Mamma Mia, here we go again: Kentucky has lowered its flat income tax rate. The individual tax cut is expected to put $718 million back in Kentuckians’ pockets while aiming for the end goal of zero state income tax.
While the latest cut received bipartisan support, some remain skeptical about how Kentucky’s budget will compensate for lost tax revenue under the new federal administration.
Plus, all this comes during a processing pause on this filing season’s Kentucky tax returns.
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Here’s more of what you need to know.
Kentucky income tax rate
The current individual income tax rate for Kentucky is 4%. House Bill 1 lowers the rate for 2025 to 3.5%, effective January 1, 2026. This rate drop, the third in Kentucky’s recent history, is no coincidence.
Thanks to a bill signed three years ago, the income tax rate will continue to decrease by .5 % annually if certain fiscal targets (spending and reserve fund balances) are met.
The ultimate goal is to eliminate the Kentucky income tax. No state income tax could bring a couple of exciting benefits:
- More money back in your wallet. Some residents could enjoy less withholding on their employer taxes, meaning more take-home pay in their bank account.
- Simpler and/or cheaper tax filing. Tax preparation software often charges a fee for state returns, which would no longer be needed.
However, as Kiplinger reported, no-income-tax states may have some drawbacks: After all, lost state revenue must be made up for in some way or another.
For example, Texas does not have a state income tax but has some of the highest property tax rates in the country, and Washington similarly has a high state sales tax rate which can dramatically impact the cost of living for some residents.
For more information, read Kiplinger’s report, Are No Income Tax States Better to Live In?
Tariffs impact Kentucky taxes?
Not everyone’s a fan of Kentucky’s new income tax rate.
According to the nonprofit research and policy organization, Kentucky Center for Economic Policy (KCEP), lost revenue from the lower rate could hurt funding for certain government services.
For instance, KCEP estimates that:
- Reducing the income tax from 5% to 3.5% costs the state about $2.2 billion.
- That’s more than Kentucky’s 2026 budget for child care, behavioral health, and post-secondary education spending combined, and
- More than the commonwealth’s projected K-12 SEEK base funding in 2026.
Others speculate that tariffs and federal budget cuts may impact the Bluegrass State.
“I also worry about cutting our revenues at a time of such economic uncertainty,” said Sen. Cassie Chambers Armstrong (D-Louisville), who voted against the bill. “We don’t know what tariffs, if any, might be coming. We don’t know what federal funds, if any, might be going away.”
Sen. Karen Berg (D-Louisville) also voted against the bill. “….I honestly know that sound finances is that you pay your bills first. You make sure that you’re solvent, and you have enough money to cover exigencies as they come across.”
The latest Executive Budget Summary states that Kentucky’s economy is “surging” with three consecutive budget surpluses in recent years and a record number of “new private sector investments” in the last four.
Kentucky tax refund status delay
Whether you’re excited or neutral about the new Kentucky income tax rate, you may want to know when you can expect this year’s refund. Unfortunately, the Department of Revenue has announced a delay.
The Commonwealth will pause processing 2025 tax returns while transitioning to a new system. The two-week delay is anticipated to start on February 26th and end on March 14th.
State officials encourage taxpayers to file their Kentucky returns by Wednesday, February 26th, 2026 to avoid the delay. For more information, visit the Commonwealth’s Department of Revenue website.
