What Is the Michigan Retirement Tax & How Does It Work?

Michigan’s approach to taxing retirement and pension income is a key consideration for retirees, as the rules depend on the taxpayer’s age and the income source. These regulations have undergone legislative changes in recent years, shifting from a tiered system established in 2011 to a new system phasing out the tax. Understanding your obligations requires a grasp of this tiered system and the subsequent modifications. For many, the amount of retirement income subject to tax involves knowing which category you fall into and what deductions you are eligible for under current law.

Determining Taxability Based on Birth Year

Michigan’s framework for taxing retirement income, established by Public Act 38 of 2011, created a three-tier system based on the taxpayer’s birth year. For joint filers, the birth year of the older spouse determines the tier. This system set different rules for deductions on pension and retirement benefits, creating distinct tax scenarios for different age groups before recent legislative changes began to phase it out.

Born Before 1946

Taxpayers born before 1946 fall into Tier 1, which allows for the most generous tax treatment of retirement income. These individuals can deduct all qualifying retirement benefits from federal and Michigan public sources. This includes income from public employment pensions. Additionally, they are entitled to a significant deduction for private retirement income, such as distributions from 401(k)s and IRAs.

Born Between 1946 and 1952

Retirees born between 1946 and 1952 are classified as Tier 2. Under the original rules, this group was eligible for a deduction of $20,000 for single filers and $40,000 for joint filers against all income types once they reached age 67. This deduction was not restricted to just retirement income and was reduced by any subtractions taken for military or railroad retirement benefits.

Born After 1952

Tier 3 includes all taxpayers born after 1952, who faced the most restrictive rules under the 2011 law. Initially, this group was not entitled to any deduction for retirement income before reaching age 67. Upon turning 67, they could choose between taking the same $20,000/$40,000 standard deduction available to Tier 2 or forgoing that to claim other personal exemptions.

The 2023 Retirement Tax Law Changes

Michigan enacted Public Act 4 of 2023, which introduced a gradual phase-out of the state’s tax on retirement and pension income. This law, known as the Lowering MI Costs Plan, amends the previous three-tier system and provides new options for taxpayers, particularly those in Tiers 2 and 3. The changes are being implemented over a four-year period, from the 2023 tax year through the 2026 tax year.

Beginning with the 2023 tax year, eligible taxpayers can choose between the rules of the old tier system or a new, expanding deduction. For the 2023 tax year, taxpayers born between 1946 and 1958 could elect to deduct up to 25% of the maximum deduction amount available to Tier 1 retirees.

The law continues to expand these benefits over the subsequent years. For the 2024 tax year, taxpayers born between 1946 and 1962 can elect to deduct up to 50% of the maximum Tier 1 deduction amount. For the 2025 tax year, the deduction rises to 75% of the maximum Tier 1 amount for taxpayers born between 1946 and 1966.

By the 2026 tax year, the phase-out will be complete. At that point, all taxpayers, regardless of their birth year, will be able to claim the same maximum deduction on their retirement and pension benefits. The law also includes a specific provision for public safety retirees, who, starting in the 2023 tax year, can deduct qualifying retirement benefits without any cap.

Calculating the Michigan Retirement Income Deduction

To calculate your potential deduction, you must first identify what Michigan considers “retirement or pension benefits.” This includes most distributions reported on federal Form 1099-R, such as payments from 401(k)s, IRAs, and both private and public pension plans. The calculation then depends on your birth year, filing status, and the source of the income.

Income That Is Always Deductible

Certain types of retirement income are completely exempt from Michigan income tax for all retirees, regardless of their age or tier. Social Security benefits are not taxed by the state. Similarly, retirement benefits from service in the U.S. Armed Forces, pensions from the Michigan National Guard, and benefits received under the Railroad Retirement Act are fully deductible.

Calculating the Pension Deduction

The maximum standard deduction for retirement income is adjusted annually for inflation. This maximum amount must be reduced by any deductions already claimed for public, military, or railroad retirement benefits. Under the new law, you apply the specific percentage for the tax year and your eligibility to this maximum deduction to determine your allowable deduction for the year.

Reporting Retirement Income on Your Michigan Tax Return

Once you have determined your eligibility and calculated the correct deduction, the final step is to report it on your Michigan income tax return. This process involves using specific state tax forms to document your retirement income and the corresponding subtraction. The primary forms are the Michigan MI-1040 and the Michigan Pension Schedule (Form 4884).

You must report your total retirement and pension benefits on Form 4884. This schedule guides you through the calculation based on your birth year tier and the new phase-in options to arrive at your allowable deduction amount.

You then transfer the calculated deduction from Form 4884 to the Michigan Schedule 1, Additions and Subtractions. The total subtractions from Schedule 1 are then carried over to the main MI-1040 form, reducing your adjusted gross income. It is important to attach Form 4884 to your MI-1040 when you file.