How do state and local individual income taxes work? (2023)

HOW MUCH REVENUE DO STATE AND LOCAL GOVERNMENTS COLLECT FROM INDIVIDUAL INCOME TAXES?

State governments collected $352 billion from individual income taxes in 2017, or 27 percent of state own-source general revenue (table 1). “Own-source” revenue excludes intergovernmental transfers. Local governments—mostly concentrated in Maryland, New York, Ohio, and Pennsylvania—collected just $33 billion from individual income taxes, or 3 percent of their own-source general revenue. (The Census Bureau includes the District of Columbia’s revenue in the local total.)

How do state and local individual income taxes work? (1)

Forty-one states and the District of Columbia levy a broad-based individual income tax. New Hampshire taxes only interest and dividends, and Tennessee taxes only bond interest and stock dividends. (Tennessee is phasing its tax out and will completely eliminate it in 2021.) Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming do not have a state individual income tax.

For combined state and local revenue, Maryland relied the most on the individual income tax in 2017, with the tax accounting for 29 percent of its own-source revenue. The District of Columbia and eight other states—California, Connecticut, Kentucky, Massachusetts, Minnesota, New York, Oregon, and Virginia—collected more than 20 percent of their own-source revenue from individual income taxes in 2017.

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North Dakota’s individual income tax yielded 4 percent of its own-source revenue, the least of any state with a broad-based individual income tax. In every other state with a broad-based income tax, the tax provided at least 9 percent of own-source general revenue. New Hampshire and Tennessee each collected about 1 percent of own-source revenue from their far more limited individual income tax.

How do state and local individual income taxes work? (2)

Local governments levy their own individual income taxes in 13 states. Localities in Indiana, Iowa, Maryland, and New York levy an individual income tax that piggybacks on the state tax. That is, local taxpayers in these states file their local tax on their state tax return and receive state deductions and exemptions when paying the local tax. Michigan localities also levy an individual income tax but use local forms and calculations.

Meanwhile, localities in Alabama, Delaware, Kansas, Kentucky, Missouri, Ohio, Oregon, and Pennsylvania levy an earnings or payroll tax. These taxes are separate from the state income tax. Earnings and payroll taxes are typically calculated as a percentage of wages, withheld by the employer (though paid by the employee) and paid by individuals who work in the taxing locality, even if the person lives in another city or state without the tax. Separately, localities in Kansas only tax interest and dividends (not wages).

In 2017, individual income taxes as a percentage of own-source local revenue ranged from less than 1 percent in Kansas and Oregon to 26 percent in Maryland. Local governments in Kentucky, Ohio, and Pennsylvania also collected more than 10 percent of own-source revenue from individual income taxes (or payroll taxes) in 2017.

WHAT INCOME IS TAXED?

The individual income tax base in most states is similar to the federal tax base. Most states start with federal adjusted gross income but a few start with federal taxable income. Alternatively, a handful of states use their own definition of income, but even these states rely heavily on federal rules when establishing their tax base.

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Even the states that start with the federal tax base, however, often apply different rules for certain types of income. For example, unlike the federal government, states often tax municipal bond interest from securities issued outside that state. Many states allow a full or partial exemption for pension income. And most states, but not all, require taxpayers who itemize their federal tax deductions and claim deductions for state and local income taxes to add back this deduction on their state income tax return.

HOW DO INDIVIDUAL INCOME TAX RATES VARY ACROSS STATES?

Most state income taxes are fairly flat, even in those states that apply graduated rates. Nine states impose a single tax rate on all income, while Hawaii has the most with 12 tax brackets and rates. Top marginal rates for state income tax in 2020 ranged from 2.9 percent in North Dakota to 13.3 percent in California—including a 1 percent surcharge on incomes over $1 million (figure 2).

In some states with multiple tax brackets, the top tax bracket often begins at a low level of taxable income. Alabama, for example, has three rates, but the top tax bracket applies to taxable income over $3,000, making it essentially a flat tax. In other states, the difference between the lowest and the highest tax rates is small: about 2 percentage points in Arizona and Mississippi, for example.

While most states in the 1980s followed the federal government’s lead in reducing the number of income tax brackets, some have increased the number of rates since then. California and New York have imposed new brackets (often called “millionaire’s taxes”) for high-income taxpayers. California approved a millionaire’s tax in 2004 that adds 1 percentage point to the rate applied to incomes over $1 million, and further increased the progressive bracket structure with another ballot measure in 2012. Similarly, New York’s top tax rate of 8.82 percent applies to income above about $1 million.

At the start of 2020, California, Hawaii, New Jersey, Minnesota, and Oregon had top rates above 9 percent and another six states and the District of Columbia had top income tax rates at or above 7 percent.

