Your Expatriate Tax Return May Need to Include a State Tax Return
Many Americans are surprised to learn that they may be required to file a State return as part of their expatriate tax return. In fact, it can be difficult to give up residency status in some of the 50 states. A few of the more stubborn states will go out of their way to hold you liable for your US expat State taxes. Even if you have been working overseas for several years, you may need to file. The key to escaping these tax traps is to sever your ties with the state. Doing so will mean no State return is required as part of your expatriate tax return.
Favorable States for Expatriate Tax Returns
Of the 50 states, there are nine that offer favorable conditions for expatriate tax return purposes. Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming have no state income taxes at all. This essentially means that there is nothing for them to try and collect when you are working abroad. New Hampshire and Tennessee are also considered favorable states for expatriate tax return purpose because they only collect taxes on dividend and interest income.
Do you have residency in any of these nine states? You can work overseas without having to worry about getting a state tax bill. No individual taxes on income are collected in these regions. It may be in your best interest to move to one of the favorable states before heading off to work overseas. This could save you money by avoiding state taxation and not having to file a State return as part of your expatriate tax return.
Unfavorable States for Expatriate Tax Returns
If you last had residency in California, South Carolina, Virginia or New Mexico, you will have a much tougher time shedding their residency status. You will likely need to include a State return with your expatriate tax return. Each of these governments see their taxpayers as a state asset. They are not willing to give these assets up without a fight. Unfortunately, this means that you will bear the burden of proof. You need to convince the government that you will no longer be living within that jurisdiction.
Plan on returning to one of the above states as a resident in the future? It will be very difficult to prove that you’re no longer an actual resident. California and South Carolina are especially diligent in searching for any type of ties that a US expat still has to his or her former community. You are likely to be required to file an expatriate tax return in these States if you have:
- Mortgage or lease payments on property
- A state driver’s license
- State bank accounts or investments
- Telephone and utility bills
- Voter registrations
- Library cards
- Mail correspondence
- Association memberships
- Dependents living within the state
In order for you to successfully terminate your residency status with one of the four states listed above, most or all of the above ties will have to be replaced with a permanent address in another region. It would not be convincing enough, for example, to rent out your primary home in California and have your mail forwarded to a relative in Florida. In the state’s mind, this only shows a temporary leave of absence. In fact, you will always be required to pay taxes on rental or employment income generated from within these states, regardless of whether or not you are still a resident. As you would imagine, this would need to be done on your state expatriate tax return.
Neutral States for Expatriate Tax Returns
Of the remaining 37 states that have not been listed, the conditions are neither favorable nor particularly difficult for US expats. Most of these states will consider you a non-resident after being outside of the territory for at least six months. You simply need to provide proof of residency elsewhere.
Minimizing the Risk That You Will Need to File an Expatriate Tax Return in Your State
Are you planning on moving abroad and want to minimize your state expatriate tax return burden? You will need to do some careful planning. This should take place well before leaving the United States. Many people would advise you to simply relocate to one of the nine income tax-free states before departing the country as a way to minimize your US expat taxes. Sadly, it is not as simple as buying a home in Alaska one day and flying overseas the next. Here are a few tips for minimizing the likelihood you will need to file a State return with your expatriate tax return:
- If you are going to change residency to one of the more favorable states, try to make the move several months or a year before heading overseas.
- Do not leave dependents inside the state you are trying to end residency with, specifically California, South Carolina, Virginia or New Mexico. It will make it much more difficult to achieve your goal.
- Sever as many physical ties as possible to the state you are trying to end residency with. If you have mortgages, bank accounts or bills, there is may be a problem. They create a long paper trail. Even if you are not there physically, the paper trails show a plan to return.
Expatriate tax return planning is key to successfully minimizing your US expat taxes. State taxes and the requirement to file can be a headache. Some advanced planning should be able to minimize this burden. At the very least, you should be aware that you may be required to file a State return as part of your expatriate tax return requirements.
More questions about your expatriate tax return?
Have a look at the next post in this series on no tax zones and how they affect your expatriate tax return. If you have further questions or would like to know more about our expat tax services, please contact us.