Earn Income in Michigan But Live Elsewhere? One Way to Avoid Michigan’s Long Tax Reach
For snowbirds who choose to head to warmer climes after enduring years of Michigan winters or for other Michigan business owners of companies that operate within the state but who reside in another state or country, the fact that you live elsewhere doesn’t protect you from the reach of Michigan taxes. How and where your business generates its income are critical considerations.
Understanding Applicable Michigan Tax Law
Michigan has enacted specific statutes that address the tax treatment of individuals who are equity holders of Michigan businesses or businesses that provide services in Michigan, but who live elsewhere other than Michigan.
According to the Michigan Income Tax Act, the income of a non-resident individual, estate, or trust is subject to Michigan taxation to the extent the income is earned, received, or acquired from performing of personal services performed in Michigan. Also, income derived as a distributive share of the net profits of a business, profession, enterprise, undertaking, or other activity as a result of work done, services rendered, or other business activities conducted in Michigan is also subject to Michigan tax.
Rents and royalties from real property located in the state are taxable, as are capital gains or losses from sales or exchanges of Michigan real property, and interest and dividend income are allocable to Michigan if the taxpayer is a resident partnership, estate, or trust, or an individual who has a commercial domicile Michigan.
As a general rule, bottom line operating income is taxed in Michigan to the owners of a pass-through entity which operates in Michigan. But there is one particularly useful exception.
Equity Distribution or Fee Payment?
Under Michigan law, a fee paid to a partner, LLC member, or shareholder who is performing a service independently of his position as an equity owner – and where the fee would be classified as a payment to a person who is not a partner, but acting like an outside vendor – may be taxed in the state of the individual’s residence, rather than in Michigan, depending on the facts.
Say you live in Florida and own and operate an LLC or S-Corporation where all of your operations, sales, and services are wholly within Michigan. Consistent with the general rule above, In those types of business entities, the income passes through to equity holders and is considered taxable in Michigan. But if the company pays you a consulting fee for your bona fide advisory services – services that you render entirely from your home – your tax liability for that fee falls under Florida law, not Michigan.
Since large fees attract the attention of the Michigan Department of Treasury, it’s important for those receiving such compensation to maintain a log or other records to substantiate the activities conducted from another state, other than Michigan, if an audit occurs.
These types of payments would generate the best arguments for individuals who change their residence status from Michigan to Florida. If one can demonstrate that some or all of the services can be undertaken from Florida, then that portion of the fees would not be taxable in Michigan. How interest and dividend income is allocated, however, would still depend on where the accounts for those items are established.