State Income Tax vs. Federal Income Tax: An Overview
The United States has a multitiered income tax system in place, with taxes levied by the federal, state, and occasionally municipal governments. Both the federal and state income taxes apply a percentage rate on taxable income. However, they vary significantly in terms of those rates and how they are applied—as well as the sort of income that is taxed and the deductions and tax credits that are available.
- Income taxes are levied by the federal government and the majority of states.
- Individual states and the federal system have different regulations and rates.
- The federal income tax is progressive, with higher tax rates applied to higher income levels.
- Some states have progressive taxation, while others have a flat tax rate on all income.
- The Tax Cuts and Jobs Act of 2018 altered the federal tax structure, notably raising the standard deduction.
State Income Tax
State income taxes might vary greatly from one state to the next. The majority of states either have a flat or progressive income tax system. A flat tax system (also known as a single-rate structure) has a single tax rate applied to all income levels. Colorado (4.55%), Illinois (4.95%), Indiana (3.23%), Kentucky (5%), Massachusetts (5%), Michigan (4.25%), North Carolina (5.25%), Pennsylvania (3.07%), and Utah (4.95%) all employ this system.
Greater income levels are taxed at a higher percentage rate in states that implement progressive tax systems. This system is utilized in the federal income tax system. Some jurisdictions base their marginal tax rates on the federal tax code for this reason, while many states create their own. Some, like the federal government, alter their brackets yearly to keep up with inflation, while others do not.
Here are the highest individual income tax rates in each state for 2021:
Source: Tax Foundation
Hawaii has twelve tax brackets, while Kansas and six other states only have three. California has the highest top tax rate of 13.3%, which applies to persons with taxable earnings above $1 million and married couples with incomes exceeding $1,198,024. North Dakota has the lowest top marginal tax rate, at 2.9% for people and married couples earning more than $440,600.
Some states have no or minimal income tax. Residents in Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming do not pay income taxes. New Hampshire exclusively taxes interest and dividend income, not earned income such as salary and wages. The state is progressively repealing this, with the goal of completely repealing it by January 2026. Tennessee used to tax interest and dividends, however that is no longer the case as of January 1, 2021.
Income taxes are a major source of income for both states and the federal government, accounting for approximately half of total federal revenue.
Federal Income Tax
With the adoption of the Tax Cuts and Jobs Act in 2018, the United States’ Internal Revenue Code (IRC), which governs federal income taxes, received substantial modifications (TCJA).At the federal level, there are presently seven marginal tax brackets: 10%, 12%, 22%, 24%, 32%, 35%, and 37%.
For the 2021 tax year, the highest rate of 37% applies to taxable income of $523,600 for individuals and $628,300 for married couples filing jointly. For the 2022 tax year, the maximum rate of 37% applies to individuals earning $539,900 and married couples earning $647,850.
Here’s a breakdown of the tax brackets and rates for 2021:
|2021 Federal Tax Brackets and Rates|
|2021 Tax Rate||Single||Married Filing Jointly||Heads of Households|
|10%||Upto $9,950||Upto $19,900||Upto $14,200|
|12%||$9,951 to $40,525||$19,901 to $81,050||$14,201 to $54,200|
|22%||$40,526 to $86,375||$81,051 to $172,750||$54,201 to $86,350|
|24%||$86,376 to $164,925||$172,751 to $329,850||$86,351 to $164,900|
|32%||$164,926 to $209,425||$329,851 to $418,850||$164,901 to $209,400|
|35%||$209,426 to $523,600||$418,851 to $628,300||$209,401 to $523,600|
|37%||$523,601 or more||$628,301 or more||$523,601 or more|
And here are the tax brackets and rates for 2022:
|2022 Federal Tax Brackets and Rates|
|2022 Tax Rate||Single||Married Filing Jointly||Heads of Households|
|10%||$0 to $10,275||$0 to $20,550||$0 to $14,650|
|12%||$10,275 to $41,775||$20,550 to $83,550||$14,650 to $55,900|
|22%||$41,775 to $89,075||$83,550 to $178,150||$55,900 to $89,050|
|24%||$89,075 to $170,050||$178,150 to $340,100||$89,050 to $170,050|
|32%||$170,050 to $215,950||$340,100 to $431,900||$170,050 to $215,950|
|35%||$215,950 to $539,900||$431,900 to $647,850||$215,950 to $539,900|
|37%||$539,900 or more||$647,850 or more||$539,900 or more|
Under the federal tax system, taxpayers may take either a basic deduction or itemize their deductions. Under the TCJA, standard deductions rose significantly in 2018, making it more beneficial for many taxpayers to take the standard deduction.
Here are the standard deductions for the tax years 2021 and 2022:
|Standard Deduction Amounts for 2021 and 2022|
|Filing Status||2021 Standard Deduction||2022 Standard Deduction|
|Married Filing Separately||$12,550||$12,950|
|Heads of Household||$18,800||$19,400|
|Married Filing Jointly||$25,100||$25,900|
As previously stated, states and the federal government vary in terms of the categories of income taxed as well as the deductions and credits available. Pension and Social Security income, for example, are taxable under federal laws, although certain states exclude these types of income from taxes. Earnings from US Treasury assets, such as savings bonds, are also free from income tax. These sources of income are not subject to state taxation but are subject to federal taxation.
State Income Tax vs. Federal Income Tax Example
Consider a single taxpayer who resides in New Hampshire and reports taxable earned income of $75,000 a year plus interest income of $3,000 on their federal tax return.
We’ll start with the state income taxes. New Hampshire has a $2,400 tax exemption for the interest and dividends tax, so tax is due only on the remaining $600 ($3,000 − $2,400) of interest and dividends income.
This means the taxpayer would pay just $30 ($600 × 0.05) in state taxes because New Hampshire taxes interest and dividend income only—at the rate of 5%. The taxpayer’s effective state tax rate on their total income of $78,000 (tax obligation, $30, divided by taxable income, $78,000) would be 0.038%.
If this same person lived in Utah, all of their taxable income—both earned and unearned—would be subject to that state’s 4.95% flat tax rate. In that case, their state tax bill would be $3,861 ($78,000 × 0.0495).
In terms of federal taxes, under the progressive system, this taxpayer would pay $995 on the first $9,950 of their income (excluding interest) that falls into the 10% tax bracket. They would pay 12% on their income from $9,950 to $40,526 ($3,669.12), and 22% on the amount greater than $40,526 ($7,584.28) for a total federal tax bill of $12,248.40. Their effective federal tax rate would be 16.3%.
What Is the Difference Between Federal and State Income Taxes?
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.) There are seven federal tax brackets, ranging from 10% to 37%, depending on your income and filing status. At the state level, some states use a flat-rate tax, while others impose a progressive system or have no state income tax at all.
Do Federal Income Taxes Differ by State?
Federal income tax rates are based on your income and filing status—not by where you live. Therefore, the same federal tax rates apply to everyone, no matter which state they live in. However, state taxes vary, so a taxpayer’s total tax liability will differ depending on where they live and earn income.
Which States Have No State Income Tax?
Seven states—Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming—have no state income taxes. New Hampshire doesn’t tax earned wages, but it does tax interest and dividend income. However, New Hampshire will begin phasing out these taxes at the end of 2023, and by 2027, personal income in the state will be tax-free.
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