Don’t Leave California (or Even Consider It) Without Speaking to Your Tax Professional
Last month, Zillow released their "2020 Urban-Suburban Market Report" showing that real estate inventory in San Francisco from February to July 2020 increased by a massive 96% year-on-year, as people left the city.
Experts believe that the reason for this change is likely a result of a few unparalleled circumstances that have come together this summer, resulting in an historic shift out of the city. These factors include:
- The astronomical cost of owning a home in the San Francisco city limits
- The pandemic which has led many companies to allow employees to work remotely for the foreseeable future
- Most entertainment venues, bars and restaurants are closed
Of course, some of the people who leave will return, while others will leave for less costly areas of California such as Lake Tahoe or Palm Springs.
And still others will leave the state all together.
If you are in this last group or are considering leaving California, even temporarily, you should be aware of the tax considerations.
If you are leaving California to pay less taxes, you want to make sure that you are taking the proper steps so that your decision will be respected by the Franchise Tax Board.
You also should be aware that you may have to start paying taxes in your new state on Day One, even though the new state and California will still consider you a Golden State resident (and California will tax you accordingly!)
You should find out the taxing rules of your future new home state before you move. Twenty-four states require employers to withhold taxes the first day a non-resident employee works in that state, or requires the non-resident employee to file a tax return if they’ve worked at least one day in the state, even if there’s no withholding. In other states, the threshold could be 15, 30, 60 or more days, or after the worker has earned a certain amount of money in that state.
Meanwhile, California requires non-residents and part-year residents to file a tax return if they have a certain dollar amount of California-source income based on their age, filing status, and dependents. (See here for details. But, Warning: you may want to speak with an experienced tax professional to decode some of the language!)
California Resident Taxes
California taxes its residents on all worldwide income. This includes income earned while working in California and any other state or country, as well as investment and other income.
If a California resident relocates permanently to another state, that person is considered a part-year California resident for the year of the relocation. California taxes part-year residents on all worldwide income received while a California resident and from California sources received while a non-resident.
Most states follow this same general method. So, if you move from California to a new state, the new state generally will tax you on all worldwide income received while you were a resident of the new state. But you would still be liable for California tax on California-source income, such as rent on a home you left behind.
Determining State Residency is not always easy
Generally, states assume you are a resident if you spend more than six months in that state and it does not have to be consecutive. So, it’s important to keep a log of where you have spent each day if you are living in two locations.
However, California does not abide by these generalities. The Franchise Tax Board presumes you to be a California resident for any taxable year in which you spend more than nine months in this state but there is no presumption of non-residency if you spend fewer than 9 months in state. For California, the underlying theory of residency is that you are a resident of the place where you have the closest connections. California considers not just the number of ties, but also their strength. Moreover, if your job requires you to be outside the state, it usually takes 18 months for you to be presumed to no longer a resident.
As a result, spending more than three months or even six months outside of California does not automatically make you a non-resident.
The Franchise Tax Board is famous for pursuing people who have moved out of state if they have significant California-source income or important family or business connections in the state.
It is also not always easy to establish state residency in another state. Establishing residency often requires a new state driver’s license along mail with your name on it or other documentation which can take time. So, even though you think you have left California, the Franchise Tax Board may disagree and send you tax bills from California on your world-wide income.
Discovering How the States Coordinate Their Taxes
Talking about how California and other states determine residency and how they tax income is complex, as this discussion illustrates. A final aspect to consider is how the states coordinate their taxing.
In a situation where two states think they both are entitled to tax your income; you are required to file tax returns in both states. In many – but NOT all situations -- you will pay the tax in the lower-rate state and claim the amount you paid in taxes as a credit in the higher-rate state. You will then pay the balance to the higher rate state. Unfortunately, there are several variations to this general policy, and taxpayers really need to check with a knowledgeable professional to find out the rules for the state they are moving to.
The summary caution is that you should not expect that moving away from California today will end your relationship with the Franchise Tax Board anytime soon.
Careful consideration required
In addition to retaining experienced tax advisors to protect your interests, it is also important to carefully consider the reasons and goals for migrating out of California — and ensure your family is on the same page.
You could wind up with the worst of all worlds situation if you move and key members of your family decide to stay behind. Not only would you be dealing with domestic strife, the California taxing authorities may decide that all your strong connections are still in California and therefore you should be taxed as a Golden State resident.
Thoughtful strategic planning should be done to sever your ties with California and determining whether this is the right path for you.
If you are considering leaving California or have already done so and you have any questions or concerns, please reach out to your RINA professional – Your Future is Our Focus.