Minnesota might not always be No. 1, but we did make No. 2, at least on a list issued by personal-finance magazine Kiplinger’s of states least friendly to retirees. Only Vermont was rated worse based on tabulations of income, sales, real estate, inheritance and estate taxes. The analysis also considered whether Social Security or other retirement income is subject to income taxation.
With Minnesota’s relatively high top income tax rate, high sales tax rates in the metro area, tax treatment of Social Security that follows the federal income tax and virtually no exclusion of other pension income, Kiplinger’s rated Minnesota among its “tax hells” that are highly unfriendly to retirees. But we can take comfort that neighboring Iowa, Wisconsin and Nebraska all were in the same bottom 10.
A parallel list of “tax heavens” – states friendly to retirees – included energy-rich low-tax Wyoming and Oklahoma, along with a Southern band from Louisiana through Mississippi and Alabama to Georgia and South Carolina.
My usual reaction to rankings like this is, “If states like Minnesota and Wisconsin are so bad, why do any retirees live there? And if states like Wyoming, Louisiana and Mississippi are so great, why aren’t more people flocking there?”
Of course, some Minnesotans do move away when they retire. And Wyoming and other states mentioned do have some retirees move in. But except for particularly scenic areas like Jackson Hole, or the Gulf Coast with its pleasant climate, the states listed are not overrun by retirees fleeing the oppressive taxes of Vermont, Minnesota or Wisconsin.
Why not?
The first and most important reason is that tax levels are only one factor among many that people use to decide where to live, whether they are working or retired. For most, it is not the major reason.
Second, while Kiplinger’s did not disclose the exact weighting criteria it applied in considering the effects of different taxes, it seems clear its conclusions are skewed toward the sort of retirees most likely to subscribe to the magazine, namely those with above-average incomes. But the degree to which retiree households are affected by different taxes varies a great deal. A state tax regime that is favorable to a high-income retiree may be unfavorable to one with less.
Compare Minnesota with Mississippi. Minnesota’s top state income tax rate is 7.85 percent compared with Mississippi’s 5 percent. But only a small minority of households headed by retirees would owe income tax in either of these states. Even the $20,900 threshold a Minnesota retired couple must hit before having to file a return is nearly $5,000 above that of Mississippi.
Minnesota’s basic sales tax rate, at 6.875 percent, is slightly below Mississippi’s 7 percent. However, Minnesota exempts food and most clothing. Mississippi does not. That makes a much bigger difference in taxes paid each year by most retiree households than does the difference in income tax rates between the two states or even any differences in real estate taxes.
The state-by-state tabulations of the Tax Foundation, a respected Washington, D.C.-based think tank, are much more reliable than the slapdash methodology of Kiplinger’s.
The Foundation’s data do show that state and local taxes combined came to 10.3 percent of a Minnesotan’s income in 2009, on average, versus 8.7 percent for someone in Mississippi. If the tax bite were exactly the same at all income levels, that would mean a retired household with $30,000 in income would pay an additional $480 of taxes in Minnesota. But because Mississippi’s taxes are more regressive, particularly in the taxation of food, the actual tax outlay for this household is likely to be higher in Mississippi than in Minnesota.
The higher one’s income, the more important differences in income tax become, while differences in the effective bite of sales taxes become less important. But only a small percentage of retiree households have income high enough to experience these differences.
Broad generalizations about the relative costs of taxes in different states are subjective and usually miss the mark for many households.
Moreover, for most households deciding where to retire, tax considerations are secondary to factors such as climate, nearness to family and friends, participation in familiar church and community affairs or staying in a house that has served as the center of much of one’s life.
Lists of tax “heavens” and “hells” are good at provoking reaction but probably don’t result in too many retiree relocations.
© 2011 Edward Lotterman
Chanarambie Consulting, Inc.