California is one of 43 states that collects state income taxes and currently has the highest state income tax rate in the U.S. at 13.3%. It comes in fourth for combined income and sales tax rates at 11.2%, behind New York, New Jersey, and Connecticut.
We are here to explore the common reasons for higher state taxes in California and ways to ease the bite they take from your earnings and revenue.
California State Tax Agencies
Aside from the IRS, there are three major tax agencies in California that impact you as an individual and your business.
The Franchise Tax Board is the agency responsible for administering the state income tax and corporation tax. It handles collections, penalties, and dispute resolution as well as a number of other state programs.
The Board of Equalization administers California's sales and use tax, and taxes on fuel, alcohol, and tobacco. Businesses must register with the BOE to obtain permits and licenses.
The Employment Development Department is one of the largest state departments, administering payroll taxes, unemployment, disability, and many other state programs.
How Do State Taxes Differ from Federal Taxes?
The Internal Revenue Service of the federal government administers income taxes for the entire United States, according to the federal Internal Revenue Code. However, state income tax codes can and do differ from federal law. Each of the 43 states taxing income has different tax laws. Additionally, states can charge sales and use tax; there is no federal sales tax.
Each state has its own department of revenue and may have very different tax refund statuses. Before filing in any state, check its specific tax laws or consult a tax professional specializing in that state. California, for example, sometimes differs from the IRS on due dates for estimated quarterly taxes.
Can You Owe Taxes in More Than One State?
If you performed work in a state and tax was withheld from your income, you may owe or be due a refund from that state. If taxes were not withheld and you received a Form 1099 listing your earnings, you are not required to file in that state. However, your 1099 income is subject to taxation by your state of operation or residence.
If you lived in more than one state during the tax year, you must file a state income tax return for each state to determine your refund status. It does not matter how long you resided in that state.
If you worked in or earned income from more than one state, you may need to file a return even if you did not live in that state. For example, if you are a resident of California who contracted out to a company in New York and met one of these conditions, you need to determine refund status for both New York and California:
- You briefly traveled to New York for work or
- You worked remotely from your home state
They get you coming and going.
Common Reasons for Increased State Taxes
When it comes tax time, there are several ways to find yourself owing more than you expected.
You may not have had enough withholding or deductions. This leaves more income to be taxed resulting in a lower refund or the need to pay additional taxes with your return. If you had unemployment, that is also taxable.
If you have previously been eligible for the Earned Income Tax Credit (EITC) and your income increased, your EITC may be reduced or eliminated entirely. Since the EITC is a direct deduction from your tax liability, the elimination of the deduction will increase what you owe.
Did you take an additional job or did your spouse start working? Again, if you didn’t adjust withholding, you may come up short at tax time.
Other money eligible for income tax includes:
- Gambling winnings
- Social Security, if this was your first year receiving benefits
- You did not contribute to an IRA, increasing your taxable income
Finally, whether we like it or not, income taxes do go up every year. If you did not change your withholdings in response, you might not have enough withholding by the end of the year. You may owe taxes or receive a lower than expected refund.
More reasons for increased taxes:
- Change in filing status
- Gain or loss of child tax credit eligibility
- Change in education or tuition deduction
- Change in home or property tax
- Change in military service
Keep accurate records of anything that may change your taxable income or tax status.
State Business Taxes
If you run a business in California, you are required to pay sales and use tax, which you can levy at the point of purchase and pass along to the Board of Equalization. Sales and use tax is required on all cash and credit card sales, installment sales, lay-away sales, and trade-ins or property exchanges. Depending on what you sell, you may owe excise tax.
If you also have employees, you must withhold income tax from their earnings and pay employment taxes (Medicare and Social Security), worker’s compensation, and other taxes. On the other hand, if you are self-employed, you must pay self-employment tax; you are paying both your contribution and an employer contribution into Social Security and Medicare.
Paying or Disputing Your Taxes
To avoid paying interest, penalties, and legal issues, pay your tax bill in full and on time. If you cannot pay in full, pay as much as possible to reduce the interest and penalty liability.
If you have a dispute with any tax agency, you must prepare a timely protest. The draft should include your statement of the right of appeal, a copy of the tax notification and documentation for relevant tax years, and statements of law and fact supporting your tax return position.
Be sure to file your return on time and pay in full. If you cannot pay in full, pay as much as possible to decrease the interest and penalties on the unpaid portion. Penalties are based on the amount owed, and an extension does not give you more time to pay; it only extends the deadline for filing a return. You may be able to negotiate an installment plan or an Offer in Compromise.
A tax attorney is of great assistance if you find yourself in situations such as a tax dispute, late payment, or inability to pay. A tax attorney can file accurate documentation and guide you through the intricacies of tax law in your state.
Preventing a High Tax Bill
To prevent unexpectedly high tax bills in the future, carefully manage your income tax withholdings and estimated payments. Learn what the current tax rates are, withhold sufficient amounts from your paycheck or pension payment. If you are self-employed, your estimated tax payment should be increased.
If you live in the state of California or any of the other 42 states that levy an income tax, and you earn an income in one of those states, you will owe state income tax. Always check the tax law in every state you receive earnings from or have lived in to avoid tax penalties at the state level.