How do state and local individual income taxes work? (3)

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HOW DO STATES TAX CAPITAL GAINS AND LOSSES?

Five states and the District of Columbia treat capital gains and losses the same as under federal law. They tax all realized capital gains, allow a deduction of up to $3,000 for net capital losses, and permit taxpayers to carry over unused capital losses to subsequent years.

Other states provide exemptions and deductions that go beyond the federal rules. New Hampshire fully exempts capital gains, and Tennessee taxes only capital gains from the sale of mutual fund shares. Arizona exempts 25 percent of long-term capital gains, and New Mexico exempts 50 percent. Massachusetts has its own system for taxing capital gains, while Hawaii has an alternative capital gains tax. Pennsylvania and Alabama only allow losses to be deducted in the year that they are incurred, while New Jersey does not allow losses to be deducted from ordinary income.

The remaining states that tax income generally follow the federal treatment of capital gains, except for various state-specific exclusions and deductions.

Most states tax capital gains at the same rate as ordinary income, while the federal government provides a preferential rate.

HOW DO STATES TAX INCOME EARNED IN OTHER JURISDICTIONS?

A state income tax is generally imposed by the state in which the income is earned and not the state where the earner lives. Some states, however, have entered into reciprocity agreements with other states that allow outside income to be taxed in the state of residence. For example, Maryland’s reciprocity agreement with the District of Columbia allows Maryland to tax income earned in the District by a Maryland resident. As of 2010, 15 states and the District of Columbia had adopted reciprocity agreements with specific states. Typically, these are states with major employers close to the border and large commuter flows in both directions.

Further Reading

Auxier, Richard, and Frank Sammartino. 2018. “The Tax Debate Moves To The States: The Tax Cuts And Jobs Act Creates Many Questions for States That Link to Federal Income Tax Rules.” Washington, DC: Urban-Brookings Tax Policy Center.

Francis, Norton, and Frank Sammartino. 2015. “Governing with Tight Budgets.” Washington DC: Urban Institute.

Gordon, Tracy, Richard Auxier, and John Iselin. 2016. “Assessing Fiscal Capacities of States: A Representative Revenue System–Representative Expenditure System Approach, Fiscal Year 2012.” Washington DC: Urban Institute.

Olin, Rick, and Sandy Swain. 2017. “Individual Income Tax Provisions in the States.” Informational Paper 4. Madison: Wisconsin Legislative Fiscal Bureau.

Urban Institute. State Tax and Economic Review. State and Local Finance Initiative. Washington DC: Urban Institute

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(Video) A Brief Introduction to State and Local Taxes and Expenditures

FAQs

How are local and state taxes calculated? ›

Sales Tax Formulas/Calculations:

State Tax Amount = Price x (State Tax Percentage / 100) Use Tax Amount = Price x (Use Tax Percentage / 100) Local Tax Amount = Price x (Local Tax Percentage / 100) Total = Price + State Tax Amount + Use Tax Amount + Local Tax Amount.

How do federal state and local taxes work? ›

Federal income taxes are collected by the federal government, while state income taxes are collected by the individual state(s) where a taxpayer lives and earns income. (It can get complicated if you live in one state and work in another, which has happened more frequently during the pandemic.)

Is local income tax the same as state income tax? ›

Local income tax is a type of tax some local governments impose on people who live or work in a specific area. The local income tax is in addition to federal income and state income taxes. Only localities in states with state income tax impose a local income tax.

Do you combine state and local taxes? ›

Do I add state and local taxes together when claiming itemized deductions? Regarding claiming itemized deductions on your tax return, yes, you combine state and local taxes. You can claim either state and local income taxes, or state and local sales taxes.

Is income tax based on where you live or work? ›

If you earn income in one state while living in another, you should expect to file a tax return for the state where you are living (your “resident” state). You may also be required to file a state tax return where your employer is located or any state where you have a source of income.

Is local income tax based on where you live? ›

The amount of state and local income tax you pay will depend on how much income you earn and the tax rate of the state or locality where you live. To find out how much you owe and how to pay it, find personal income tax information by state.

How do you calculate local income tax? ›

5. Compute local income tax based on guidelines
  1. Flat rate (percentage): Multiply the flat rate by the employee's taxable wages.
  2. Dollar amount: Subtract the dollar amount from the employee's taxable income.
  3. Progressive rate: Use tax withholding tables to determine employee's local withholding.
29 Jul 2020

What comes first your state or federal taxes? ›

If you're filing your federal and state returns using an online program, you'll need to file your federal return first. If your federal e-file is pending, you should wait until the IRS accepts your federal return before you e-file your state return.

