Even if the state agrees that you are not subject to tax as a resident, nonresidents are subject to tax on income from sources within the state. The rules on allocating income can result in multiple states claiming the right to impose tax on the same income. While the state in which the taxpayer is a resident will provide a credit for nonresident taxes paid to another state, each state will determine the amount of the credit based upon its own laws setting up the potential for conflicts between states and potential double or triple taxation of the same income. For example, most states impose tax on compensation for work performed in the state. However, several states, including New York and Massachusetts, as well as Delaware, Nebraska, and Pennsylvania, seek to impose tax based on the location of the employer where the employee is regularly assigned. In many cases, the taxpayer is caught between two states claiming the income is properly sourced to their state and is not provided a credit since each state applies its law without regard to the other state’s law. 

For example, Massachusetts adopted an emergency regulation implementing a convenience of the employer provision imposing Massachusetts nonresident income tax on employees who regularly worked from a Massachusetts employer’s offices but were working from their homes in New Hampshire during the pandemic. New Hampshire, a state without an income tax on wages, sued Massachusetts in the U. S. Supreme Court on October 19, 2020 (Docket No. 220154) claiming that the Court has original jurisdiction in this dispute between two states and arguing that Massachusetts’ taxing nonresidents working outside Massachusetts is unconstitutional. Fourteen other states have joined New Hampshire asking the court to hear the case and urging the Court to hold that taxing those who are not working within the state is unconstitutional. On January 25, 2021, the Court invited the Solicitor General of the United States to weigh in on whether the Court should accept the case.

As mentioned previously, a nonresident must pay tax to a state if they have income sourced to that state. Every state with an income tax will treat income from real estate located within its boundaries as income sourced to that state. In addition, wages for services performed in the state and income from a business carried on in the state will also be subject to that state’s nonresident income tax.  Consequently, for some taxpayers, there might not be much of a difference in taxes paid as a nonresident. Also, to the extent that a credit is available for taxes paid to another state, there may be little economic effect depending on the circumstances of a particular taxpayer. For those moving to or living in a state with no broad-based income tax (Alaska, Florida, Nevada, South Dakota, Texas, Washington, Wyoming and, as of 2021, Tennessee; New Hampshire taxes interest and dividend income), the credit for taxes paid to another state won’t help.

There could be benefits to filing a tax return as a nonresident. Filing a nonresident tax return will start the statute of limitations running for an assessment for that year. In general, states have three years after the filing of a tax return to audit and assess tax, including a determination of whether a taxpayer is a resident for that year. If no tax return is filed, the tax may be assessed at any time. Those claiming a change in residence who choose not to file a tax return will not have a statute of limitations defense and could face an inquiry or an audit years after the move when records may not be available and incurring substantial interest charges, as well as penalties.

States are gearing up to do audits of anyone with significant income who changes their residency status. For example, New York and California have a history of audits that can go on for years and be intrusive and costly. New Jersey, Massachusetts and Connecticut are increasing their audit activities as well. These audits are not your ordinary examinations that verify taxable income and deductible expenses. Residency auditors will ask about intimate details of relationships, talk to neighbors, doormen, and local shopkeepers to determine where time is spent and verify that information with credit card statements, diaries, appointment calendars and cell phone records.

In the end, you can change residency and, if the proper steps are taken, do it successfully. However, be aware that an audit can take place, and be prepared if that is the case.

Glenn Newman is a shareholder at the law firm of Greenberg Traurig LLP.

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