There have been sweeping changes to both the federal and New Jersey tax laws for the first half of 2018. At the federal level, the elimination of the state and local tax (SALT) deduction, which for decades allowed people to itemize and deduct state and local income and property taxes from their federal bill is now being capped at $10,000.
It has been widely publicized that residents of states with high SALT such as New York and New Jersey will pay much more in overall taxes than those residents of states with no income and/or low property taxes. Northeast states attempting to counteract the impact of recent federal tax laws by forming associations to sue Washington or disguising property taxes as charitable contributions are seemingly ineffective solutions. To compound the impact of the SALT limitation, New Jersey has recently increased its highest marginal rate to 10.75% for those families with income in excess of $5 million, enacted laws to impose a surtax on carried interests and increased corporate business tax rates. For more details concerning New Jersey recent tax law changes, see our previous blog post here.
As the 2019 tax season gets underway, high net worth residents of New Jersey and New York will find significant increases in their annual state tax bills. Accountants should be the first to anticipate client questions as to whether a change in residency to states such as Florida could alleviate this increased state tax burden and to what extent state tax savings can be achieved while continuing to own a residence in New Jersey or New York.
The short answer is yes. A well counseled client who becomes a permanent resident of Florida can spend significant time in New Jersey and/or New York and maintain a residence here, but successfully avoid state taxes on non-New Jersey and New York source income. On the other hand, snowbirds, spending three to five months in Florida and the balance of their time in New Jersey / New York face serious exposure, including an audit resulting in an additional assessment of tax, interest and penalties by filing a non-resident return or no state tax return without meeting the statutory requirements for non-residency status.
There are many considerations in changing permanent residence from New York or New Jersey to a tax friendly state such as Florida in an effort to escape the harsh effects of these new tax laws. Aside from feasibility issues — such as whether telecommuting is a viable option and whether children and spouses are amenable to relocating — there needs to be a thorough tax analysis before making that decision to relocate as to whether: (i) changing residence will necessarily reduce state income tax (i.e., is the income sourced in New Jersey or New York); and (ii) if so, to maximize the level of preparedness in anticipation for what will likely be a residency audit from the New York and/or New Jersey tax authorities.
New York has one of the most sophisticated residency audit programs in the country. New Jersey is also expected to ramp up its program in light of the most recent changes to its tax laws. The purpose of a residency audit is to determine whether you correctly filed your non-resident or part-year resident income tax return or if no return is filed in the years immediately following a move outside of the state. The likelihood of a residency audit is particularly high during the first year in which an individual files a non-resident tax return or no return at all.
Once audited, in making the determination of whether an individual is resident of New York or New Jersey, the auditor will first determine whether an individual is domiciled in New York or New Jersey.
If the auditor is persuaded a taxpayer has successfully changed his or her domicile from New York or New Jersey to a different state, that person can still be taxed as a “statutory resident” if he or she maintains living quarters in New York or New Jersey for substantially all of the year and spends more than 183 days in that state.
In a residency audit, the auditor will request EZ-Pass records, cell phone records, calendars, credit card and bank account statements along with travel records.
In addition, the auditor may also request utility bills, vehicle registration and voting registration in an effort to determine how strong your ties are to a specific location and whether you sufficiently abandoned your former domicile.
More intrusive steps may be taken when the auditor is not satisfied with the information that he or she has received and can even subpoena your records from third parties or depose you and/or your family members. If it is determined that you are a resident of a New York or New Jersey and you did not properly file a resident return, in addition to an assessment of unpaid tax, there can be substantial penalties and interest. For example, in New York, the penalty for late filing is 5% of the tax due for each month (or part of a month) that the return is late, up to a maximum of 25%. And the penalty for late payment is 0.5% of the unpaid amount for each month (or part of a month) it is not paid, up to a maximum of 25%. New Jersey also imposes similar penalties for failure to file and failure to pay tax along with interest charges.
If you are a resident of New York or New Jersey and you are considering changing your residency (whether tax motivated or otherwise), it is important that you seek the advice of an experienced SALT counsel to fully understand the potential benefits, feasibility and most importantly, how to effectively prepare for what will likely be a residency audit twelve to eighteen months after you file a New York or New Jersey non-resident return or no state tax return.
