State Income Tax Definition

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State Income Tax Definition

What Is State Income Tax?

A state income tax is a direct tax imposed by a state on income produced inside or outside of the jurisdiction. It may imply all of your money generated wherever in your state of residence. State income tax, like federal tax, is self-assessed, which means taxpayers must submit needed state tax returns.

Key Takeaways

  • State income taxes are imposed in 42 states and Washington, D.C., while New Hampshire solely levies interest and dividend income and is phasing out that kind of taxation.
  • State tax rules, rates, methods, and forms differ widely from one another.
  • You must submit a state tax return for each tax-levying state where you generate money, however only the state where you reside has the authority to tax all of your earnings.

Understanding State Income Tax

State tax rules, rates, methods, and forms differ greatly. Filing dates vary as well, although for individuals, state tax day normally coincides with federal tax day, which is usually April 15.

Taxpayers must submit tax returns in each state and each year that their income exceeds the filing threshold. Many states follow federal income and deduction recognition requirements. Some states may even mandate that a copy of the taxpayer’s federal income tax return be submitted together with the state income tax return.

Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming will have no income tax as of 2022. New Hampshire, which does not tax earned wages, will be added to the list in 2027 when it completes the phase-out of taxes on unearned income such as interest and dividends.

Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming have no state income taxes, but New Hampshire does not.

Every other state, as well as Washington, D.C., has a state income tax. If you reside in a state that charges an income tax, you cannot escape it by working in a state that does not. Even if you earned the money in a place where there is no income tax, your home state will continue to tax it.

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States, like the Internal Revenue Service (IRS), require taxpayers with non-withholding income, such as company or self-employment income, to estimate and pay their yearly tax burden in four quarterly payments.

Taxpayers who fail to file and pay state income taxes on time and in full will face fines and interest. Many taxpayers are relieved to learn that states are prohibited from altering their state income taxes after the appropriate statute of limitations has elapsed.

Special Considerations

State income tax is not always clear and simple to grasp, especially for those receiving income in many jurisdictions.

Working and living in different states

The vast majority of taxpayers live and work in a single state and file a resident state income tax return in that state. Taxpayers who earn salaries or income in one or more states other than their home state may be obliged to submit state income tax returns in other states as well, unless the state is a no-income-tax state.

So, if you live in Jersey City, N.J., and work on Broadway in New York City, TV or movies in Los Angeles, and a regional theater role in Chicago, you must pay taxes in all four states: New Jersey, New York, California, and Illinois.

Your tax home is the approximate vicinity of your principal place of business. If you spend the most of your time working on Broadway, your tax home is New York. According to the IRS, you must consider the amount of time you spend in the location, the level of commercial activity happening in the site, and the relative importance of the financial return from each location when determining your principal place of business. The most crucial component, though, is the amount of time you spend in each area.

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Returns submitted in a state where you do not have a residence will be classified as nonresident or part-year resident. Some states, generally bordering ones, have engaged into reciprocal agreements not to tax each other’s revenue. If no agreement is in place and your income will be taxed more than once, credits or deductions may be available when you submit your state income tax return. When you work from home, the restrictions might get much more complicated. In such instances, it is best to consult with a tax professional before submitting your taxes.

In an unusual case, the state of New Hampshire sued the state of Massachusetts in October 2020 in reaction to a Massachusetts statute established earlier that year. Massachusetts passed an emergency statute that allows the state to tax workers who formerly traveled to Massachusetts but now work remotely due to workplace closures during the COVID-19 issue. Employees from New Hampshire were particularly affected since the state of New Hampshire does not tax earnings, but Massachusetts has a 5% state income tax. The United States Supreme Court dismissed New Hampshire’s appeal to the new Massachusetts legislation in June 2021.

Depending on the residence regulations of the home state, expats may still be required to file with the state.

State income taxes on businesses

Corporations, partnerships, and some trusts and estates are subject to income taxes in several states. To entice firms to establish in these areas, these governments usually provide cheaper corporate rates and unique exemptions. States cannot levy an income tax on a domestic or foreign firm unless there is a strong link, known as a nexus.

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The requirements for a nexus vary by state, but often include producing revenue in the state, owning or renting property in the state, employing people there, or possessing capital assets or property there. Even yet, the income taxes levied are proportionate and nondiscriminatory, and other constitutional requirements must be followed.

Which States Don’t Have Income Tax?

Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming are the only states that do not have a state income tax. New Hampshire, which presently taxes investment income and interest but not earned wages, will be added to this list in 2027 when it eliminates taxation on unearned income.

Which State Has the Highest Income Tax?

That is determined by the amount earned. Some states have a flat tax, while others have varied tax rates based on the amount of revenue earned. In California, the highest marginal income tax rate in 2021 is 13.30%. However, such rate is only applied to income above $1 million.

Can My Earnings Be Subject to Double Taxation?

States are no longer able to tax the same profits, according to a 2015 U.S. Supreme Court decision in Comptroller of the Treasury of Maryland v. Wynnein. You must still report everything and submit tax returns in each state where you made money.

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