Q: Am I required to file a state income tax return when I am stationed overseas?
A: It depends what your state of legal residence is. Some states have no income tax. Others have an income tax, but if you meet a so-called “three-part test,” you don’t have to pay it. Still others have special tax breaks for those in the military that reduce or eliminate the tax they must pay. There are no general rules when it comes to state taxes. You need to read the instructions or, better yet, seek help from your local tax assistance center.
Preparing state tax returns is one of the most complicated things our tax centers do. There are 41 states that assess an income tax. The tax training our preparers receive is primarily focused on federal returns and completing IRS Form 1040 with schedules and supporting forms and worksheets. The various states each have their own income tax structure, which presents a major challenge for our tax preparers. Of the 7,548 tax returns generated by 21st TSC tax assistance centers during the 2015 tax season, almost 2,200 of them were state returns.
First, remember that having a state of legal residence does not change because the taxpayer is outside the state. Taxpayers retain their state of legal residence until they become a resident of new state, and unless the new resident status is properly obtained and maintained, the losing state may continue to assess tax. The Service Members Civil Relief Act and amendments permit military members and sometimes the military spouse to retain a state of legal residence even though they live outside their state.
There are different taxing schemes. States tax residents based on the taxpayer’s federal adjusted gross income, federal taxable income, gross income or as a percentage of their federal tax liability. The states vary in treatment of additions, deductions, credits and breaks to military members or to residents who reside outside the state or the U.S. during the tax year. Some states impose locality taxes or use a different tax rate based on the school district, city or county of the taxpayer’s residence.
The 41 states that have an income tax also permit various filing statuses. Some residents are permitted to file joint or separate returns based on the residency of the spouse. Taxpayers may be permitted to file a nonresident return even though they keep their state of legal residence. Some states use physical presence tests for residents to use to determine whether they can file as a resident or nonresident and a joint or separate return.
These are all issues tax preparers must sort out when preparing a return. Where married taxpayers claim different states of legal residence, the preparer must ensure each state return is accurate and complete and properly excludes a spouse’s income from taxation on the other’s return. When you are ready to have returns prepared, make sure you give the preparer enough information to prepare not only your federal return but your state returns as well. Look at prior year returns to determine what school district, city or county code is required. Inform the preparer of your state residency status, especially if your spouse claims a different state of legal residence. Be patient as the preparer verifies a state’s treatment of income, residency and filing status. Our preparers work hard to prepare a complete and accurate return, and state tax returns are just as important as, and often much more complex than, federal returns.
Editor’s note: This article is for general information only and does not constitute legal advice or create an attorney-client relationship. You should always consult an attorney for specific legal questions.