Iowa weighs proposal to shield retirement income from state taxes

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Iowa Republicans on Monday unveiled a proposal to exempt pensions and other retirement income from state taxes, a move intended to keep retired Iowans in the state.

The bill, sponsored by Rep. Gary Mohr, chairman of the Iowa House Appropriations Committee, would cost the state about $2 billion in revenue over the first six years by exempting income from a 401(k) plan, IRA or pension from taxation, according to The Associated Press. The measure has the support of 55 of the 60 Republicans in the Iowa House of Representatives.

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"There’s a lot of people in Iowa who move out of Iowa once they retire, particularly where I live, and frankly I’d like to stop that outmigration as quickly as possible," Mohr told reporters on Monday.

He noted that two of the top destinations for Iowa retirees – Illinois and Florida, according to the Iowa Public Employees Retirement System – do not have a state income tax. 

Sweeping views of the downtown area and the Des Moines River Valley can be enjoyed from the top of the capitol steps. (Jordan McAlister/contributor/Getty Images / Getty Images)

"They not only take their investments with them, they take their expenditure with them," Mohr said, adding that "once they're gone six months in a year, they’re not as active in Iowa as they used to be. And they lose interest in the state. That’s a non-economic loss. But I think it’s a huge loss in the state of Iowa."

Although Illinois does not tax pensions, it does have a relatively high tax burden: According to the nonpartisan Tax Foundation, Illinois has the tenth-highest tax burden in the country with a rate of 10.8%. By comparison, Iowa has an overall tax burden of 10.8%, placing it at 13th, while Florida is ranked 43rd with an overall rate of just 8.8%.

Other popular destinations for Iowa retirees include Missouri and Nebraska, Mohr said, although it's unclear whether taxes play a role in that. 

In all, there are 12 states that do not tax retirement income: Washington, Alaska, Nevada, Wyoming, South Dakota, Texas, Mississippi, Florida, Tennessee, Illinois, Pennsylvania and New Hampshire, according to AARP. Of those, nine don't tax any individual income. There are two other states – Alabama and Hawaii – that do not tax pensions, but do impose a levy on distributions from 401(k) plans and IRAs.

Social Security cards with cash and benefit amount numbers (iStock)

Iowa taxes most types of retirement income, including Social Security. It is also one of the few states with an inheritance tax.

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Iowa Gov. Kim Reynolds, a Republican, has introduced a similar proposal to shield retirement income from state taxes, but it would not go into effect until 2023. Mohr's bill would begin this year. She has also called for a 4% flat tax that Iowa would phase in over four years. The plan will reduce state revenues by about $500 million in 2023 and by nearly $1.6 billion in 2026, according to estimates from Reynolds' office.

Democratic lawmakers have expressed concern the package could disproportionately benefit wealthy Iowans while leaving lower-income families worse off. 

"It’s going to be a tax increase for a lot of Iowans," Senate Minority Leader Zach Wahls said in January. "If you work part time and you’re not currently paying the 4% rate, for a lot of folks it’s actually going to be an increase."

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