Second, state tax liability based on residency is almost always a state legal issue alone. Without any federal involvement, residency decisions are left in the hands of state courts, which some lawyers believe are subject to an inherent conflict of interest in favor of the state that pays their salaries. The result can be double taxation and exposure to extra levies-such as New York City's 3.5% income surtax-only payable by legal residents.

Another issue that may prove to be problematic in the years ahead involves taxpayers operating a partnership or LLC in states where they aren't residents.

This issue would come up where there is divided residency: the partnership "resides" in one state, while one of the partners lives in another. In such cases, the partner needs to file two tax returns, one in the state where the partnership resides (and thus, where he receives income) and one where he himself resides. Again, in the simplest situation the partner would then claim a tax credit on his home state return for taxes paid to the state where the partnership is situated.

However, this scenario assumes two things. One is that the partnership's state imposes an income tax on the partnership (treating a partnership, in essence, as it would an individual). But some states don't. Instead, they tax receipts rather than income. There could be cases in which the partnership state imposes a gross receipts tax or franchise tax but the partner's home state imposes an income tax. It is then arguable that since the partnership hasn't paid any income tax, it would be inappropriate for the partner to claim a credit on his home-state income taxes.

There could also be complications if the partnership state imposes income tax on the entity level. In other words, instead of Partner Smith earning $100,000 from the partnership and reporting that income on his tax return in the partnership state, the partnership reports the income and pays the tax. Again, arguably Partner Smith could not claim a credit in his home state because he hasn't paid income tax himself, only the partnership (of which he is a part owner) has.

The problem ends up in the home state of the partner, which might not award him a credit. So he might be effectively (if not strictly) double taxed.

Business owners thinking about relocating also need to know whether the states they operate in use a "single sales factor" test or the "triple factor" test to apportion business tax liabilities. The triple factor test, which is still the law in more than half the jurisdictions, apportions a business's tax liability according to a formula based on its in-state sales, property holdings and payroll. The idea is that these three factors in tandem better represent a company's in-state presence than sales alone.

But states like Texas, Oregon and Pennsylvania use only one-factor sales. This is usually adopted to simplify corporate bookkeeping. But it can be a double-edged sword. If companies can concentrate their operations in single-factor states, they will pay lower taxes in the multi-factor states. If their operations are located more in multi-factor states, however, they will pay higher taxes there.

Another issue faced by businesses in the state tax arena is the increased interest of the states' departments of revenue in challenging companies' classification of income as "non-business" (in some cases, they are abolishing the non-business income category altogether). In most of the states that retain the distinction between business and non-business income, revenue will be subject to apportionment if it is earned in the regular course of trade or business or earned using property integral to regular business. While the first element is the source of some disputes, it is the second that has generated more litigation, as states increasingly claim that interest or dividends should be apportioned if the intangible property generating the interest or dividends was itself earned in the regular course of business.

"Sorting out business from non-business income can become extremely technical and complicated, especially since the method can vary from state to state," says Marvin Kirsner, a corporate tax attorney with Greenberg Traurig LLP. "It's something to consider when a company is seeking to expand or relocate."