(Please note: this is not a political post, nor do I want this to become a political thread about taxes and the uses thereof. I'd like to keep this entirely a financial discussion about the numbers, please.)
In thinking about Mustachianism and early retirement, I'm a big fan of reducing or eliminating entire classes of expenses and regular bills permanently: avoiding loans, having a paid-off house, generating electricity, self-insuring for all but the most catastrophic disasters, etc. I'm a big fan of paying up front to eliminate a bill permanently, even if the payoff would take a long time; let's call it a disproportionately high value placed on not receiving and paying bills every month/year.
I realized that taxes are some of the most difficult regular expenses to reduce or eliminate, as well as those I'd place the highest value on reducing or eliminating. I'd like to give some thought to the scenario of making changes to reduce those expenses, even if those changes were outside my normal comfort zone.
(I'd be willing to hear about non-US countries as well, though the vast majority of countries with similar standards of living have far higher tax rates. However, if you happen to know of countries with particularly Mustachian-friendly low taxes, particularly capital gains taxes, I'd be interested to hear about them.)
With that in mind, the four major classes of taxes that seem most likely to affect Mustachians are federal/state income taxes, federal/state capital gains taxes, state sales taxes, and property taxes. (I'm leaving out gas taxes and other consumption-based taxes, since they're proportional to consumption, and likely to be a very small fraction of a Mustachian's tax burden.)
First of all, it seems like the pre-retirement and post-retirement scenarios will differ drastically here. Pre-retirement, it almost certainly makes more sense to live in a state with a sales tax rather than an income tax, since that tax will be proportional to consumption rather than income, and a Mustachian will have far more income than expenses. Post-retirement, income will come entirely from capital gains, and can be tuned to match expenses, so sales tax and capital gains tax will matter much more.
At the federal level, there's no sales tax or property tax to worry about. Income tax is an issue pre-retirement, but mostly an unavoidable one (apart from the various well-known advice here regarding tax-deferred retirement accounts, which can only protect a very limited amount of income and are not necessarily friendly to early retirement). It seems like the best approach here is to find the highest-paying job you can get and retire early.
Federal capital gains tax is a rather interesting case. We can safely assume that any investment used for retirement will fall under long-term capital gains, having been held for more than a year. The long-term capital gains rate for income in the lowest two tax brackets (10% and 15%) is zero, and that currently applies to incomes less than $36,250 for single folks and $72,500 for married folks. As the most recent post on the MMM family's expenses show, it's quite possible for an entire family to live on $25k, and it's safe to say a single person could live on less than that. Since capital gains income after retirement can mostly be directly tuned to match expenses, it should theoretically be possible to avoid any federal taxes after retirement.
State capital gains taxes vary quite a bit, but are generally far less friendly than federal. Many states have little to no distinction between short-term and long-term capital gains, and many simply tax it as income. Furthermore, many states do not have a minimum threshold on capital gains equivalent to the federal 0% bracket. There are a few states which appear to have no capital gains tax at all, but I've found little to no information on the tax brackets of states that do have them, and in particular if there are any states which have capital gains taxes in general but have a 0% bracket at the bottom.
Finally, state property taxes. These can vary wildly by locality, not just by state. A very few states do have laws that allow, effectively, paying off the future property tax burden of your property in a lump sum, and not owing any future property taxes; that would be quite appealing, but it would do little good if those same states have substantial capital gains taxes or sales taxes, and I don't have up-to-date information on which states allow this. I also have little to no information about any other ways that would allow reducing or preferably eliminating property tax burdens; details welcome.
So, to summarize, it seems like the best strategy would be:
- While working towards retirement, live and work in a state with minimal income taxes (bearing in mind cost of living and other expenses)
- Retire to a state with no sales taxes and either no capital gains taxes or a 0% bracket for capital gains below a threshold.
I'd welcome any additional thoughts or information that would either help identify the most ideal states based on the strategy above, or provide details that might change that strategy.
