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PERSONAL FINANCE TAXES

How to Make Sure Your Second Home

Doesn’t Become a Tax Trap
States will come after you if they think your second home is for dodging
taxes, but careful planning and record-keeping can support your case

By Cheryl Winokur Munk

March 2, 2024 9:00 am ET

Second homes in low-tax states can be useful for cutting costs, but you must �irmly establish it as your
domicile. ILLUSTRATION: KIERSTEN ESSENPREIS

Having homes in more than one state is becoming increasingly common,

especially since the pandemic. But people in this situation need to be careful not
to run afoul of state-tax laws.

Often people buy a second home in a lower-tax state, thinking they will live there
and save on taxes. But this can be tricky since the higher-tax states don’t want to
lose out on income and are likely to seek proof that a homeowner is truly
intending to make the new state his or her domicile, a term that refers to the
state that is considered a person’s permanent home base.

Tax rules can be complex when you own homes in multiple states, and planning
is critical, says Kelly Gillette, partner in the Dallas office of accounting firm
Armanino. “Understanding the rules in advance of the move can save a lot of
potential taxes and hassles at a later date,” she says.

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According to an Ameriprise Financial survey of financial advisers who work with

people with $5 million or more of investible assets, one-third of clients who don’t
already own a second home say they are interested in a future purchase. And a
third of clients who own second homes plan to make it their primary residence in
the future, the survey found.

Here is what to know if you’re considering buying a second home out of state:

Establish your domicile

Where you establish your domicile can make a big difference to your bottom line
—and could amount to millions of dollars for wealthy families over many years,
says Allen Injijian, managing director who heads wealth strategy and planning
at New-York-based Geller.

But the rules related to domicile and taxation are complicated so it helps to
understand how states tax residents and nonresidents. Generally speaking,
Injijian says, there are three main ways a state can legally tax your income.

• First, if you are domiciled in that state, meaning the state is your permanent
home.

• Second, if you spend enough time in the state to be classified as a statutory

resident. Each state has different rules for this, often based on the amount of
time a person physically spends in that state.

• Third, if you make money in that state. How taxation works depends on factors
such as which state is considered the source of the income, the specific states
involved and if the states have a reciprocity agreement that allows residents to
pay income tax only where they live versus where they work.

Rob Burnette, investment adviser representative and professional tax preparer

at Outlook Financial Center in Troy, Ohio, tells clients to make the state they
spend more than half their time living in the state they want as their domicile.
He advises them to plan to spend at least 185 days in that state, so they don’t
have to worry about falling short of residency requirements during leap years.

If you have two homes, the state of domicile should be the one in which you
register to vote; where you have your driver’s license, your car registration and

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register to vote; where you have your driver’s license, your car registration and
your primary doctors; and where you have your federal tax return and financial
statements mailed. You need a body of evidence that says “this is my state of
domicile,” Burnette says.

Keep detailed records

States are getting more aggressive to avoid missing out on tax revenue, and they
are employing more people and more resources, including artificial intelligence,
to pull records more readily, Gillette says. They will pull cellphone records,
credit-card data, verify doctors’ appointments, talk to doormen, and peruse
highway-toll records to help confirm your whereabouts. “If you get audited, the
records are going to save you or sink you,” she says.

If an auditor comes calling, the burden is on taxpayers to prove they aren’t a

statutory resident or domiciled in that state, says Michelle Espey, partner at law
firm Farrell Fritz in Uniondale, N.Y., who counsels clients on a variety of tax
matters. These audits are all fact-specific and they can be time-consuming, she
says. At the least, people should expect an audit inquiry, especially when moving
from a high-tax state such as New York or California and claiming a new domicile
elsewhere.

It can help to create a strong paper trail to demonstrate it is a legitimate switch

of domicile and not just to avoid taxes. In addition to the obvious things like
changing your driver’s license, it is important to keep particulars like invoices
for furniture deliveries to the new home, moving-company contracts and
documentation for club memberships you’ve canceled in your former domicile
and opened in the new one.

If you are renting out your home in the former state, keep those contracts, too, as
well as contracts with rental agents. It is also a good idea to update your will to
comply with the new state’s laws.

Cheryl Winokur Munk is a writer in West Orange, N.J. She can be reached at
reports@wsj.com.

Next in Journal Reports: Investing Monthly

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