On March 1st, 2022, the state’s most historic and significant tax reform bill was passed by the state of Iowa and signed by Governor Kim Reynolds. With the 2021 tax filing deadline coming up, you may be wondering how and if it may affect you. You will not see the changes this tax filing season, but you will be seeing many tax reform changes taking place over the next few years.
The Goal of the Bill
The goal of the bill is to provide tax relief and put more money into the hands of Iowans. It is designed to allow more money to be reinvested into the economy by rewarding hard work, protecting the farmers, and supporting the retirees of the state.
How were they able to provide this major tax cut?
The administration has been practicing conservative budgeting and fiscal responsibility allowing the state to build up cash reserves. Iowa’s impressive economic position has meant that they have been accruing a net tax income surplus. This in turn created a perfect time to make some big changes in tax reform that meets the needs of the state and the people.
What Can You Expect in the Tax Cut?
In 2023, Iowa will be reducing the number of tax brackets the state uses from nine to four. The tax rates will vary from 4.4%-6.5%.3
The bill will then incrementally lower the individual tax rate to a flat 3.9% rate by 2026. Retirement income will have no income tax starting in 2023 and there will be an overhaul on the corporate tax system in Iowa.
“With this bill, Iowa is now the fourth lowest for individual income tax rate in the nation.”1 according to Governor Reynolds. Making it one of the most tax friendly states in America. There are 10 other states who have a flat income tax.3 Based on projection, it is estimated that 98% of Iowa taxpayers with $10,000 or more of taxable income will see a decrease in tax liability by 2026.
3.9% Individual Income Tax Rate
The new flat income tax rate of 3.9% will be fully enacted in 2026. As mentioned earlier, there will be only 4 tax brackets starting in 2023, instead of 9, and they will range from 4.4%-6%. Each year after 2023 the rate will decrease annually until 2026, where the rate reaches a flat 3.9%. This new rate is predicted to save more than $1.67 billion by 2026 for Iowa taxpayers.
Some may be wondering about what this new, flat tax rate will mean for low-income individuals in Iowa and if they will see any changes? The new rate will not mean they are paying more. The Federal Earned Income Tax Credit (EIC) and other tax credits will still be available for low-moderate income earners who qualify.
Elimination of Retirement Income Tax
Those who have saved for retirement throughout their life, worked hard, and paid taxes, deserve to enjoy the money they’ve earned and saved. Under the retirement provision of the tax cut, the tax liability for qualifying retirees in Iowa will be eliminated.
Beginning in the tax year 2023, people age 55 or older in Iowa will be exempt from state tax on retirement income earned from IRA distributions, taxable pensions, and annuities.1 This means an estimated 290,000 taxpayers in Iowa will see their tax liability go away!
Farmers in Iowa who are 55 or older and who have been farming for at least 10 years will have benefits too. If they have retired from farm operations, they can collect cash rent or shares from crop production without owing state income tax on it. The other option farmers will have is if they want to sell their farmland. They can make a lifetime election to exclude net capital gains from the sale. However, they cannot do both elections. More guidance will be forthcoming.
Exemption of Net Capital Gains on Sale of Employee-Awarded Capital Stock
As part of an employer offered benefits package, an employee may receive capital stock. Under current Iowa tax rules, if you choose to sell them, you are responsible for the net capital gains taxes on those shares.
The new tax law states that they will “allow a one lifetime election to exclude the net capital gains from one stock of one qualified corporate or employee stock ownership plan (ESOP) from state income tax.”2 Corporations that qualify for this election must have at least 10 years under their belt of doing business in Iowa.
Currently, employees can deduct 50% of net capital gains from an ESOP. When the new tax law goes into effect, ALL of the capital gains will be able to be deducted.
Reduction of Corporate Income Tax Rate
Corporate income tax rates are important to the economy because it can allow businesses to grow, while also attracting new ones. Iowa has been working on making reforms to create strategies that support business and encourage businesses to increase their revenue, which can in turn reduce their tax rate.
The Department of Revenue will decide on the next tax year’s corporate income tax rate and make it effective January 1st. When net income tax receipts surpass $700 million, any surplus over that will go towards buying down the current top rate. Each year it exceeds that number, a new top rate will be decided upon until there is a uniform 5.5% corporate income tax rate. Once it hits 5.5%, any excess tax revenue above $700 million will be put into the state’s general fund to help pay for ongoing expenses of the state government.
This corporate tax reform is predicted to save the people of Iowa $50 million by 2027.
Effects on the State Budget
Since the tax burden on the people will be decreasing, the state of Iowa’s revenues will in turn go down. After the 1st year, the state revenue is estimated to decrease by more than $236 million, and $1.9 billion by the 6th year according to the Legislative Services Agency.3
However, Republicans believe since they have been operating on a surplus of tax revenue, have cash reserves, and are predicting to grow, the funds will be sufficient to sustain the tax cuts. This is assuming Iowa sees a 3-4% growth each year, which might be hard to believe for some people with the current volatility in the market.
Overall, lots of changes are happening, hopefully for the better. No one necessarily likes to pay taxes, but it is our duty as Americans. Hopefully, these tax reforms will provide some relief for the people of Iowa. As always, if you have any questions, feel free to reach out to us!