My friend Jerry Zeigler is always helping me out with tax questions, and he’s graciously shared this information about how and when military service members and their spouses may need to file tax returns in multiple states. We definitely did this wrong for a few years, and it cost us money in the long run…
Many service members and military families just need to file a federal tax return and one state – and some not even a state tax return, if their state of residence doesn’t tax income. For service members, the state of residence is often their Home of Record, but not always. Military spouses may be able to file a state tax return with the service member’s state of residence due to the Military Spouse Residency Relief Act (MSRRA).
But when is one state not enough?
When does there need to be another state tax return and when may it be better to choose to have another state tax return?
Non-Military Income by the Service Member
When the service member earns non-military service income through work (employment, self-employment, gig jobs like Uber) in a state in which they are stationed that taxes income. The state often will want a tax return to be filed – and taxes paid – by the service member, even if it is not their state of residence, in order to tax the non-military income. In the case of non-military income earned by the service member, the Servicemember’s Civil Relief Act protections do not apply.
Rental Property and Business Ownership
A tax return filing requirement may be triggered when a service member or military spouse has an ownership interest in a business or if they have rental property in a state that is not the state of residence. The filing requirements vary by state. For a business owned by the spouse, MSRRA may OR may not How MSRRA applies may vary a bit depending on each state’s interpretation of MSRRA and the state’s desire to be flexible.
Crossing State Lines
In some cases, crossing state lines for work or for business operations can trigger filing a tax return in another state. Some states have reciprocity agreements to keep this from being an issue. Contact your employer’s human resources or accounting department to ensure you have the right paperwork on file to prevent withholding for states with reciprocity agreements. A bit of googling and you can find this info on your own. Certainly look for reciprocity agreements, because there is no sense in paying more taxes or filing more tax returns than is necessary.
In many cases, dual-military couples will have to file tax returns in two states. One way to “fix” this is to both get stationed in the same state and meet the residency requirements and take action to change residency. Often the preferred state is one that doesn’t have income taxes. Over time, residency in a state with no income tax can be very beneficial for the servicemember(s).
When you are better off filing another state tax return
This is most commonly seen with military couples when the duty station state is more progressive in their income tax system than the state of residency of the service member AND when the spouse works in the duty station state AND when the spouse’s income is “low enough”. The most obvious example (to me) is California. Even in cases where MSRRA applies, the spouse may still want to file in the duty station state. For a CA duty station, the net result may be significantly better for tax returns to be filed in both CA and the service member’s state of residence.
If You Change Your State of Legal Residence
When your state of residence changes you may have to file two state tax returns depending on each state’s filing requirements.
Taxes can be very situational. You’ll notice I used words like “some”, “may”, “many”, and “often”, since state laws vary and specific circumstances may change how tax law applies. Some states are more generous than others with regard to both residency and MSRRA.
When multiple states and multiple income streams come into play, taxes get messy.
Help for getting taxes right the first time. Maybe you enjoy digging into tax publications, tax instructions, and tax code. Or at least can manage the due diligence to get it right. Or you can look at Military OneSource which offers some free tax consulting which has helped many military families sort through their taxes. Or sometimes finding a tax expert with military experience and experience in circumstances similar to your specific situation is the smart thing to do. Here is some advice on choosing a tax professional.
The important thing is to make the choice to get the taxes done right. It’s much easier to get the taxes right the first time, than to have to correct them later.
About the author:
Jerry Zeigler, MBA, AFC®, EA . He is a tax professional, Enrolled Agent, and personal financial counselor. He is the owner of JZ Financial Management , and a member of the Better Financial Counseling Network. betterfinancialcounseling.com