Navigating State Tax Laws: Living in One State and Working in Another

Many individuals find themselves in unique situations where they live in one state but work in another. This arrangement can raise questions about tax obligations. Is it possible for someone to avoid paying taxes on income earned from both states? This article will explore the intricacies of state residency, domicile, and income tax requirements, explaining why such avoidance is typically impossible.

Residency vs. Domicile

The terms 'residency' and 'domicile' are often confused, but they carry distinct meanings. Residency refers to the state where an individual is legally considered to reside for tax purposes. Domicile, on the other hand, is the state where an individual has established a permanent home and intends to return, even if they are temporarily away. Simply living in a state for more than 183 days does not necessarily make you a resident in that state for tax purposes.

For tax purposes, prolonged presence in a state usually leads to residency classification. For instance, if you stay in a state for long durations, you are likely to be considered a resident and thus subject to state income tax on income earned within that state. If you work from a remote location within a different state, it can still be considered working in the state in which the employer is located, which carries its own tax implications.

State Tax Obligations and Domicile

The broader picture involves the concept of domicile. Even if you live in one state while working in another, your domicile significantly affects your tax obligations. Legally, a person can only be a resident of one state at a time. For instance, if you live in State A but work in State B, you would be considered a resident of State A. This means you would need to file a tax return in State A, where you live, and potentially in State B, where you work, or in a state where you maintain a permanent domicile.

Being a resident of a state means you are subject to that state's income tax on all your income earned within the state. This includes wages, salaries, and other forms of income earned while working from a remote location. This principle holds even if you rotate between multiple states or use temporary housing, as your domicile remains crucial for tax purposes.

Three-State Scenarios and Tax Filing

Consider a situation where you are working in State A and residing in State B, neither of which is your state of domicile. Each state might have its own tax laws concerning out-of-state residents. The key issue to consider is the tax laws of both states you are working and living in, as well as your domicile state.

Each state typically requires its residents to file a tax return and pay income tax on income earned within that state, regardless of where the work is performed or where the employer is located. The state of domicile has its own income tax requirements, and you would also need to file a tax return there.

In a scenario involving three states, here’s how the tax obligations might look:

State of Residence (State B): You would file a tax return and pay income tax on your total income, subject to possible credits for taxes paid to other states. Note that credit mechanisms vary by state. State of Work (State A): You would file a non-resident income tax return and pay taxes on the income earned in State A. This income is subject to potential credits against your total taxes, but the specifics depend on the state laws. State Domicile: If you have a domicile in a third state, you would also need to file a tax return in that state, potentially subject to the same income tax on your income, but with possible credits.

Because the third state is neither your state of residence nor the state you work in, its tax treatment of your income may vary independently. It is possible, though uncommon, that you might need to file a third return, but the specific requirements would depend on the state's tax laws.

Conclusion

While it might seem possible to avoid paying taxes on income earned from both states, the complexity of state tax laws generally ensures that such avoidance is not feasible. Whether you live in one state, work in another, or maintain a domicile in a third state, you are likely to be subject to tax obligations in the state where you reside, where you earn your income, and potentially where you have a permanent domicile. Understanding the intricacies of residency, domicile, and state tax laws is crucial for navigating your tax responsibilities accurately.