State Tax Residency Audits

How State tax residency audits work and how to prepare.

State tax residency audits

Many states target individuals that cease filing resident income tax returns or file non-resident tax returns, in either case, after having filed resident income tax returns for one or more tax years. Due to statute of limitations issues, these non-resident audits typically are initiated within 2-3 years of when this change in return filing status commences.

In most residency audits, to be successful in avoiding full taxation in a state, a taxpayer will generally need to show that (a) that they have changed their domicile or principal place of residence to a new state and (b) in most states, that they are not statutory residents (which typically requires a showing that the individual did not spend more than a proscribed number of days in the former state (often 183 days) and does not maintain a residence of any type (owned, rented or otherwise available) in the former state).

As a threshold matter, a taxpayer must show that they are not statutory residents. This is a largely objective test. In New York, a statutory resident is an individual who "is not domiciled in this state but maintains a permanent place of abode in New York State and spends in the aggregate more than one hundred and eighty-three days of the taxable year in this state, unless such individual is in the active service of the armed forces of the United States". This provision is commonly known as the 183-day rule. A permanent place of abode must generally be suitable for year round use. It does not matter whether a taxpayer owns, rents or simply has the residence availble for use. Ownershp by a spouse is sufficient. In New York, “substantially all of the year” has been administratively defined to generally mean a period exceeding 10 months. A taxpayer who is maintaining a permanent place of abode bears the burden of proving that he spent less than 184 days in New York State or City for each year of the audit period. The requirement to keep adequate records is set forth in 20 NYCRR 105.20(c), as follows: “Any person domiciled outside New York State who maintains a permanent place of abode within New York State during any taxable year, and claims to be a nonresident, must keep and have available for examination by the Department of Taxation and Finance adequate records to substantiate the fact that such person did not spend more than 183 days of such taxable year within New York State.” In New York, presence in state for any portion of the day counts as a day, unless in transit (for example, at an airport for connecting flights) or in a medical facility for treatment. Other states have different standards. See day count tracking for more information on day counting

If a taxpayer is able to show that they are not a statutory resident under applicable state tax law, they must still establish that they have established their domicile or primary residence in another state. This is a more subjective facts and circumstances determination. Day counts are still relevent, but here the auditor is likely to focus on whether the taxpayer had a permanent residence in the claimed domicile state, whether the taxpayer had a business interest in the claimed domicile state or the old state and where the taxpayer's other family members are located. Other factors such as location of doctors, lawyers, accountants, voter registrations, drivers licenses, car registrations, vets, etc... are also pertinent. Common sense often informs what the outcome likely will be on this line of inquiry.

Certain states such as New York provide written residency audit instructions and guidelines for their auditors. These provide helpful insights for taxpayers and their advisors as to the types of information that will be at issue in the event of a residency audit.

As should be apparent from this discussion, day count tracking is a critical factor in establishing your residency and domicile. For more information on the Domicile365 App and its day count tracking features, please see our software page and download the Domicile365 App from the Software page or from the links below.