Is North Carolina a Pension-Friendly State?

A state’s tax policies significantly influence the financial well-being of its retired residents. Evaluating whether a state is “pension-friendly” often centers on how it taxes various forms of retirement income, including pensions, Social Security benefits, and distributions from retirement accounts. Beyond income taxes, other levies such as property and sales taxes also shape a retiree’s overall financial landscape. Understanding these aspects provides a comprehensive view of the tax environment for those considering a move or already residing in a particular state. This analysis explores North Carolina’s tax structure to illuminate its impact on retirement income and expenses.

Taxation of Pension Income in North Carolina

North Carolina applies a flat income tax rate to most forms of income, including private pension income. For the 2024 tax year, this rate was 4.5%, and it is scheduled to gradually decrease to 3.99% by 2027. Distributions from private employer-sponsored pension plans are subject to this statewide income tax. North Carolina maintains a substantial standard deduction but does not offer specific deductions or exemptions for general retirement income.

Certain public pensions receive specific tax treatment under the “Bailey Exemption.” This exemption applies to retirement benefits from federal government plans and designated North Carolina state and local government retirement plans. To qualify, retirees typically needed at least five years of creditable service as of August 12, 1989. This allows eligible individuals to subtract qualifying government pension income from their taxable income. This exclusion does not extend to public pensions from other states.

Military pensions also have a distinct tax status in North Carolina. Effective for tax years beginning on or after January 1, 2021, military retirees who meet specific criteria can fully exempt their military pensions from state income tax. This exemption applies to those who served at least 20 years in the U.S. Armed Forces or were medically retired under 10 U.S.C. Chapter 61, and it extends to veteran survivors.

Taxation of Other Retirement Income

Social Security benefits receive favorable tax treatment in North Carolina. The state fully exempts all Social Security retirement benefits from its state income tax. This exclusion also extends to Railroad Retirement benefits. Retirees receiving these benefits do not owe state income tax on them.

Distributions from defined contribution retirement plans, such as traditional IRAs and 401(k)s, are subject to North Carolina’s flat state income tax rate. This also applies to withdrawals from 403(b)s and similar plans. North Carolina does not provide specific exemptions or deductions for these types of retirement account withdrawals, treating them as regular income.

Investment income, including interest, dividends, and capital gains, is taxed at the state’s flat income tax rate. Capital gains are treated as regular income for state tax purposes. Earnings from investments held outside of tax-advantaged retirement accounts contribute to a retiree’s taxable income.

Other Tax Considerations for Retirees

Property taxes in North Carolina are assessed at the local level, with rates varying by county and municipality. The statewide effective property tax rate on owner-occupied housing value is approximately 0.63%. A retiree’s property tax liability will depend on their specific location within the state.

North Carolina offers several property tax relief programs for seniors. The Homestead Property Exclusion is available for residents aged 65 or older or those who are totally and permanently disabled. For 2024, the income eligibility limit was $37,900, allowing an exclusion of either $25,000 or 50% of the appraised value of the residence, whichever is greater.

The Circuit Breaker Tax Deferment enables qualifying individuals to defer a portion of their property taxes. Eligibility for the Circuit Breaker program requires individuals to be at least 65 years old, have owned and occupied their residence for at least five years, and meet specific income thresholds, which for 2024 was $55,050. Any deferred taxes remain a lien on the property. A Disabled Veteran Homestead Exclusion is also available, exempting the first $45,000 of assessed value for qualifying disabled veterans.

The state sales tax rate in North Carolina is 4.75%. Local sales taxes can be added on top of the state rate, ranging up to 2.75%, resulting in a combined sales tax rate between 4.75% and 7.5% depending on the specific location. North Carolina operates as a destination-based sales tax state, meaning the sales tax rate applied is based on the buyer’s location.

Certain goods and services are exempt from sales tax or taxed at a reduced rate. Prescription drugs are fully exempt from sales tax. Most groceries are subject to a reduced sales tax rate of 2%, though certain items like candy and soft drinks are taxed at the full rate. Unprepared food items are exempt from the statewide sales tax, though local taxes may still apply.

North Carolina also levies excise taxes on specific goods, such as gasoline at 40.65 cents per gallon and cigarettes at $0.45 per pack. The state does not impose estate or inheritance taxes.