The Challenges of State Residency During COVID-19 and How A Family Office Can Provide GuidanceBy Joseph M. Giampapa | Pamela A. Mosiello | May 28, 2021
The Emergence of COVID-19 and Issues Regarding State Residency
COVID-19 has led to many unique issues and challenges for professionals in wealth management. One of the challenges that unfolded at the pandemic’s onset was the issue of state residency and the related tax consequences. At the start of the pandemic, many of our clients living in major cities decided to move to their out-of-state vacation homes located in less populated areas in search of safety.
As 2020 and the pandemic progressed, inquiries from our clients began to pour in. Many of those inquiries were from clients who had remained in their vacation homes for at least six months. They had questions about whether their residency would be affected by spending more time in their out-of-state home and whether their income tax burden would be affected as a result.
It was an appealing thought to our clients that their tax burden may be reduced, considering that many of them resided in New York State/City, which has one of the highest combined state/city income tax rates in the United States. The answer, however, is not that straightforward.
Yes, taxpayers can become statutory residents of a state by exceeding a certain threshold of days (usually 183 days) in their out-of-state vacation homes. However, if they do not take the necessary steps to abandon their domicile in the state they want to leave, they will be considered dual-state residents. This would be a worst-case scenario in which both states impose taxes on worldwide income at the same time. Even if taxpayers successfully take the steps to abandon their domicile, they will still most likely be subject to a residency audit.
For this reason, a dedicated team of specialists trained to detect issues in advance can help taxpayers avoid unexpected consequences. Encouraging clients to consider the utilization of family office services is one way to help ensure that such a team is ready and available to guide them through complex situations that can have a negative impact on protecting and managing their wealth.
The Advantages of a Family Office
A family office keeps the complex business and personal affairs of a high-net-worth family organized in a centralized and systematic fashion, much like that of a successfully run business entity. Traditionally, a family office typically operated as its own separate entity, catering to every personal and financial/business need of an ultra-high-net-worth family. With the passage of time, multi-family offices have become a popular choice for wealthy families that do not view a single-family office as a feasible choice.
Multi-family offices provide key services similar to that of a traditional single-family office, such as bill payment and cash flow management, general bookkeeping, payroll administration and consulting on business transactions and operations. The main difference is that a multi-family office provides these key services within a larger organization (such as a mid-sized or larger accounting firm) and caters to multiple high-net-worth families. Most of these families also engage that same accounting firm to prepare their personal and business income tax returns. Keeping family office and tax services operating under the same roof can provide enhanced benefits from both perspectives.
When complexities arise with family office clients who have several properties in different states, they can be more easily managed. As the family office manages/oversees a family with many properties outside of their resident state, residency issues can be mitigated by maintaining a day-count of time spent at each property. In the event that the owner’s time spent at a particular property is approaching the state’s statutory residency threshold, the family office would notify the tax department within the same firm so that plans could be made to avoid the family member’s taxation as a dual resident. The enhanced benefit here is that this notification is done in real time and noted well before the threshold is reached.
The Johnson family has engaged an accounting firm for the past 20 years for tax compliance and tax planning services. They decided three years ago to also utilize the accounting firm’s multi-family office services due to the family’s increasingly complex financial investments. In addition, they have grown an impressive real estate portfolio that includes personal use properties located in Florida, Colorado, California and Massachusetts (this is in addition to their primary residence located in New York City).
In February 2020, the family notified the accounting firm’s family office team as well as the tax team that they were planning to stay at their Florida property to take advantage of the warmer weather and had plans to return to New York City in April 2020. Disclosure of travel plans was typical during this time of year considering the tax return filing logistics that they needed to be mindful of.
Julia is a client service specialist on the family office team assigned to the Johnson family. Aside from her day-to-day duties (which include bill payment, financial statement preparation and overall coordination of all assets), she is also trained to detect potential tax-related issues. While tracking the May credit card activity, Julia noticed multiple charges from the state of Colorado. Assuming fraud, she immediately notified the Johnson family (who were expected to be back in New York City) of the suspicious charges.
The Johnson family called Julia and informed her that the charges were not fraudulent. At the onset of the COVID-19 pandemic, they had decided not to return to New York City but instead temporarily relocate to their Colorado property for the duration of the pandemic. At that time, the pandemic was running rampant and the family had chosen Colorado due to its rural location where they felt safer and more secure.
Upon learning of the Johnson family’s whereabouts, Julia notified the tax team to let them know of the family’s plans. The tax team immediately made it a point to advise the Johnson family on their stay in Colorado and explained that staying there for a longer duration could result in a dual-state residency situation. As a result, early detection allowed for thoughtful tax planning on residency. The Johnson family had no idea of the possible tax consequences and at that point began to realize the value of the family office in mitigating these tax issues.
During these unprecedented times, not only is it important to educate our clients on the issue of state residency during COVID-19, but also to highlight resources available to them in order to properly manage these issues. As evidenced in the case study above, state residency issues during COVID-19 reflect one instance in which the multi-family office can help mitigate potential adverse consequences. This is only one of many benefits associated with family office services. Marks Paneth’s recent article, “What Are the Advantages of a Family Office?” contains a more detailed look at how the multi-family office can benefit high-net-worth families. Working with clients to understand and consider the advantages of these services can present them with the opportunity to avoid situations that might negatively impact their overall wealth management goals.
About Joseph M. Giampapa
Joseph M. Giampapa, CPA, is Partner-in-Charge of the High-Net-Worth Group at Marks Paneth LLP. To this role, he brings more than 15 years of experience providing tax planning, preparation and consulting services to high-net-worth individuals, partnerships, corporations, estates, trusts and private foundations. In addition to providing strategic tax services to his high-net-worth clients, Mr. Giampapa frequently advises quick-service restaurant (QSR) franchises and their owners on efficient tax structuring, mergers and acquisitions and other matters. Prior... READ MORE +
About Pamela A. Mosiello
Pamela A. Mosiello, CPA, MSA is a Tax Partner with 20 years of experience in public accounting. Ms. Mosiello specializes in individual tax planning and compliance, trusts and estates, and high-net-worth individuals. She also advises clients with complex investment structures and tax reporting requirements, including those with financial assets held in foreign trusts, institutions and other entities. Ms. Mosiello is intimately familiar with tax strategies and foreign reporting requirements related to U.S. citizens working and... READ MORE +