Why do I owe state taxes but not federal? ›

The tax bracket you land in at the state level can differ from your federal tax bracket, which is one reason you might owe state taxes but not federal. Again, whether you owe state taxes or get a refund can depend on how much you paid in tax throughout the year.

What are examples of state and local taxes? ›

An Overview of State and Local Taxes
  • Individual income taxes.
  • Corporate income taxes.
  • Property taxes.
  • Motor vehicle license taxes.
  • Sales tax.
  • And more.
20 Jan 2022

What are most state and local income taxes? ›

The top 10 highest income tax states (or legal jurisdictions) for 2021 are:
  • California 13.3%
  • Hawaii 11%
  • New Jersey 10.75%
  • Oregon 9.9%
  • Minnesota 9.85%
  • District of Columbia 8.95%
  • New York 8.82%
  • Vermont 8.75%

What are local and state taxes? ›

A local tax is an assessment by a state, county, or municipality to fund public services ranging from education to garbage collection and sewer maintenance. Local taxes come in many forms, from property taxes and payroll taxes to sales taxes and licensing fees. They can vary widely from one jurisdiction to the next.

Why am I getting taxed for two states? ›

You may have to file more than one state income tax return if you have income from, or business interests in, other states. Here are some examples: You are an S corporation shareholder and the corporation does most of its business in a state other than the state where you live.

Where do you pay taxes if you live in two states? ›

If both states collect income taxes and don't have a reciprocity agreement, you'll have to pay taxes on your earnings in both states: First, file a nonresident return for the state where you work. You'll need information from this return to properly file your return in your home state.

Do you pay more taxes if you work in a different state? ›

No. After you fill out a state tax return for the state where you work, you'll file a second tax return for the state where you reside. On this return, you'll report how much your tax liability was on the first state tax return.

Can you be a resident of two states? ›

Legally, you can have multiple residences in multiple states, but only one domicile. You must be physically in the same state as your domicile most of the year, and able to prove the domicile is your principal residence, “true home” or “place you return to.”

How does the IRS define where you live? ›

The IRS defines your tax home as the "entire city or general area" of your workplace. If you work in Pittsburgh, for example, then your tax home is the entire Pittsburgh metro area. The tax home designation typically doesn't have anything to do with where you actually live—the place where you lay your head at night.

How do local taxes work if you move? ›

You are required to pay local earned income tax on the income earned for the period of time you resided in the municipality. For example, if you lived and worked in the municipality for only 4 months then you only pay on the income earned during those 4 months.

What are examples of local taxes? ›

List of Local Taxes
  • Stamp Tax.
  • Vehicle License Tax.
  • Land Value Tax.
  • Agricultural Land Tax.
  • Land Value Increment Tax.
  • House Tax.
  • Deed Tax.
  • Amusement Tax.

What is single local tax rate? ›

The single local use tax rate is an alternative local tax rate that remote sellers can use instead of collecting and remitting the total local tax in effect at the destination address.

Why do you get state taxes before federal? ›

It doesn't mean that anything is wrong, each state processes their state tax returns separately from the IRS, and the fact that you received your state refund first, just means that your state was able to process your state return and process your refund a bit more quickly than the IRS has processed your federal return ...

Do I have to file state and federal taxes at the same time? ›

Filing state income taxes requires a separate return

If your state requires that you file state income taxes, you'll have to do it separately from your federal income tax return. That's because the federal government and your state's government are separate, and you file and pay income taxes to each separately.

How long after state taxes does federal Come? ›

Federal has always come first and the state return usually a week or two after. Did something go wrong? The timing of a federal tax return refund and one from your state can vary. The state refunds are sometimes processed quicker than the IRS depending on the individual state timing.

Is it better to withhold state or federal taxes? ›

There's very little difference between state and federal withholding taxes. The chief distinction is that state withholding is based on state-level taxable income, while federal withholding is based on federal taxable dollars.

How can I avoid owing federal taxes? ›

Having enough tax withheld or making quarterly estimated tax payments during the year can help you avoid problems at tax time. Taxes are pay-as-you-go. This means that you need to pay most of your tax during the year, as you receive income, rather than paying at the end of the year.

How do you end up owing taxes? ›

Here are seven reasons why you might owe taxes.
  1. Change in Employment Status. ...
  2. Child Tax Credit. ...
  3. Self-Employment Income. ...
  4. Capital Gains Taxes. ...
  5. Increased Income. ...
  6. Life Changes. ...
  7. Lower/Fewer Tax Deductions.
2 Nov 2022

What happens if I don't file local taxes? ›

(As with late-filing penalties, you will have to pay additional interest and penalties on unpaid state and local taxes, the rates of which are set by your state.) If you continue avoid paying your tax bill, the unpaid amount could come out of future tax refunds if you're owed any.

