Things to Know Before Moving From
a High-Tax State to Save Money
Unfortunately, taxes in certain states continue to rise. For instance, in California, the current tax rate of 13.3 percent is the highest in the US. However, there’s more bad news. When the Tax Cuts and Job Acts passed in 2017, the government limited the local deductions that residents of this state could claim on their federal tax return to $10,000.
Feeling tremendous financial pressure, it’s not surprising that a lot of people want to leave California for a state with much lower taxes. However, that’s easier said than done for business owners or those with established careers. On the other hand, it’s an opportunity for individuals heading into retirement.
For many retirees, the thought of paying less in taxes combined with the chance to live somewhere new is compelling. Some even want to find a rental home so they can do more traveling during their golden years. For these individuals, this sounds great. However, if they want to benefit from a move, it’s essential that they do things the right way. The first thing you should do is find tax consultation services familiar with the area you're in and where you're going to take a look at everything and tell you what the variables for tax responsibility are and if this is a good move or not.
Does Moving to a Lower Tax State Make Sense?
That’s the first question that people need to ask themselves. For some, the answer is easy, while for others, things get a little complicated. For instance, if someone living in a high-tax state doesn’t pay much to the state, nor do they anticipate paying much later one, then perhaps they shouldn’t move.
After all, there’s a lot involved in moving, even with a small relocation. Especially for people who own a home, they have to sell it, find a reputable moving company, pack everything up, change their address, choose a new doctor, and the list goes on. So, someone who pays minimally in state taxes might feel it’s better to stay put.
Then there are the people who pay a lot in state taxes. Although they’d still need to go through the process of picking up and moving, ultimately, this would relieve some of their financial pressure. This will determine whether it makes sense to move from a high-tax state to save money.
There’s another factor involved with the decision to relocate. That has to do with an individual’s retirement plan. For this, they need to compare what they have now against what they would have in a different state. As an example, someone with an 83 percent successful retirement plan in California might find one with a 94 percent success rate by moving to the state of Nevada.
That’s a big jump that could make retirement more comfortable. However, that person would also need to go through the process of weighing all the other pros and cons to make a decision as to whether leaving their current home is the right thing to do.
New State Equals New Tax Rules
One thing, in particular, stands out. Too many people believe that to become a resident of another state, all they have to do is reside there for 183 days. As a result, some people end up paying a hefty price for misinformation.
One couple ready to retire decided to get out of California because of the high taxes. Considering Nevada doesn’t have any state tax, this was their chosen destination. So, they kept their home in California but purchased a second one in Nevada. With dividends, interest, and even working part-time, they expected to make well over $150,000 a year. They thought physically residing in Nevada for 183 days eliminated them from paying the high taxes in California.
So, they followed the plan and even took a few overseas trips. However, when they returned to their California home, they received a notice from the IRS about getting audited. That’s when they discovered that not only are they required to pay taxes on all their income, even while living in Nevada, but they also had to pay interest, as well as penalties.
This is a prime example of doing things the wrong way. Even so, there are options that allow someone to leave a high-tax state to live somewhere else to save money.
Keep in mind that every state has different rules as far as residency. As for California, this is how they define a resident:
- Currently lives in California for other than transitory or temporary purposes.
- Currently lives in California but is outside of the state for transitory or temporary purposes.
Simply put, even if someone has a second home in another state, if they reside in California for any reason other than transitory or temporary, they’re considered a legal resident. As part of that, earned income, whether from California or another state, gets taxed in California.
So, before leaving California to live elsewhere as a way to save money, understand how the rules work and make sure you become a resident of your new state properly. Otherwise, you could end up in a worse financial state than before.
Run The Numbers
You should use a financial planning calculator or retirement software to figure out if it makes monetary sense to move. Run the numbers using different tax rates. The end result might not be a big difference. But the numbers could change dramatically if you move from a high tax state such as California or New York to a zero income tax state such as Washington, Texas, or Florida. If you don’t want to do this yourself you should hire a financial planner to help you.