Moving to a new home in a different state can have major implications for an individual’s taxes. U.S. taxpayers are taxed at federal and state levels. At the federal level, each individual is taxed according to the same criteria. State tax regulations, however, can vary significantly.
Some states, California, for example, have personal state income tax rates ranging from 1% up to 12.4% for individuals with high incomes. Others, such as Florida and Texas, have no state income tax at all. A full breakdown of personal income tax rates for each state is available here: Personal Income Tax Rates – 2023
With such wide ranges of state tax rates, individuals need to understand how the state they’re considered a resident of impacts their tax exposure.
This is particularly important when individuals and families move from one state to another or split their time between different states. Documenting your residency in the appropriate state is key to ensuring you are taxed correctly and can defend your position in the event of a residency audit.
The goal of establishing permanent residency in a particular state is to avoid double taxation, in which an individual is liable for state income taxes in two states at once.
The right tax preparation guidance and tax advisors can help you avoid double taxation. Here are some scenarios in which individuals must be especially careful to establish residency.
For these individuals, carefully documenting their domicile in a particular state can result in a lower tax burden, smoother tax filing process, and defensible position during a residency audit.
Each state sets its own residency criteria. The best known of these is the 183-day test, in which individuals are considered a resident of that state if they spent over 183 days (half the year) in that state in a calendar year.
This rule is a generalization and some states have differing requirements. Basing your state income tax strategy purely on the 183-day rule can get taxpayers into trouble, because the way states determine residency is often more complex.
When states conduct residency audits, they typically examine five key factors:
Many people live and work in more than one state, whether by commuting across state lines daily or spending time in multiple states throughout the year. Fortunately, many states have reciprocity agreements. These exempt taxpayers from selected states from paying income taxes in another. For example, residents of Pennsylvania who work in New Jersey pay tax on their compensation in Pennsylvania and do not pay New Jersey income tax on that compensation.
Most states do not have a formal process to declare state residency but some may provide tools. For example, new residents of Florida may file a Declaration of Domicile with the clerk of the circuit court in their new home county as a way to show their intention to make their new Florida home their principal home.
What’s more important is that taxpayers effectively document their residency in their new state. These actions are evidence that taxpayers can use to demonstrate their domicile in a new state during a residency audit.
These actions indicate to tax authorities that the taxpayer has moved to the new state.
Some states — including New York, New Jersey, Massachusetts, and California — are more likely to audit residents who move to a different state. They are among the states with the highest rates of state income tax. When taxpayers move out of these states, particularly high-earning taxpayers, state tax authorities may conduct a residency audit to ensure taxpayers are not avoiding their state tax obligations.
Although these audits are not common, they can be intrusive when they do occur. Auditors will look at cell phone records, travel records, and more to build an accurate picture of where the taxpayer really lives. For this reason, family members should not share credit cards or frequently swap automobiles with toll pass transponders, as these actions could muddy an audit trail.
In preparation for any move, the support and guidance of an experienced tax advisor can ensure you take all the required steps to establish residency in your new state and avoid any compliance issues.
At Smith + Howard, our private client tax team is proud to advise taxpayers across the nation on their tax strategy, including all relevant state income tax obligations. We are equipped to represent taxpayers in the event of a state residency audit and support our clients in taking a proactive approach to establishing a new domicile.
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