Ask The EDD Lawyer – The Difficulty In Proving You Are Not A California Resident For Tax Purposes

By Robert S. Schriebman
April 27, 2016

Introduction

How difficult is it to prove to the FTB that you no longer reside in California and you are exempt from paying personal income taxes to the FTB. The curious case of Hexu Zhao illustrates the extent some people will go through to try and persuade both FTB and BOE that they are not required to pay California personal income taxes (PIT). On April 27, 2016 the California Board of Equalization (BOE) published the Zhao decision (Case No. 849110). The decision illustrates the depth of analysis the FTB and the BOE go into to challenge someone who claims to be exempt from PIT.

Before discussing the Zhao case in detail, keep in mind that these types of residency disputes are essentially fact-driven. The taxpayer always has the burden of proof and must show, beyond a reasonable doubt, that he or she has cut all ties to living in California. There is always confusion between the concepts of “Residency” and “Domicile.” In this article we will attempt to make the distinction clear, but in reality, even the members of the BOE have difficulty explaining and distinguishing these fundamental concepts.

Zhao Doesn’t Want To Pay His Taxes

Zhao was a U.S. citizen who resided in California for approximately eleven years prior to moving to China to take a job as the Chief Financial Officer (CFO) of a Chinese company in 2006. He held this job until May 10, 2008. The BOE acknowledged that Zhao was a true non-resident in 2006 and 2007. However, between May 11, 2008 through the end of 2008, Zhao worked for a California company as a CFO but his job required that he travel to China periodically during the year. For most of 2008 Zhao continued to work for the California company. Zhao spent about 56 days in China. In other words, between May 11, 2008 to the end of the year Zhao spent 65% of his time in our golden state.

In 2008 Zhao sold stock worth about $6.7 million. However, he conveniently left this off of his 2008 540NR income tax return. The FTB audited Zhao for 2008 and assessed him for almost $683,000 in PIT plus interest. Zhao did not want to pay the bill. So he challenged the FTB arguing that he was not a resident of California and was not required to pay any taxes. The FTB told Zhao “Nuts,” so Zhao appealed to the BOE.

The BOE has jurisdiction to hear appeals involving California, personal and corporate income taxes as well as sales and use taxes. It was the job of the BOE to determine whether Zhao was a California resident for 234 days out of 365 days in 2008.

Domicile vs. Residence

Revenue and Taxation Code (R&TC) section 17041, subdivision (a)(1) provides, in pertinent part, that a tax shall be imposed for each taxable year upon the entire taxable income of every resident of California. R&TC section 17014, subdivision (a) provides, in part, that the term “resident” includes every individual domiciled in California who is outside of California for a temporary or transitory purpose. Thus, if an individual is domiciled in California, he or she remains a resident until he or she leaves for other than temporary or transitory purposes. (Cal. Code Regs. tit 18, 17014.)

By way of example, if someone domiciled in California, takes a job in a foreign country for several months and returns to California to live, he or she would remain a California resident for tax purposes throughout the year. Because that person is away, on a temporary basis, he or she does not intend to reside out of the country indefinitely. This is the essential difference between domicile vs. residence. Domiciled in California means you pay California income taxes; domiciled outside of California means you do not pay California income taxes. It seems simple enough, but it is anything but simple.

Just The Facts, Please

In 2008 Mr. Zhao went to work for a California company. He often went to China as part of the job. While in China he rented an apartment. He also obtained a Chinese driver’s license, a Chinese work visa, and he filed some tax papers with Chinese authorities. This is the extent of proof that Zhao offered to the BOE to prove he was no longer a California resident.

What contacts did Zhao retain in California? Zhao owned 2 homes; one he rented and one that was occupied by his wife and children. He claimed a property tax exemption for one of the homes. He renewed his California driver’s license. He bought a new luxury car. His children attended local schools.

What Did The BOE Decide?

During the BOE hearing Zhao conceded that he was domiciled in California in 2008. That should have been the end of the matter; however Zhao argued that contacts in China outweighed those in California. The BOE ruled against Zhao based upon their analysis of all the facts. Zhao’s connections in China, during the 234 days in issue in 2008, were far less substantial than his ties to California. Mr. Zhao had to pay his taxes after all.

Conclusion

If you want to avoid paying California income taxes you must prove, beyond a reasonable doubt, that you are domiciled elsewhere. This means that you must be physically residing outside of California and you must intend to reside there indefinitely, and you do not intend to move back to California anytime soon. May I also suggest that you review the instructions for the 540-NR income tax return.

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Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 40 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments.

Robert Schriebman has written the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.

Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House.

Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.

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