Best and Worst States to Pay Taxes on Lottery Winnings
Some states are far kinder to lottery winners than others
Voltaire once referred to optimism as a form of madness, and he might not have been far off when it comes to playing the lottery. The odds against anyone winning the Powerball lottery are one in about 292 million, and Mega Millions is even worse: one in about 303 million...and yet, week after week, someone always does, and they'll have to pay taxes on their lottery winnings.
How Much Do You Really Get?
Brace yourself for a bit of reality if that very lucky someone turns out to be you. First, you’re not going to receive the whole walloping amount that’s advertised if you take money in a lump sum. That’s reserved for those who take their winnings as annuities, and it's paid out over a span of years. The advertised jackpot is the most you can win if you’re the patient sort and collect your winnings over time.
The Tax Man Cometh
Next, know that the tax man will come. Uncle Sam is going to want a piece of your prize, and most people can expect that their state taxing authority will have its hand out for a share also. Some states are much kinder than others when it comes to lottery taxes, however.
All told, there's a significant disparity, and you might want to consider using some of that money to pull up stakes and relocate if you live in one of the worst states for lottery taxes—at least, if you’re planning on playing the lottery again and you’re mad enough to believe you can win big twice.
Federal Laws for Winnings
You’ll have to deal with the federal government right off the top, before your state even gets involved. The Internal Revenue Service requires that lottery officials must withhold taxes from your winnings at the rate of 24% if you win $5,000 or more after subtracting the cost of your ticket.
This doesn’t necessarily mean you’ll owe 24% when all is said and done, however. You’re still entitled to claim every possible deduction you can possibly qualify for when you prepare your tax return at year's end. The IRS treats that 24% withholding just the same as it would if your employer withheld taxes from your paychecks. It will send you a refund if you don’t end up owing that much.
You’ll have to dig into those winnings a little more to pay additional taxes if you end up owing more than 24%—and that's probable, given the tax bracket that a really significant jackpot would push you into.
What Taxes Are Withheld?
FICA taxes—Social Security and Medicare—are employment taxes. They’re imposed on earned income, so you’ll dodge a bullet here. Lottery winnings are exempt because they’re not earned income. That 3.8% net investment income tax doesn’t apply to lottery winnings either.
But your winnings are unearned income, so you'll have to pay income tax on the money at the federal level and often at the state level as well. This shines a spotlight on tax brackets and tax rates because this is how much you’ll end up paying on what’s left of your winnings after you’ve taken all possible deductions from your overall income.
The top federal tax bracket as of 2020 is 37% on total incomes over $518,400 for single taxpayers, or $622,050 if you’re married and filing a joint return.
Plan on paying income tax at this rate on the portion of your winnings that exceed these amounts—in other words, on $418,600 if your total income including winnings is $1 million after taking deductions.
If You Live in NYC
Obviously, states with the highest top income tax rates pose the toughest tax burden, and of these, New York takes top prize as being the absolute worst—at least if you live in Yonkers or New York City. The city will want its own cut of your winnings as well. New York’s top state tax rate is 8.82% as of 2020, but then you’ll have to add another percentage for the local tax. That works out to a hefty 12.7% of your winnings.
Your tax bill would come out to almost $127,000 on $1 million in winnings, and about $12.7 million if you won a $100 million lottery. But the state actually falls to fourth place overall if you live elsewhere in New York and don't have to pay local income taxes.
The Worst States for Lottery Taxes
Among all states, New Jersey comes in first with a 10.76% top tax rate as of 2020, and Minnesota takes second place at 9.85%. Then comes the District of Columbia at 8.95%, then New York, then Vermont at 8.75%.
Rounding out the list of the 10 states with significantly high tax rates are:
- Iowa: 8.53%
- Wisconsin: 7.65%
- Oregon: 7.6%
- Maine: 7.15%
- South Carolina: 7.0%
The hit you'll take depends on the exact threshold where these top tax rates kick in and on how much you've won. For example, you'd only have to pay 7.6% in Oregon if you won more than $1 million. You'd pay just 6.6% if you won $999,999. And to be fair, you'd only pay that higher rate on the portion of your winnings and total income over $1 million.
All this assumes that your state participates in a national lottery and that it taxes lottery winnings. For example, Hawaii’s top rate is a hefty 11%, but you can’t play Powerball here. It’s one of six states that don’t participate and it’s a very long swim to the mainland to purchase a lottery ticket elsewhere.
Other states that don’t participate in Powerball are Alabama, Alaska, Mississippi, Nevada, and Utah.
The Kindest States for Lottery Taxes
OK, let's get to the good news. Obviously, your best bet for lottery taxes is one of the states that doesn't have an income tax at all as of 2020: Florida, South Dakota, Texas, Washington, and Wyoming. Alaska and Nevada don’t tax income, either, but they don’t participate in national lotteries.
Then there are an additional handful of states that kindly refrain from taxing lottery winnings. California and Delaware will generously let you keep your jackpot tax-free. This is particularly convenient in California where the top tax rate is even worse than what you’d pay in New York City: 13.30% as of 2020.
That leaves us with the states with the lowest top tax rates as of 2020:
- Tennessee: 1%
- North Dakota: 2.90%
- Pennsylvania: 3.07%
- Indiana: 3.23%
- Michigan: 4.25%
- Arizona: 4.50%
- Colorado: 4.63%
- Ohio: 4.8%
- New Mexico: 4.90%
- Illinois and Utah: 4.95%
Three others states just narrowly miss making the list with top tax rates of 5%: Kentucky, Massachusetts, and Mississippi.
Tennessee and New Hampshire tax only interest and dividend income, and Tennessee is repealing even that tax beginning in 2021.
State Lotteries and Other Games Are Different
Keep in mind that these rankings are for national lottery winnings. As a general rule, other types of winnings are considered income, but they’re not always subject to the withholding rule, and they might not be subject to FICA taxes. This doesn’t mean you won’t have to pay any income tax on the money, however.
The IRS doesn’t demand mandatory withholding from state lottery winnings, and it taxes other games of chance differently as well.
Some Small Tax Perks
You can deduct gambling losses if you itemize and if you spend more trying to win than you actually end up winning, but only up to the amount of your winnings. In other words, you wouldn’t have to pay a tax on your prize money, but you couldn’t use the balance of your losses to offset your other income.
Another deduction you can take on your federal return to try to nip away at your tax bill is for the income taxes you must pay to your state on your winnings. This helps, but not by much. The Tax Cuts and Jobs Act limits this itemized deduction to $10,000 for tax years 2018 through 2025, and to just $5,000 if you're married and file a separate return. $10,000 is just a drop in the bucket if your winnings are really significant.
But you’ll want to claim it anyway. At least you can get something in return for income taxes you might owe to your state.
IRS. "Instructions for Forms W-2G and 5754 (2020)." Accessed March 27, 2020.
IRS. "IRS Provides Tax Inflation Adjustments for Tax Year 2020." Accessed March 27, 2020.
Tax Foundation. "Taxes in New York." Accessed March 27, 2020.
The Tax Foundation. "State Individual Income Tax Rates and Brackets for 2020." Accessed March 27, 2020.
Oregon Secretary of State. "Government Finance: Taxes." Accessed March 27, 2020.
MoneyManagementInternational.org. "How Much Does Winning the Lottery Cost You?" Accessed March 27, 2020.
IRS. "Topic No. 419 Gambling Income and Losses." Accessed March 27, 2020.
IRS. "Topic No. 503 Deductible Taxes." Accessed March 27, 2020.