State Tax Primer from A to W: Alabama

Welcome to my series on state taxes! For information about what I’m trying to do, read my introductory bit. And now, without further ado, let’s get started! First up, Alabama!

ALABAMA

Population: 4,627,851 (23rd)

Capital: Montgomery

Largest City: Birmingham

Gross Domestic Product: $160 billion

GDP per capita: $29,697 (44th)

2004 election winner: George W. Bush

web site: http://www.alabama.gov/

Income Tax

Alabama does have an income tax. Individuals who are domiciled in or residents of Alabama are subject to tax on their entire income whether or not earned in Alabama. And, if a citizen of a foreign country comes to Alabama to work, no matter how long that citizen “stays, buys a home, secures an Alabama driver’s license, does not intend to apply for U.S. Citizenship, and intends to ultimately return to the country of origin”, domicile is in Alabama.

If you do earn income in multiple states and are required to file in other states, you will prorate your federal tax deduction on your Alabama return. Of course, if you include income from other states in your Alabama tax return, you can claim a credit for taxes paid to those states.

Alabama taxes both earned and unearned income with a number of exemptions and exclusions. Exemptions include: payments for Social Security, military, civil service, state/local government and qualified private pensions. Additionally, out-of-state government pensions are tax-exempt if they are defined benefit plans. Also excluded from income (by way of a few examples): unemployment compensation, welfare benefits, child support, workers compensation, gifts, life insurance death benefits, Alabama 529 plans and foreign missionary compensation after the first two years (!).

Standard deductions and personal exemptions vary by income and filing status. Similarly, state income tax rates vary depending on filing status and income. The top tax rate for those with taxable income of $100,000 or more is 5%. The lowest tax rate is 2%.

Alabama does participate in the Set Off program. An Alabama state tax refund will be taken to satisfy any outstanding liabilities owed to the State of Alabama or to the Internal Revenue Service; a federal refund will be taken for same.

Sales Tax.

Alabama has an aggressive, tiered sales tax structure, depending on what you’re buying. The rates are:

1.5% of the net difference paid for farm machinery; this rate also applies to the gross receipts from sales of machines, parts, and attachments for machines used in manufacturing, processing, compounding, mining, and quarrying tangible personal property.

2% of the net difference paid for new and used automotive vehicles, truck trailers, semi-trailers, and manufactured homes.

3% of the retail sales price of food for human consumption sold through coin-operated vending machines.

4% of the gross proceeds of sales of all tangible personal property, other than that listed previously and specifically exempted by law, and the gross receipts from places of entertainment or amusements.

Alabama holds the distinction of being one of only a handful of states that still imposes a sales tax on food and over the counter medicine. Prescription medicines are exempt.

Alabama does have a sales tax holiday. The sales tax holiday begins at 12:01 a.m. on the first Friday in August and ends at twelve midnight the following Sunday. Counties and municipalities may opt out by notifying the Department of Revenue.

Rental Tax.

Alabama also charges a rental tax for leasing or renting tangible personal property. The tax is imposed on the gross paid at the following rates:

1.5% for automotive vehicles (yes, I do find it curious that this is not the same as sales tax for the purchase of a vehicle since the sales tax rates are otherwise comparable)

2.0% for Linens/Garments

4.0% for Other items subject to “true leases”

“Conditional sales leases” (basically, lease to purchase arrangements) are not subject to the rental tax, rather they are subject to sales tax.

Tobacco Tax

Alabama’s tax rate on cigarettes is 21.25 mills for each cigarette. This converts to $0.02125 for one stick or $0.425 for a package of twenty cigarettes, ranking them 40th in the country. The rates on other tobacco products like snuff, smoking tobacco, chewing tobacco, and cigars vary based on weight and retail selling price of the products.

Gas Tax

The gas tax rate in Alabama is $.16 per gallon (in the lower 20% of the country).

Property Taxes

The state property tax is 6.5 mills (.0065) for real and personal property. Local tax rates vary.

“Real property” is defined as “land and all things attached to it” with the exception of home appliances, furniture and personal items like jewelry. “Personal property” refers to all property other than real property and includes cars, motorcycles and RVs. Assessments for purposes of calculating the tax are based on usage.

Inheritance and Estate Tax

Alabama does not impose an inheritance tax. Their estate tax, like many state estate taxes, is linked to the federal estate tax. With the changes in the federal system, Alabama ceased to collect estate taxes for estates after 12/31/04.

Overall Tax Burden

The overall tax burden in Alabama, taking into account taxes paid by individuals, results in a ranking as 38th most-tax burdened state in the country, according to Tax Foundation.

taxgirl says

I’ll admit it, I have a soft spot for Alabama. It’s beautiful, though awfully darn hot.

But I’m not crazy about their tax system.

For one, the tiered systems are a bit much. It seems like every other tax is tiered: income, sales, rental, etc. I’m not a fan of a flat tax rate for every instance but I think that complicating taxes leads to lower compliance. The different levels – and different assessment ratios for property taxes based on usage – feel more convoluted than need be.

And yes, Alabama has low taxes compared to other states. And low taxes are arguably a good thing. However, state taxes generally fund state government – that means social programs, education, infrastructure and more. And while it is not always true that low taxes corresponds to low benefits to taxpayers, statistically that appears to be true in Alabama. More than 15% of the state lives in poverty, according to the US Census, among the highest rates in the country; it seems odd, then, to have such a regressive sales tax. The state has one of the highest child mortality rates in the country (8th) and one of the lowest populations of high school graduates (47th). There are clearly some improvements to be made.

Am I saying that the solution is to simply raise taxes? Of course not. I realize that it may be difficult for a state to raise revenue when 15% of the population lives in poverty – ironically, though, the state’s unemployment rate is among the lowest in the country, even in today’s economy. But I am skeptical of a tax structure that is regressive when it comes to sales tax yet progressive when it comes to income tax – all the while plugging in additional exemptions and creating complicated tiers of taxation.

It presents interesting questions: would repealing the sales tax on food, while reducing revenue, increase take home pay and possibly boost the standard of living. That’s a tax cut, not an increase. Would widening the tax brackets for purposes of income tax result in more revenue without actually raising tax rates? Would it be better to impose one rate for all taxpayers (something that many states do) or would a tax increase for the lower and middle brackets further hurt the economy?

Hopefully, as we go along in the series, we’ll see where other states land in terms of tax revenue versus standards of living and whether it makes a difference. The goal is not to be judgmental but to maybe make some sense of tax policy. I’d love your thoughts on this!

Thanks to Kelly Phillips for her input regarding Alabama’s income tax. No, that’s not me being crazy. I’m talking about the other Kelly Phillips – who is also a tax geek. Thanks, Kelly!

(Note: tax rates were current as of 10-20-2008 and were taken from the AL Department of Revenue web site)