States Targeting Snowbirds Fleeing to Tax-Friendlier Climates
Wealthy taxpayers who split time between states should be prepared to prove where their true home lies.
You're lounging by the pool of your second home in Florida, chuckling as you think of your friends back home braving the blizzard in Massachusetts. And you're musing: Perhaps it's time to escape your state's tax bite as well as the bite of winter -- by claiming your Florida home as your permanent residence.
Snowbird: Prepare for battle. Tax auditors in California, Massachusetts, Minnesota, New York and other states that impose income taxes are unlikely to let you off the hook without a fight. Retirees who buy second homes in states with low or no income tax and claim they've changed their legal residence can face months of intense scrutiny from state tax auditors -- perhaps even litigation.
If you're tapped for an audit, expect an aggressive probe into many corners of your personal and business life. "They'll ask for your bank statements, the clubs you belong to, descriptions of both homes and where you keep your personal items," says Philip Olsen, a tax lawyer at Pierce Atwood, in Boston, who represents clients who seek to change their permanent residence. Olsen is a former litigation supervisor for the Massachusetts Department of Revenue.
Of course, most people who switch states are not targets of state audits. But if you are wealthy and keep your social and professional contacts and large homes in your longtime state, don't be surprised if tax collectors come calling -- especially if you decide one year to file a partial state tax return or no return at all.
Many snowbirds, including a growing number of aging baby boomers, claim they're changing their formal residence for the relaxed lifestyle. But the tax savings can be a big enticement as well -- even more so as California, Maryland, Minnesota and other states have hiked income taxes on the wealthiest in recent years.
In Illinois, for example, Steven Siebers, a lawyer in Quincy, says he knows many people who "started saying it's time to move someplace else" when the state income tax rose to 5% in 2011 (it dropped to 3.75% in 2015). "A 5% tax on $800,000 or $500,000 in dividend income is a lot of party money in Florida," he says.
Whether they're looking for sunshine or a sunnier tax climate, these migrants are taking a load of tax revenue with them. More than 173,000 residents who moved from Illinois to Arizona, Florida and Texas, for example, took with them more than $8.5 billion in adjusted gross income between 2000 and 2010, according to an analysis of federal tax returns by the nonpartisan Tax Foundation.
Eyeing those numbers, state tax auditors have a lot of incentive to get tough. At the core of most audits: whether the taxpayer can prove that he has established a "domicile" in a new state, even if he keeps a residence in the old state. Although state laws and definitions differ, a domicile is basically the place where you intend to remain permanently and return to from your travels. If you own a house in Buffalo, but claim a domicile in Boca Raton, "you have to prove that in your heart you're not a New Yorker," says Allan Lipman, a lawyer who advises New Yorkers on domicile cases from his offices in Williamsville, N.Y., and Boynton Beach, Fla. (He claims domicile in Florida.)
It's not enough to emote to hard-nosed tax examiners about your passion for your new state. If you get audited, you'll need to back up your state of mind with a suitcase full of cold facts. In Minnesota, the goal of its audits is to ensure "that taxpayers are reporting and paying the correct amount of tax -- no more, no less," says Ryan Brown, spokesman for Minnesota's Department of Revenue, which completed 488 residency audits from 2013 to 2015.
In its 128-page guide for its auditors, the New York State Department of Taxation and Finance suggests that they can collect bank ATM receipts that note the location of withdrawals, insurance policies that show where valuable items are kept, utility bills for both houses that "may reflect regular or seasonal use,” employment contracts and personal calendars.
New York conducts about 3,000 audits on nonresident income tax returns a year -- just a small percentage of the annual 1.1 million nonresident returns it receives. "We have historically taken tax compliance seriously, and we continue to do so," says Geoffrey Gloak, spokesman for the state's taxation department.
States also are turning to technology for clues, according to lawyers and accountants in several states. Enforcers may scour online news accounts to see if a high-net-worth snowbird won a recent civic award in the high-tax state -- evidence of a deep connection. An auditor may use Google Earth to compare the size and features of houses in both the new and the old state. And examiners could check Facebook -- looking for public postings of travel plans and photos.
Want to prove your heart belongs in income-tax-free Nevada? Spend a lot of time there. More than half the states go by a 183-day rule: Spend more than half the year in the state -- say, Minnesota -- and that's your home sweet home for tax purposes. "You are considered a full-time resident -- it's a bright-line test," says Joel Germershausen, a certified public accountant in Minneapolis who is a manager in the state and local tax practice for accounting firm Baker Tilly Virchow Krause. Even partial days count, Germershausen says. If a snowbird arrives in Minnesota at 10 p.m. on a flight from Florida, those two hours count as a full day.
If you're challenged, you may need to document where you were on just about every day of the year. Besides reviewing plane or other travel records, auditors, in all likelihood, will review your credit card statements to see where you went out for dinner, bought gas and had your hair cut. Kelly Zarcone, a lawyer who works with Lipman, recommends that clients keep copies of their SunPass highway-toll statements "to prove you're in Florida on a certain date."
Where Are Your Wedding Photos?
Even if you show you spend less time in Minneapolis than in Miami, auditors may consider other factors to gauge the depth of your ties. And simply changing the location of your car registration, driver's license and voting registration may not be enough.
Olsen recommends that his Massachusetts clients buy a cemetery plot in the new state (unless they already have one up north). Subscribe to local newspapers in the new state, and cancel ones in the old state. Open a safety deposit box in the new state, and transfer your valuables to it. Resign from clubs in the old community, or change your status to nonresident.
Nothing is too small to consider. If you apply for a fishing license in the old state and check the "resident" box, you could be undoing your claim that you have moved. Also move items that are "near and dear" to you to your new home -- wedding albums, stamp collections and family heirlooms. And while auditors may understand that you need cars in both places, Germershausen says, "you should not have three cars registered in Minnesota and one beater in Florida."
Your business ties can also come into play. If you're still involved in a business in the old state, an auditor could cast a wary eye if you are actively involved -- even remotely from poolside. The state may try to claim that you have not changed domicile -- or, that even if you did, you owe tax on the income you generated.
Consider one of Zarcone's clients who had moved to Florida, leaving his son to run the family business in New York. If the father continued working, New York could claim that he owed tax on his income. Because he did not need the income, Zarcone says she suggested that he stop getting W-2 income and rely on his stock in the business. "If you sell the stock and you're domiciled in Florida, you don't pay New York state income tax on the capital gain," she says.
If you're planning to sell a business and claim your domicile elsewhere, first seek advice from an expert. The capital gains could either be tax free in the new state or taxable in the old state -- or a combination of both -- depending on the structure of the business.
Also, be careful of timing if you sell a significant amount of stock, Germershausen says. One of his clients made a big sale around the time he moved to Florida. Minnesota wants to tax the gain. "I'm claiming he was a Florida resident at the time of sale," he says.
Unless you fail the 183-day rule, no single factor will tip the scales, according to auditing guidelines in several states. For example, while auditors look at the relative size of the two houses, Lipman says he's been able to persuade auditors that a larger and more valuable house in the old state should not be a deal breaker. In Florida, "the house may be in a gated community and the client owns a piece of the clubhouse with a swimming pool," he says. "So it's not just the size of the house but the amenities as well."
Although some cases end up in court, it's likely the audit will end in a settlement, experts say. A retiree will make all the moves that auditors require to change domicile -- and make a big tax payment to the old state.