How do contributions to personal pension schemes affect income tax position?

Can I withdraw from a tax deferred retirement account and pay no state tax when I am retired in a state that has no income tax, but make contributions to the retirement account when earning in a state that does impose an income tax?

• I am making retirement plans and I was wondering about taxes. I live and earn in California. I am trying to choose whether to 401K or ROTH 401K. So, if I earn in California and contribute to a tax deferred retirement account and then when am 60, I move to say Texas (or someother state with no income tax) and start withdrawing from my tax deferred account, will the income I get from this account be subject to any state taxes (because it originally escaped state tax in California) ?

• Answer:

  Disclaimer:  I am not a tax professional Advice:  You should seek the opinion of one The following is provided for informational purposes and should not be construed as tax advice. The answer to your question is yes. Taxation, at the state level, is based upon where you live at the time the money is 'earned', not where your accounts are based (or what state you were living in at the time of the contributions).  The term 'earned' can be confusing, but I am referring to its meaning in the eyes of the IRS.  In the context of a 401K, it means the year of withdrawl (upon retirement).  In the context of a Roth 401K, it means when you make the contributions (right now). Here is an example I've taken from a website[1] (because I'm too lazy to type it out myself): You put $10,000 from your salary into your 401k plan in 2011. Your combined marginal federal and state income tax bracket is currently 35 percent. Your 401k accounts earn 5 percent per year. You'll retire in 10 years and withdraw the accumulated contribution that you made in 2011. At that time, your combined marginal income tax rate is still 35 percent. How much money will you have to spend in 10 years, after paying income taxes, under the traditional 401k vs. the Roth 401k? If you contribute to the traditional 401k: Since you aren't paying income taxes on the $10,000, you can invest the full amount. At 5 percent annual investment returns, your $10,000 will grow to $16,289 (if you're mathematically inclined, that's $10,000 times 1.05**10). You'll pay 35 percent of that amount in taxes ($5,701), leaving an after-tax amount of $10,588 to spend. If you contribute to the Roth 401k: You'll pay 35 percent income taxes today on $10,000 -- $3,500 - so that money is gone. You'll have $6,500 left to invest in a Roth 401k. Your $6,500 will grow to $10,588 (that's $6,500 times 1.05**10). Since Roth accounts aren't taxed upon withdrawal, you'll have all this money to spend. This example shows the following: If you're in the same marginal income tax bracket now and in retirement, there's no difference in the after-tax amount you have to spend in your retirement between a traditional and Roth 401k. If you're in a higher tax bracket in retirement compared to now, you'll have more money to spend in retirement if you contribute to a Roth 401k. If you're in a lower tax bracket in retirement compared to now, you'll have more money to spend in retirement if you contribute to a traditional 401k. While many people expect that income tax rates will increase, it's highly possible you'll still be in a lower tax bracket when you retire, even if income taxes are raised. In that case, a traditional 401k will still result in you paying lower income taxes and having more money to spend in retirement. (My next post on this subject will show you the reasons for this conclusion.) With the Roth 401K, the taxes were paid in the year you made the contributions.  They grow and can be withdrawn tax free upon your retirement, so (from a state income tax perspective) it makes no difference where you live (i.e. a taxable state or non taxable state, such as Texas). All other things being equal, you would be at an advantage retiring in Texas by going with a traditional 401K, as you have contributed pre-tax, rather than after-tax dollars, allowing your investments to (presumably) grow more quickly (see the example above).  When you do withdraw these funds, no state income tax will be applied to these withdrawls (i.e. your original contributions + accumulated growth). However, all things may not be equal.  What if you never wind up moving to Texas?  What if your income tax bracket is higher or lower than it is right now?  These issues and 'what if' scenarios should be discussed with your tax advisor to work out the plan which best suits your needs. I hope this wasn't too confusing. [1] Source: http://www.cbsnews.com/8301-505146_162-39942095/roth-401k-vs-traditional-401k-which-is-best-for-you/