, alcohol, and tobacco. These taxes are built into the purchase price and tend to be higher in states without income tax. A gallon of gasoline in Washington or California might cost 30-50 cents more than in some other states due to excise taxes. Over time, these taxes add up significantly, especially for people who drive frequently or consume these products regularly.
Some states use natural resource revenues. Alaska uses oil revenue to fund government and even distribute money to residents. Wyoming uses mineral extraction