North Carolina for retirees: Social Security free, pensions taxed unless you fit one of two doors

A retiree arriving from Illinois, Pennsylvania or Mississippi, where no retirement income is taxed, should read this paragraph twice. North Carolina exempts Social Security and railroad retirement in full, at any age and any income. It exempts two other things: retirement benefits from North Carolina state and local government plans and from federal civilian and military plans, but only for people who had five years of service by August 12, 1989 (the “Bailey” retirees), and military retirement pay for anyone with 20 years of service or a medical retirement, no matter when they served. Everything else is taxed at the flat 3.99% rate to the extent it is in federal adjusted gross income: private pensions, IRA and 401(k) withdrawals, annuities, Roth conversions, and pensions from other states’ governments. There is no age test, no retirement exclusion, no extra standard deduction for being 65, and nothing on the state return that answers to the federal $6,000 senior deduction. What the state does give every retiree is a flat rate that keeps falling and no local income tax, no estate tax and no inheritance tax.

Each exemption is a subtraction on Form D-400 Schedule S, Part B, taken from federal AGI before the standard deduction and the rate. The 2025 line numbers, which the Department of Revenue says will carry into the 2026 forms that post in January 2027, are Line 19 for Social Security, Line 20 for Bailey benefits and Line 21 for military retirement.

Social Security: Line 19

Whatever portion of your Social Security benefit is taxed federally, up to 85% of it under the federal formula, goes into AGI and comes back out on Schedule S Line 19. Tier 1 and Tier 2 railroad retirement get the same treatment. If none of your benefit is taxed federally there is nothing to subtract and nothing to tax. The federal side is unchanged by anything North Carolina does; how much of your benefit is taxable is covered in How Social Security is taxed.

Bailey retirees: Line 20

In 1998 the North Carolina Supreme Court held in Bailey v. State that the state had promised certain government employees their retirement benefits would never be taxed and could not break that promise. The settlement that followed covers benefits from the North Carolina Teachers’ and State Employees’ Retirement System, the Local Governmental Employees’ Retirement System, the Consolidated Judicial Retirement System, the federal Civil Service Retirement System and FERS, and U.S. military retirement, plus the state’s 401(k) and 457 plans. The test is a date: for a defined-benefit plan, at least five years of creditable service as of August 12, 1989; for the state 401(k) or 457 plan, having contributed or contracted to contribute before that date. Beneficiaries of a vested retiree qualify too. Retirees of other states and their cities get nothing; a Virginia state pension or a New York City pension is fully taxed here.

Two mechanics matter. First, the exemption follows the account, not the person. Money rolled out of a Bailey-vested account into an ordinary IRA loses the exemption; distributions from the vested account itself are exempt no matter where the money originally came from. Second, a rollover from a Bailey account into a Roth IRA is exempt in North Carolina even though it is taxable federally, so a Bailey retiree can convert to a Roth at federal cost only (Directive PD-14-1). Attach the 1099-R to the return. And file the return: a Bailey retiree whose entire pension is exempt still has to file if gross income, counting the exempt pension, exceeds the standard deduction.

Military retirement: Line 21

Since tax year 2022 any retired member of the uniformed services who served at least 20 years, or who was medically retired under 10 U.S.C. Chapter 61, deducts all of their retirement pay regardless of when they served. Survivor Benefit Plan payments to the retiree’s beneficiary qualify as well. Chapter 61 severance pay does not. A military retiree who also qualifies under Bailey takes the deduction once, on one line, not both. Military retirees with fewer than 20 years and no medical retirement are taxed on the pay like anyone else.

Everything else is taxed

Qualified charitable distributions from an IRA never enter federal AGI and so are never taxed here, which makes a QCD worth 3.99% more to a North Carolina retiree than a cash gift that would only count on the state Schedule A. See RMDs and giving from your IRA.

