Do Alaskans Need Tax Planning?
Alaska is one of only nine states that has no state income tax. As a State of Alaska employee, you may be thinking, “Tax planning? Is that even something that should be on my radar?”
Yes! Yes, it should be.
Many of the public employees that I work with weren’t even aware of the many tax planning opportunities available to them. After all, as a state worker, you may not feel like your finances are overly creative or complex. You aren’t even paying state income tax, so your tax burden is low already.
I’m here to tell you that as a State of Alaska employee, there are tax planning opportunities out there. You just need to know what they are and how to take advantage of them. Here is what you need to know.
What is Tax Planning?
First, what is tax planning anyway? Tax planning is defining the steps you can take to legally minizine the amount of taxes you pay to the IRS. After all, most people don’t want to pay the government more than what is legally required. Tax planning gives you the chance to find legal ways to reduce your tax liability, plain and simple.
3 General Tax Planning Best Practices that Still Apply to Alaska
There are some tax planning moves that are considered best practices regardless of employer or income level. As a resident of Alaska, you may not pay a state income tax, but you do pay a Federal income tax, so these methods still apply.
1. Maxing Out Your Retirement Contributions
For State of Alaska employees participating in PERS or TRS, the maximum contribution amount in 2022 is $20,500. You can contribute up to an additional $6,500 if you are over the age of 50. Therefore, when you contribute to these accounts, you lower your taxable income thereby reducing your federal taxes in the current year.
2. Consider a Roth Conversion NOW
As a participant in PERS and TRS, your state retirement income is not taxable if you retire in Alaska (or Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming). If you retire anywhere else, your retirement benefits will be taxed in some way. Therefore, if you are planning to retire in a state that taxes retirement benefits, this is something worth discussing with your financial advisor now.
3. Use a Health Savings Account
Health Savings Accounts are a way for people to save and pay for qualified medical expenses – now and in the future – with tax-free dollars. The money that goes into these accounts is not taxed. The growth is not taxed. And any money used on qualified medical expenses is not taxed. Once you turn 65, you can use your HSA dollars for anything without penalty or tax, so it can become another source of retirement income.
If you are a State of Alaska employee, you won’t be eligible for a Health Savings Account as they are not offered under your plan. However, many other public employees who use PERS TRS are eligible, including the University of Alaska system, Fairbanks and Anchorage school districts, and the Municipality of Anchorage, to name a few.
Tax Planning Focus for Alaska Employees
There are special tax planning considerations for Alaska employees.
1. As a public employee of Alaska or a resident of Alaska, your tax planning opportunity is mostly concentrated for retirement if you plan to retire in a state that may tax your retirement benefits.
If this is you, a good tax planning step is to diversify your retirement savings now so you have some of your retirement savings in tax-deferred retirement accounts and tax-free. In other words, consider opening and funding a Roth IRA so that some of your retirement income won’t be taxed when you start to take distributions if you plan to retire in a state that taxes retirement income. You can read more about the full list of states that don’t tax retirement income here.
2. The other area that Alaskans who participate in PERS and TRS need to be aware of is that PERS nonoccupational disability benefits and TRS disability benefits are taxable as income upon receipt. In addition, since the PERS and TRS definitions of disability differ from that of the Internal Revenue Service, the benefit is subject to the 10% IRS penalty for early distribution.
3. If you leave your Alaska employment and are a member of a defined benefit or the pension program, you may ask for a refund of your employee contribution. Some people relocate or stop employment before they reach retirement age in Alaska. So, if you request a refund just know that you will no longer have benefits when you reach retirement age. This includes pension benefits and medical coverage. From what I have seen with the clients I work with, it rarely makes sense to take a refund of your employee contribution.
The Alaska Department of Administration explicitly details how your refund payment is handled from a tax standpoint by the IRS. This is what they detail directly from their website:
Tax Planning for State of Alaska Employees
I think the most important step Alaska public employees can take is to consider their tax situation in retirement. For many of us, life is fluid and ever-changing. Just because you live in a state that has no income tax doesn’t mean that tax planning for retirement isn’t necessary. More than anything, having a clear understanding of what your tax liability may be in retirement and making minor adjustments now has the potential to increase your freedom of choice later.
As you near retirement, don’t hesitate to reach out to your tax advisor and financial advisor to help you make financial decisions that align with your vision for your future.