Tax Strategies for Massachusetts’ “Millionaires Tax”
This blog, originally published on May 4th, 2023, has been reissued to improve clarity.
Last November, Massachusetts voters approved a 4% increase to income taxes applied to household earnings over $1 million. That means a state tax rate of 9% will be levied in addition to the 37% federal tax rate that applies in 2023 to joint filers with taxable income more than $693,750. For these individuals, nearly half of the household income for these residents will go to income taxes. The combined tax rate will exceed 50% with respect to short-term capital gain income, which will be subject to a 16% tax rate. While this change will yield more state revenue to fund infrastructure and education, it will also have a significant impact on families and individuals who must comply with the higher tax rate.
AAFCPAs advises clients at these income levels to further explore more sophisticated strategies to mitigate tax exposure. If your taxable income is at the $1 million level, or if you anticipate a one-time transaction that would put you above this threshold, there are several approaches to consider as you weigh your options.
Could you live in a different state?
For those with flexibility as to where they reside full time, it may make sense to move to a jurisdiction with low tax rates to minimize taxation and maximize income. Topping the list may be Florida for its warmer climate and New Hampshire for its proximity to Massachusetts.
Income taxes in these states are much lower. In fact, Florida has no income tax. And while New Hampshire has a 5% dividends and interest tax, it is scheduled to disappear by the end of 2027. That creates considerable income savings opportunities for high-net-worth individuals.
It is important to note that changing one’s domicile involves more than simply spending more time outside Massachusetts than within. We recommend that you discuss these requirements with your AAFCPAs advisor if you are considering relocating to another jurisdiction.
Have you updated your estate planning documents?
An additional method of saving on state taxes involves creating trusts that would be domiciled–and therefore taxable–in other states. To establish the trust, you do not need to reside in the state but do need an independent trustee located within that jurisdiction. You must also be willing to give up a measure of control over the assets, as your appointee will make investment and distribution decisions on your behalf.
Do you own a business?
Entrepreneurs and business owners may benefit from moving their headquarters. Some have spent their entire careers building towards an exit, and the liquidity created by an exit might trigger additional taxes under the new law.
The rise of remote work opens opportunities to establish headquarters in more tax-friendly regions.
Even if you move your business out of Massachusetts, you could still be subject to Massachusetts income tax on income allocated to Massachusetts under existing apportionment rules. However, the level of gain from the sale of your business subject to Massachusetts income tax could be significantly reduced or eliminated entirely, depending on the nature of the business and the structure of the sales transaction.
Can you delay your taxes over time?
Other approaches to minimizing tax exposure include deferring income to a future year or spreading it across multiple entities and individuals. This keeps each income tax filing below $1 million while still staying well within the law.
For example, if your business earns $4 million annually, present law allows you to create four separate trusts that would each receive $1 million in earnings, thereby keeping each trust under the “Millionaires Tax” threshold.
If you are selling a property for $2 million, you could elect installment treatment on the gain to receive $500,000 per year for four years. Federal tax law is well established in this area, while Massachusetts tax treatment of such transactions has varied over the years as tax rates have shifted. Should Massachusetts adhere closer to the Federal approach, use of installment sales would be a viable approach to keeping income below the $1 million threshold.
How may we help?
Any of these techniques require planning well ahead of entering into a transaction. In the case of selling a business or large property, once a Letter of Intent or Offer to Purchase has been signed, it is likely too late to implement the planning strategies described above.
It is also important to review Federal tax rules in conjunction as part of any tax or overall financial planning program to ensure that tax minimization does not detract from your overall goals.
AAFCPAs’ wealth management team and consulting tax attorneys consider proactive strategies to protect our clients’ wealth. If you have questions about tax planning, please contact Joshua England, LLM, Esq., Partner and Tax Consulting Attorney, at 774.512.4109 or firstname.lastname@example.org.