Spurred by tax hikes, ever-increasing regulations and the recent departures of high-profile tech companies, many high net worth individuals are eyeing the exit door.
Photo courtesy of Tim Gouw via Pexels
Claims of a so-called “California Exodus” have begun again, spurred by tax hikes, ever-increasing regulations and the recent departures of high-profile tech companies and other emerging industries.
It’s not just billionaires like Elon Musk or celebs like Joe Rogan turfing for the allegedly greener pastures of states like Texas and Florida. Many of my clients are low profile, high net worth individuals eyeing the exit door, and there are others who have already made a break for it.
This isn’t just some concern of the uber wealthy. Single Californians pay a 9.3 percent rate once their income exceeds $58,635, which is enough of a bite to make anyone consider a move elsewhere. Couple this with the surge in popularity of remote work and suddenly the “California Exodus” seems a lot less theoretical.
But as The Eagles point out, “Hotel California” isn’t an easy place to leave.
The beautiful weather, the outdoor recreation and social opportunities, the culture—these are difficult things to walk away from. But perhaps even more frustrating are the hurdles to a Golden State exit—committing to a move takes time, money, determination and forethought.
Luckily, the greater your forethought, the less of the rest you should need. Here, I’ll provide advice for tidy beginnings to ending your relationship with the state.
Understand What “Leaving” Actually Means
The tax realities are such that California ranks among the most aggressive states when it comes to proving one’s residency. Many people want the benefit of being in California without being considered residents of California, and the state knows it. So, if you’ve committed to leaving, you need to understand what that actually means, and you need to set yourself up such that if you’re ever challenged on an audit, you can be confident you’ll prevail.
An important step one is selling your California home, or getting it rented out to an unrelated third party. The Franchise Tax Board will look at the continued ownership of a personal residence as evidence that you haven’t cut ties with the state, even if you really aren’t living there. And they might still be skeptical if you’ve transferred the deed to a family member or close friend.
If you own a home in California while owning a home elsewhere, and you’re spending the lion’s share of the year outside of California, the tax board will expect you to have the documentation to back that up.
Heading Off the California Franchise Tax Board
When you file your nonresident return, you’ll be asked to answer several questions about your residency, the date you became a nonresident, whether you own real estate in California, the number of days spent in California, etc.
Don’t try to be clever with your answers. If you have reason to think your return might seem suspicious, you need to have the documentation to back up your story, as your fears might be well-founded. For example, a former resident who moves to Nevada (the nearest state without an income tax) while showing a multimillion-dollar capital gain in the period immediately after your move out of state might as well put an “audit me” sign on their California tax return.
This will be an inevitability for some high-income earners leaving the state.
A Proper Move Takes Time
You can’t walk into a financial planner’s office after reading this and say “I’m moving tomorrow, and I’ve got all this income coming in the day after that, which I don’t want to pay a California tax on.”
A residency audit is one of the more invasive audits you can go through because they’ll ask for every credit card statement and look at the location of every charge made on that credit card. They’ll also check to see if payees of checks and debits from your checking account are California-based. It’s an awful experience to go through, and an expensive one, requiring a knowledgeable CPA who can navigate through it.
Residency audits also happen to be very profitable for the state, and like a dog with a bone, they might not relent on a chase even if a taxpayer has a compelling case. I’ve had a number of high-profile clients with solid cases for non-residency and troves of documentation to back it up, yet the state still aggressively pursued residency claims, likely in the hopes that the taxpayer would want to put the matter behind them and settle.
No surprise then that so many of these audits end in settlement. The best course is to avoid this alternative altogether, and the best way to do that is pre-planning, with plenty of advanced notice for your financial planner.
Mark A. Pariser is a certified public accountant at Dunn I Pariser I Peyrot. His practice emphasizes the proactive management of the tax and financial affairs of a variety of people who work in film, television, music and technology. His clientele also includes touring acts, international executives and entrepreneurs and other high net worth individuals and their businesses.