What Is the Maryland State Tax on 401k Withdrawals?
Understand how Maryland treats 401(k) distributions as income. This guide explains the state and county tax rules and the key provisions available to retirees.
Maryland has specific regulations for taxing 401(k) withdrawals that are distinct from federal rules. These state-level tax laws directly impact the net amount of retirement funds you receive, making them an important component of financial planning for retirement.
Maryland’s General Taxation of Retirement Income
Maryland treats distributions from a 401(k) plan as ordinary income, which is subject to the state’s progressive income tax rates. These rates begin at 2% and climb to 5.75% for the highest earners, meaning a larger withdrawal can face a higher tax rate on a portion of the income.
In addition to state tax, Maryland’s 23 counties and Baltimore City levy local income taxes. These taxes are calculated as a percentage of your taxable income, with rates ranging from 2.25% to 3.20%. The combined state and local rates determine the total tax on your withdrawal.
The Maryland Pension Exclusion
Maryland offers the Pension Exclusion, which can reduce the state tax owed on retirement income. This exclusion is available to individuals who are age 65 or older, or who are totally and permanently disabled (or whose spouse is totally and permanently disabled).
For the 2024 tax year, the maximum amount that can be excluded from income is $39,500 per eligible taxpayer. If both spouses in a married couple meet the eligibility criteria, they can exclude up to $79,000 of their retirement income. The exclusion applies to income from an employee retirement system, such as a 401(k), 403(b), 457(b), or government pension. However, it does not apply to distributions from traditional or Roth IRAs.
The amount of the exclusion is reduced by any Social Security or Railroad Retirement benefits the taxpayer receives. For instance, if an eligible individual receives $20,000 in Social Security benefits, their maximum pension exclusion would be reduced by that amount, leaving a potential exclusion of $19,500 for other retirement income.
Calculating and Reporting on Your Tax Return
To claim the Maryland Pension Exclusion, you must file Form 502R, Retirement Income and Pension Exclusion, with your Maryland Resident Income Tax Return (Form 502). This form is used to calculate the specific amount of your retirement income that can be subtracted.
For example, consider a 68-year-old Maryland resident who withdraws $50,000 from their 401(k) and receives $15,000 in Social Security benefits. The maximum pension exclusion is $39,500. First, the maximum exclusion is reduced by the Social Security benefits ($39,500 – $15,000), resulting in a potential exclusion of $24,500. Since the 401(k) withdrawal is greater than this amount, the individual can subtract the full $24,500 from their income.
The calculated exclusion amount from Form 502R is then entered on Form 502, directly reducing the taxpayer’s Maryland adjusted gross income. This lower income figure is then used to calculate the final state and local tax liability.
Residency and Withholding Rules
Your residency status is important for how Maryland taxes your 401(k) withdrawals. Maryland residents are subject to state tax on all their income, including retirement distributions, and are eligible for the pension exclusion. Conversely, non-residents do not owe Maryland tax on their 401(k) withdrawals, even if the funds were accumulated while they were employed in Maryland.
Because the pension exclusion can alter your final tax liability, standard withholding from your 401(k) distribution may not be accurate. You can provide your plan administrator with Form MW507, Employee’s Maryland Withholding Exemption Certificate, to request a specific amount of state tax to be withheld. This allows for more precise withholding to help you avoid a large tax bill or refund.
If you choose not to have taxes withheld or if the amount is insufficient, you may be required to make quarterly estimated tax payments to the Comptroller of Maryland. These payments are due four times a year and are used to pay tax on income that is not subject to withholding. Failure to make these payments can result in penalties and interest charges.