By Russell W. Hall, CFP®

Is California tax friendly for retirees?  If you’ve lived in the Golden State for any period of time (as we at Eclectic and many of our clients do), you already know the answer - California is not really a tax friendly place for ANYONE, retired or not!

So with that obvious conclusion out of the way, how does California differ from other states, and what can you do about it?

First, California’s income tax rates – ranging from 1% to 13.3% - rank among the highest in the nation.  Because the rate is already up to 9.3% at around $116,000 of income (married filing jointly; $58,000 for single filers), many retirees with pension income and/or IRA distributions can end up in that bracket.  Compare that to several states that have no income tax at all (like Nevada, Texas or Florida) or those that have lower rates (like Arizona, Indiana or Pennsylvania).

However, one benefit for many California retirees versus other taxpayers is that Social Security benefits are not taxed by the state.  That’s not the case in some other states, notably several in the midwest (like Minnesota) and northeast (like Vermont).  But as we alluded to earlier, there’s no tax break for pension or other retirement income, even for those with California public employee or teacher’s pensions (CalPERS or CalSTRS). 

California’s high income taxes come with another “cost” for some residents after federal tax law changed regarding itemized deductions.  Previously, Californians could at least deduct state and local tax payments on their federal tax return.  But now that the deduction for those taxes is limited to a total of $10,000, many filers are unable to itemize and are taking the standard deduction instead.  In effect that cap can act as another tax increase for some retirees.

But income tax is just one piece of the California taxation puzzle.  Part of the high cost of living in the state comes from sales tax, with a base rate throughout California of 7.25%.  Local taxes and fees can bring the total to over 10%.  To no one’s surprise, that’s among the highest in the nation, and looks especially expensive compared to the few states that do not have sales tax (Oregon, Delaware).

Property taxes are another expense for retirees, although here California is not as bad as some other states.  This is largely due to Prop 13, passed back in 1978, which famously limits the annual rate at which residential property taxes can increase.  But overall property tax rates are also generally lower than some other high tax states like New York.

For those retirees who are inheriting from their parents or looking to leave an inheritance to their own children - finally some good news!  California does not have inheritance tax or an estate tax. 

We in California often take the lack of an inheritance tax for granted, but some states like Kentucky will levy an inheritance tax (even for non-residents who inherit property, although inheritances from close family is often excluded).  The same is true for estate tax, which some states charge in addition to any potential federal estate tax.  And where the federal estate tax exemptions are currently relatively high so that few estates will be charged, some states have a low exemption amount ($1 million in Oregon and Massachusetts, for example).  Heirs in California don’t have to worry about facing those costs.

All of that said, if you want to be as tax-efficient as possible, the answer is clear – move out of state!  That’s what thousands of retirees have done and continue to do each year.  Some will split time between states, living in a low tax state (Nevada is popular) for most of the year but coming back to California for a few months.

But many people do not want to leave California for one reason or another.  The weather in Southern California particularly is a draw, and the state has many attractions and great things to do.  For others, family is still here and they don’t want to leave them behind (especially grandchildren – we have had clients leave the state, only to return when the grandkids are born). 

So for our California retiree clients, tax planning is crucial.  At our Fullerton financial advisory firm, we don’t prepare tax returns but do have extensive knowledge of taxes and often assist our clients in this area.  Schedule a 15-minute discovery call with a fee-only financial advisor.