Significant changes are coming for Bay State taxpayers in 2023 with the implementation of the “millionaire’s tax” and the long-awaited deduction for charitable contributions.
The millionaire’s tax is a 4% surtax applying to all income over $1 million earned by Massachusetts residents. This supplemental tax comes on top of the regular state income tax owed. Proponents argue it will generate needed revenue for education and transportation initiatives, while critics counter it may prompt high earners to leave the state.
The surtax applies to combined income from all sources – wages, business income, capital gains, dividends, interest, pensions, etc. The $1 million threshold is based on total taxable income reported to Massachusetts. The threshold will adjust annually for inflation. The 4% surtax only applies to income exceeding $1 million. For example, an individual with $1.2 million of total taxable income would pay the extra tax on the $200,000 over the threshold, amounting to $8,000 of additional tax.
The charitable deduction allows taxpayers to deduct contributions made to qualified charities from their state taxes, even if they do not itemize deductions on their federal return. The deduction can only be used to offset income taxed at the 5% rate, primarily wages, business profits, and certain retirement income. It does not apply to investment income like dividends and interest, which are taxed separately.
Here is an example where charitable deductions can be used to mitigate the effects of the millionaire’s tax. Suppose a Massachusetts taxpayer has a total income of $1.35 million. This includes:
- $1.2 million in wages
- $50,000 in dividends and interest
- $100,000 in long-term capital gains
Their total income exceeds $1 million by $350,000 and is subject to a 4% surtax of $14,000 in incremental taxes. When combined with the regular state income tax, this taxpayer’s total tax bill would be $81,500. However, if the taxpayer makes a $200,000 charitable contribution, their total income is reduced to $1.15 million, which lowers the taxpayer’s total state income tax obligation from $81,500 to $63,500.
Proper documentation is required to take advantage of this Massachusetts-based charitable deduction, so be sure to keep receipts for all charitable gifts and work closely with your tax preparer and adviser to maximize the use of the deduction. Creative strategies allow blending the deduction with other tools like donor-advised funds. As Ben Franklin famously quipped, “Nothing is certain but death and taxes.” Perhaps in Massachusetts, we can now amend that to “death, taxes, and creative deductions!”