Roth conversions cost 3.99%

A conversion from a traditional IRA to a Roth is taxable federally in the year of the conversion, and because it lands in AGI it is taxable in North Carolina too. A $50,000 conversion adds $1,995 of state tax to the federal bill. That is real money, but it is less than in most income-tax states, and the rate is scheduled to fall to 3.49% in 2027 and 2.99% by 2033, which argues for spreading conversions over years rather than front-loading them. The exceptions are the Bailey retiree, who converts a vested government account free of state tax, and anyone planning to move to a state with no income tax, who should wait. The federal consequences of a conversion, more taxable Social Security and higher Medicare premiums two years later through IRMAA, apply in every state; see Roth IRAs and the backdoor Roth and IRMAA.

The federal senior deduction, and why it does not help here

The $6,000 federal deduction for each person 65 or older, in effect for 2025 through 2028 and phasing out above $75,000 of income single or $150,000 joint, comes off after adjusted gross income alongside the standard deduction. North Carolina starts from AGI, so the deduction never arrives, and no add-back is needed because nothing was taken out. The same is true of the extra federal standard deduction for age. The Department’s September 2026 FAQ says in terms that the senior deduction is not allowed on the state return and that the state enacted no counterpart. North Carolina’s standard deduction is the same $25,500 for a couple of 68 as for a couple of 38.

Withholding and estimated payments

This is where retirees get caught. Form NC-4P tells a pension or IRA payer what to withhold. File nothing and the payer withholds on periodic payments as if you were single with no allowances, and takes a flat 4% from lump sums and IRA withdrawals paid on demand; check Line 1 and the payer withholds nothing, which is right for a Bailey pension and wrong for a taxable one. Social Security never withholds state tax, which does not matter since it is exempt. If the tax after withholding will be $1,000 or more, quarterly payments are required on Form NC-40, due April 15, June 15, September 15 and January 15, and the safe harbor is 90% of this year’s tax or 100% of last year’s. A couple with a $25,000 taxable pension and $20,000 of IRA withdrawals and no state withholding owes about $800 and is under the line; add a Roth conversion or a stock sale and they are over it.

Relief on the property tax bill

The state income tax has no senior credit, no property tax credit and no renter credit. What North Carolina offers older homeowners runs through the county tax office, on Form AV-9, due June 1 each year (a late application for good cause can be accepted through December 31). None of it appears on the D-400, and the income tests count Social Security and exempt pensions in full even though the income tax ignores them.

The 2026 income limits come from a Department memo to county assessors dated June 27, 2025, found on county websites rather than on ncdor.gov; confirm them with your county before applying. A homeowner may take the homestead exclusion or the veteran exclusion, not both. There is no assessment freeze and no relief for renters.

The homestead exclusion is worth more than it looks. A 70-year-old widow with $34,000 of income and a house appraised at $300,000 excludes $150,000 of value; if her combined county and city rate is 0.65%, that is $975 a year, which is roughly what she would pay in state income tax on $24,000 of taxable pension. Counties reappraise on their own cycles, every four to eight years, and a reappraisal year is when the exclusion and the circuit breaker matter most. A constitutional amendment approved on November 3, 2026 with about 60% of the vote requires the legislature to limit how fast property tax levies can rise; the limit itself has to be written by the General Assembly, so nothing changes on a bill until it is.

No estate tax, no inheritance tax

North Carolina repealed its estate tax for deaths on or after January 1, 2013 and has never had an inheritance tax or a gift tax. Only the federal estate tax applies, and with the exemption at $15 million per person for 2026 it reaches very few. The state does tax an heir’s withdrawals from an inherited traditional IRA at 3.99%, since those are in the heir’s federal AGI; an inherited Bailey account keeps its exemption for the beneficiary. See Gift and estate taxes.

Moving in, moving out

Federal law since 1996 bars any state from taxing the retirement income of someone who no longer lives there. So a retiree who moves to North Carolina from New York stops paying New York on the pension and starts paying North Carolina, at 3.99%, unless it is Social Security, Bailey or 20-year military. A retiree who moves out stops paying North Carolina the day residency ends, and the Bailey exemption, which is a North Carolina rule, is worthless in the new state. The move-year return is split on Schedule PN by the date each payment was received; see Moving to North Carolina.