More clients are seeking ways to reduce their overall tax burden by moving to low-tax states. As a tax preparer, you play a vital role in helping them take the right steps. Establishing residency can be complicated, and even small mistakes may result in audits or unexpected tax bills.
This guide explains how taxpayers can establish residency in a low-tax state, how to document the process correctly, and what tax preparers should know to ensure compliance.
A low-tax state is generally one with a below-average state income tax rate or no income tax at all. Residents may also benefit from lower sales and property tax liabilities.
To understand what makes a state “low tax,” it helps to review how states differ in income, sales, and property taxes.
According to the Tax Foundation, 42 states levy individual income taxes, while nine states have no income tax on residents. Although the rate may depend on the taxpayer’s gross income and filing status.
Those who benefit most from moving to a low-tax state often include:
Most states also impose sales and property taxes, which can greatly affect total tax liability. 45 states collect statewide sales taxes, and thirty-eight states allow additional local sales taxes.
Property taxes are a major source of revenue for local governments. These governments rely heavily on property taxes to fund schools, roads, police departments, and emergency medical services.
Tax structures can vary widely. For example:
Clients need to consider how all state taxes combined will affect their overall situation.
A WalletHub study analyzed each state’s tax burden, which measures the proportion of total personal income that residents pay toward state and local taxes.
WalletHub compared the 50 states based on the cost of three types of taxes — property taxes, individual income taxes, and sales and excise taxes — as a share of total personal income in the state.
The ideal state depends on income type, lifestyle, and long-term goals, which is why a complete evaluation of the total tax structure is always necessary.
For both income and estate taxes, the distinction of domicile versus residency determines a person’s true tax home. Many states use domicile as the deciding factor for tax purposes.
An individual generally has only one domicile, which is the place considered their true home and where the individual intends to return to when away. A domicile is intended to be permanent rather than temporary, and domicile requires residence.
Domicile is generally established by extrinsic evidence of intent. A change in domicile must be evidenced by a move to another location with the intention to make the new location the place of principal residence.
The burden of proving change is on the party alleging it (the taxpayer).
Many individuals have more than one residence, but homeowners should work with tax and legal experts to determine one domicile for tax purposes.
A residence is defined as living in a particular locality and requires mere physical presence. Residence alone does not establish the intent to remain permanently, which is necessary for domicile.
Many states apply the 183-Day Rule to determine residency for tax purposes. A person who spends more than 183 days in a state is generally considered a full-time resident for taxation.
Taxpayers who move from a high-tax to a low-tax state can reduce their tax liability significantly. Accurate record keeping is essential in case the state challenges their claim of residency.
Your client’s legal residence is the place where they maintain family, community, and professional ties. An existing domicile remains in effect until a new one is established. This principle is often called the “leave and land” rule, which means a taxpayer must both leave the former domicile and firmly establish a new one.
As a tax preparer, your role is to help clients demonstrate and document that transition. Encourage clients to maintain consistent records that substantiate their intent and physical presence in the new state.
Advise clients to track where they spend their time throughout the year. When multiple homes are maintained, the client should spend more days at the principal home than at any other. The primary residence should be clearly distinguishable, including being more fully furnished and regularly occupied.
Encourage clients to participate in local life. For example, by joining clubs, religious organizations, or community groups within the new domicile state.
Where applicable, help clients document that their primary work or business activities occur in the new state. If possible, relocating key business operations strengthens their domicile claim.
Recommend that clients establish connections with in-state professionals such as bankers and attorneys. Opening primary bank accounts in the domicile state and updating estate documents, such as wills, to reference the new domicile can further support intent.
Ensure that clients file both state and federal tax returns using the new address and pay any due taxes from accounts tied to the domicile state. Assist them in notifying tax authorities in their former state that they have changed residency to prevent conflicting claims.
Guide clients to complete a Declaration of Domicile, if applicable in the state, and retain a copy for their records. Confirm that official documents reflect the new address, including vehicle registrations, credit cards, Social Security records, mortgage and lease documents, and voter registration. Obtaining a new driver’s license and registering to vote in the new state are both strong indicators of intent.
Residents of low-tax states often enjoy little or no income tax liability, which can create substantial savings for high-income individuals and retirees.
17 states and the District of Columbia impose estate and/or inheritance taxes. If a person is domiciled in one of these states at death, the entire estate may be subject to tax, even if assets are located elsewhere. Moving to a low-tax state may eliminate this obligation.
Your clients may be able to take advantage of state tax incentives, particularly if they operate a business. States offer tax incentives for job creation, R&D spending, and employee training.
Individuals may also qualify for child and dependent care tax credits, and educational tax incentives.
During the transition period, clients may find themselves connected to both states. This situation is known as dual residency. Both states might attempt to claim tax authority, which can create complications.
Advise clients to maintain detailed records of where and when they spend their time. Reducing ties to the former state will also help to solidify residency in the new one.
Meeting the 183-day rule in the new state is a good start, but intent and documentation are equally important.
Helping clients establish residency in a low-tax state can provide significant long-term tax savings, but the process requires precision and careful documentation. As a tax professional, your role is to guide clients through complex state laws, filing requirements, and residency rules to ensure compliance and avoid costly mistakes.
Sigma Tax Pro supports tax preparers with professional-grade tax software and resources designed to help you deliver accurate, efficient service. From advanced tax preparation software with integrated bank products to ongoing technical support, Sigma Tax Pro is your partner in providing high-quality client outcomes.
If you’re ready to elevate your practice and better serve clients relocating to low-tax states, reach out to Sigma Tax Pro today.