What is the most heavily taxed state? ›

2021 Individual State Income Tax Rates
  • California: up to 13.3%
  • Hawaii: up to 11%
  • New York: 10.9%
  • New Jersey: 10.75%
  • Washington D.C.: 10.75%
3 days ago

What is the best state for overall taxes? ›

Which Are the Tax-Free States? As of 2022, Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming are the only states that do not levy a state income tax. Note that Washington does levy a state capital gains tax on certain high earners.

What is the biggest source of state tax? ›

Corporate income taxes only generated 3.3 percent of state and local tax revenue in fiscal year 2020. They are also among the more volatile sources of revenue for states. Individual income taxes are the largest source of state tax revenue, though nine states forgo the taxation of wage income.

Are local taxes part of state taxes? ›

These taxes are separate from the state income tax. Earnings and payroll taxes are typically calculated as a percentage of wages, withheld by the employer (though paid by the employee) and paid by individuals who work in the taxing locality, even if the person lives in another city or state without the tax.

How are local property tax amount determined? ›

Property taxes are calculated by taking the mill levy and multiplying it by the assessed value of the owner's property. The assessed value estimates the reasonable market value for your home. It is based upon prevailing local real estate market conditions.

How is local property tax calculated? ›

LPT is a self-assessed tax based on your own valuation of your property. Your LPT charge is based on your valuation of your property as at 1 November 2021. Your valuation of your property on this date determines your LPT charge for the years 2022 to 2025.

What is the formula to calculate tax? ›

We will calculate the tax rate using the below formula: Tax rate = (Tax amount/Price before tax) × 100% = 5/20 × 100% = 25%. Therefore, Tax rate is 25% on the T-shirt.

What state has the highest property tax? ›

These States Have the Highest Property Tax Rates
  • New Jersey: 9.96%
  • New York: 7.86%
  • Connecticut: 7.47%
  • New Hampshire: 7.44%
  • Vermont: 6.92%
  • Illinois: 6.62%
  • Rhode Island: 6.18%
  • Massachusetts: 5.73%
19 Oct 2022

How can I lower my local property taxes? ›

Tips for Reducing Your Property Tax
  1. Start with Your Tax Assessment. ...
  2. Get Involved with the Assessment. ...
  3. Hire an Independent Assessor. ...
  4. Research the Assessed Value of Similar Homes in Your Area. ...
  5. File a Tax Appeal to Change the Value of Your Home. ...
  6. Avoid Value-Increasing Improvements to Your Home.
24 Mar 2022

What state has the lowest property tax? ›

1. Hawaii. Hawaii has the lowest property taxes in the country.

Who pays local property tax? ›

Introduction. An annual Local Property Tax (LPT) is charged on residential properties in Ireland. You are liable for LPT in 2023 if you own a residential property on 1 November 2022.

How much are local taxes usually? ›

Jurisdictions typically charge a single tax rate that often falls between 0.5% to 3%.

What is local personal property tax? ›

A personal property tax is a tax levied by state or local governments on certain types of assets owned by their residents. Generally, personal property means assets other than land or permanent structures, such as houses, which are considered real property.

What is the maximum deduction for state and local taxes? ›

State and local taxes you pay are deductible if you itemize on your federal income tax return. But the Tax Cuts and Jobs Act of 2017 capped the state and local tax (SALT) deduction at $10,000 for tax years 2018 through 2025.

How do local and state taxes differ from federal taxes? ›

Usually, state income tax laws are more simplified compared to the federal tax code, with fewer tax brackets and generally lower tax rates. Tax brackets vary by each state and certain states even have tax laws that routinely adjust tax brackets and rates based on inflation.

What are the steps to calculate income tax? ›

  1. Step 1: Calculating Taxable HRA. The first step is to identify the HRA chargeable to tax. ...
  2. Step 2: Calculating Taxable Income from Salary. ...
  3. Step 3: Calculating Total Deductions. ...
  4. Step 4: Calculating Gross Income that is Taxable. ...
  5. Step 5: Calculating Income Tax Liability.
9 Jun 2020

How income tax is calculated with example? ›

As his taxable income is Rs. 3,77,500, he falls in the slab of 2.5 lakhs – 5 lakhs of income tax. Thus he has to pay 10% of his net income as income tax.
...
Example.
Basic Salary25000 * 12= 3,00,000
DA4500 * 12= 54,000
EA2250 * 12= 27,000
Gross Salary= 3,81,000
Professional Tax3500
1 more row
3 Aug 2022

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