New York Court Upholds Double Taxation of Dual Resident on Investment Income

A recent New York court opinion held that a resident of two states could be taxed by both states on investment income and that neither state is required to provide a tax credit for taxes paid to the other.

States have the authority to tax their own residents’ income, no matter what the source, as well as a nonresidents’ income that is derived from in-state sources. While the definitions vary by state, a tax “resident” usually includes those individuals who are domiciled[1] in the state as well as those who are present in the state beyond a certain threshold of days during a year (typically 183), among other factors. Owing to these definitions, individuals who are domiciled in one state but spend significant time in another may end up a tax resident of two states.  This can lead to a very unfavorable state income tax result, as highlighted in a New York appeals court decision issued on June 26, 2018.[2]

In that case, the taxpayers were considered to be tax residents of both Connecticut and New York; their domicile was in Connecticut, and they also met New York’s residency laws by being present in the state for more than 183 days during a year and maintaining a permanent place of abode in the state. As a result, the taxpayers were subject to tax on their entire net income in both Connecticut and New York.

Most states provide resident taxpayers a credit or adjustment to mitigate double taxation of the same income in more than one state. However, New York’s law, like the law of many other states, specifies that this credit only applies to items of income that are derived from sources within another state. This means the credit is not available for investment income from intangible assets, which are usually not sourced to any specific state but rather the taxpayer’s state of residence.

In this appeal, the taxpayer argued that New York’s taxing scheme unfairly discriminates against interstate commerce by permitting double taxation of their intangible income in both New York and another state. The taxpayer had previously lost an appeal with a similar argument but reintroduced it under the grounds that the U.S. Supreme Court decision in Maryland v. Wynne overruled the principle relied upon in the original decision because the Supreme Court ruled that a state’s power to tax its residents’ out-of-state income does not insulate its tax system from scrutiny for double taxation under the Commerce Clause of the Constitution.[3]

The court rejected the taxpayer’s second appeal, distinguishing their facts from those in Wynne. First, Wynne did not involve taxpayers facing double taxation as a result of being domiciled in one state and statutory residents of another; rather, the taxpayer in Wynne was a resident/domiciliary of only one state. Second, Wynne covered the taxation of income derived from sources outside of the taxpayer’s resident state (i.e., income earned though a business in another state), whereas the intangible investment income in this case has no identifiable situs, cannot be traced to any jurisdiction outside New York, and is subject to taxation by New York as the state of residence.  In other words, since intangible assets are typically sitused to the taxpayer’s state of residence, both New York and Connecticut have equal rights to tax the income from such assets.

The ruling demonstrates how meeting tax residency rules in more than one state can result in unfavorable outcomes. Taxpayers who are domiciled in one state but spend a substantial amount of time in another run the risk of being a tax resident in two states, and thus subject to income tax in both states on intangible investment income. Laws for determining tax residency vary by state and taxpayers must be aware of these rules to mitigate the risk of double taxation through proactive planning and proper documentation.

Aprio’s SALT practice has experience dealing with multi-state residency issues for individuals and can identify and help you plan for these risks proactively so that your investment income is not subject to double taxation (or taxation at all if you become a resident of a state without an income tax). We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

Contact Jeff Glickman, partner-in-charge of Aprio’s SALT practice, at jeff.glickman@aprio.com for more information.

This article was featured in the July 2018 SALT Newsletter.

[1] Domicile is generally a person’s permanent home, and the place to which they plan to return and remain after a temporary absence of any length. You may only have one place of domicile at any time and it is typically determined by your intent as evidenced by a variety of factors.

[2] Edelman v. New York State Dept. of Taxation and Finance, N.Y. S. Ct., Appellate Division First Dept., Dkt. No. 156415/16 6970, (06/26/2018)

[3] Comptroller of the Treasury of Maryland v Wynne, 135 S Ct 1787 (2015). The previous NY Court of Appeals decision against the taxpayer relied upon Matter of Tamagni v Tax Appeals Trib. of State of N.Y., 91 NY2d 530 (1998).

Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding the matter.