California — Personal Income Tax — Determination of residency; partnership withdrawal payments.

The California State Board for Equalization (SBE) has ruled in favor of a husband and wife (collectively, Taxpayers) in a case involving tax years 2005 – 2009 in which the issues were (1) when did the Taxpayers abandon their California residence and (2) were the payments the Taxpayer/husband received upon his withdrawal from a partnership California source income. In ruling for the Taxpayers, the SBE reversed the determinations of the Franchise Tax Board (FTB).

In 1997, the Taxpayer/husband moved to California to accept a managing partner position with Brandes Investment Partners, LP (Brandes); in June of 1998, the Taxpayers purchased a home in Rancho Santa Fe (RSF Home) that they used as their primary residence; in November 2004, the Taxpayers purchased a home in Friday Harbor (FH Home) in Washington State and stayed at that home from January 10, 2005, through January 16, 2005. Taxpayer/husband retired from Brandes effective December 31, 2004, and received payments in liquidation of his partnership interest in Brandes from 2005 through 2009. The Taxpayers filed California non-resident returns for tax years 2005 – 2009, reporting that they established residency in Washington State on January 11, 2005. The FTB determined that the Taxpayers were California residents through April 23, 2015 (the Taxpayers received the first partnership interest payment on March 15, 2005) and that the partnership interest payments were California source income. With regard to (1), after summarizing the California law with respect to residency, the SBE determined that the evidence shows that the Taxpayers abandoned their California domicile when they arrived at the FH Home on January 10, 2005. The SBE then examined whether they were in California for other than a temporary or transitory purpose from January 16, 2005, through April 23, 2005 (if they were, they would have re-established California residency).

Applying the factors for determining residency as set forth in California case law, the SBE determined that the Taxpayers had closer connections with Washington than with California during the period at issue and thus were residents of Washington as of January 11, 2005. With regard to (2), the payments to the Taxpayer/husband were made in exchange for his interest in partnership property and are properly considered a distribution under Code Sec. 736(b) (that is, they are considered to be a distribution by the partnership and not as a distributive share or guaranteed payment). Under California law, including California case law, the relevant property for income sourcing purposes is the partnership interest (the FTB had argued that it should be the property owned by Brandes), and the situs of intangible personal property (such as a partnership interest) is the Taxpayers’ domicile, unless the intangible personal property has a business situs in California. Under the applicable California regulation, Cal. Code Regs. § 17952, the Taxpayer/husband’s partnership interest has not acquired a business situs in California, and thus the payments he received for his partnership interest are not properly sourced to California. (Appeal of Bills, SBE, Case Nos. 610028, 05/24/2016 (not to be cited as precedent).)