The shift to remote working during the COVID-19 pandemic has been embraced by both employees and employers. This change will likely continue to varying degrees by many companies.
Although remote working offers great benefits, employees need to know about the possible tax consequences and how to navigate them.
Yes, you can get taxed twice!
If you’ve shifted to working from a state other than your pre-2020 employment location or home, you may get taxed twice. That’s because there can be income tax consequences from dual residency — creating double taxation. So, it’s important to understand statutory residency and domiciliary residency and how they affect your personal income taxes.
Two residency types: domiciliary and statutory
Whether you have resident or nonresident status can have a significant effect on your taxes. Residents are usually taxed on their worldwide income, while nonresidents are usually taxed only on state-source income.
Individuals can be considered a resident for state personal income tax purposes if they fall into these categories: (1) domicile or (2) statutory.
Although domicile is defined differently by the state in which you reside, it generally refers to the state of your principal place of abode and where you intend to return. It’s determined by several pieces of evidence including, but not limited to, the place of principal residence, voter registration state, the issuing state of a driver’s license, the state where government mail is received, and the amount of time spent in a state.
In some states, a person’s family ties within the state is also considered. Each individual can only have one domicile, and it only changes when there is concrete evidence of such.
Proof Positive: Document. Document. Document.
If you want to prove a change in your domicile, you must show documentation. The following demonstrates intent to switch domicile:
- Obtaining a new driver’s license in a new state
- Registering a vehicle in a new state
- Buying a home in a new state
- Moving belongings to a new state
- Registering to vote in a new state; or
- Engaging medical professionals in a new state.
Want to move back to your original state?
If you decide to move back to your original domicile after one or two years, be aware that it could jeopardize the case that your original domicile had changed. For example, if you left your state for the length of the pandemic and now intend to return, it’s doubtful that you will convince a state that your domicile has actually changed.
Proof of statutory residence is much easier than domiciliary residence. In many states, a statutory resident is a person who maintains a dwelling in the state and spends more than 183 days in that state (in some states, the number of days is 182 or 184).
To prove you have not become a statutory resident, you need records showing that you haven’t exceeded the 183-day limit. The definition of “dwelling” varies state-by-state but usually doesn’t include homes that are seasonal/unwinterized or lack a kitchen and bathrooms.
Here’s an example of how you can be considered a statutory resident in one state while still being considered domiciled in your original or home state.
Jane owns a home in State A and considers it her domicile state. Her driver’s license, bank accounts, and voter registration is in that state. In addition, she has family and economic ties there.
However, Jane rents an apartment in State B where she works four days a week. She spent 180 days in State A and 185 in State B during the year.
Jane is considered a statutory resident of State B for the tax year since she spent 185 or more days in the state (State B sets 185 days as the threshold) and maintained a permanent dwelling there.
Using this evidence, Jane is a domiciliary resident of State A as well as a statutory resident of State B. Thus, she is a resident of two states.
Jane is now subject to dual taxation. Both of the particular states where Jane has residences can tax her on her total income because she qualifies as a resident in both states. Many states allow an individual tax credit for taxes paid to other jurisdictions, but the extent of the credit varies depending upon the state.
The state of domicile usually allows an income tax credit for taxes paid to other states for income that is also taxable in the domicile state. However, the way statutory resident states treat credits for income tax paid to the domicile state is not as clear, and states vary in their regulations. That is why each individual needs to speak to a tax expert who knows the laws for their specific state residences.
Tax credits are not available for every type of income in every state
Dividends, capital gains, and intangibles do not qualify for tax credits in some states. Even if one of your residence states allows for tax credits but the other one does not, you could face dual taxation of unsourced income.
The array of differing state laws could result in dual taxation or only partially offset them because of different tax rates and laws allowing only partial credit offsets.
What’s the least taxing way to deal with dual residences? Plan ahead!
Many new questions about residency tax laws have arisen due to the COVID-19 pandemic. These include whether states will alter their tax residency rules for employees who have moved to another state during this time. Although there has been guidance from some state tax authorities, many have not yet done so.
And, how about those who have left their domicile states to telework or care for family in other states? They may have intended to leave their domicile state for a short time, but as the pandemic continues, many are facing the dual-residency predicament.
Our advice to people who have relocated is to speak to a tax expert as soon as possible to avert dual-residency issues for 2021.