An Overview of Multi-State Tax Issues and How They Impact Residency
Three key highlights:
The first thing states like California look at for residency purposes is where your domicile is. Analysis of residency factors comes second.
There are substantial tax savings from shifting residency out of high tax states.
California and other states are aggressively auditing individuals and businesses. Protecting yourself is critical.
Multi-state tax issues do not just impact businesses. In fact, they impact people probably a lot more than they impact businesses. The reason for that is people move around a lot more than businesses do. This is especially true if you live in one state during part of the year, then live in a different state the rest of the time.
Think of it this way, you live in one state and travel back and forth frequently between, for example, California and Texas. California has a 13.3 percent individual income tax rate. Texas has a zero percent individual income tax rate.
If you have homes in several different states, things can get tricky when it comes to filing taxes because like in our example, individual state tax rates are all over the board.
If you are faced with filing individual taxes in several states, we can help. My firm, Brotman Law, has helped taxpayers untangle this mess. We have worked with numerous clients who get slapped with a residency audit. Our experienced legal team has faced the State of California and knows their tactics. Let us help.
This article is going to discuss the different terms used to describe residency, residency audits and what to do if you are turned over to collections by the State of California.
Understanding Residency vs. Domicile
The amount of tax that you are going to pay is based on your movements between different states as well as which state you have declared as your state of residency. Residency is closely tied with domicile, which is a legal term.
Domicile is essentially somebody's home base. Once you move into a home and take steps to establish your domicile in one state, that state becomes your tax home.
There are different concepts to residency, but the most common concept is from an individual perspective. Suppose you live in one state and you move to another state. Your residency changes.
If you pick up and leave California and move to Texas and you never return to California, no problem. The problem is that people and businesses are not usually that simple.
A person can have multiple contacts with multiple states. They might travel around, they might live in several different states for a period of time and residency is really where the tax home is for the taxpayer.
How California Interprets Domicile
The way that most state residency rules work is that in order to sever residency with the state, you have to pick up your flag out of that state and plant it in another state. There are a variety of factors that go into this but residency is a very complicated thing.
You may ask, "Can I be a resident of two states?" Yes. From a physical perspective, you can be a resident of two states. You can say, "I live in California and I summer in Colorado.”
However, until you establish a domicile in that state or, more specifically, move your domicile outside of a state, that is where you run into problems. For example, take California, that has been super aggressive in dealing with some of these issues.
The reality of the situation with residency is even if you go back and forth between two states, your domicile is in one of those states and one of those states has controlling jurisdiction over you. You cannot have a situation where you have two controlling jurisdictions.
It is really important from a residency analysis to stop thinking about it from a “where do I live?” perspective and start thinking about it from a tax perspective. That is where a lot of people get into trouble.
California Residency Audits
In order to survive a residency audit for California, you are going to need to prove that not only are you a resident of California, but you took steps to establish domicile there.
There are a variety of factors that go into this. Such factors can include where your spouse and where your kids are, where your children go to school, what are the locations of your bank accounts, where do you go to church, where do you visit your doctors, where are you registered to vote, where your car is registered, etc.
There are about 19 in total, and all of them are interconnected to determine whether or not you are a resident.
Residency audits are really complex because there is not one particular factor that is dispositive, and you can have factors in certain situations that end up on both sides. The issue is particularly challenging for clients who view themselves as residents of one state and not the other.
Why It is Important to Deal With Multi-State Tax and Residency Issues
t is really important to deal with these issues. California, in particular, has been very aggressive in coming after out-of-state people who they claim are residents of California for one reason or another.
Even the minimal act of holding property here like a second home in your name or something else can trigger a residency audit. It is very important to respond to these notices because the tax consequences are significant.
You want to make sure that you have a good plan in place and deal with the residency audit as early as possible before it becomes a full-blown examination.