Congratulations! You are considering moving out of state and renting out your property. As you're planning this, a key item to keep in mind is California's requirements for tax withholding from the Franchise Tax Board. Our sunshine state requires out of state owners (with some exemptions) to have 7% of the rents be withheld by the Withholding Agent (AKA, the property management company) and mail it out to them on a quarterly basis. In this blog, we will discuss the requirements and ways to see if you qualify for a waiver. It is important to note that we as property managers don't like to perform the withholding and actually have a preference that you, as the owner, qualify for the exemption as this eliminates the requirement to do additional administrative work in tracking the withholding and having it to mail out on a quarterly basis. Therefore, our interests are aligned in helping you see if you qualify for a waiver. This is an important requirement to make sure that both owners and property managers follow California's rules. It is important to note that this information is deemed reliable but not guaranteed. Changes to California's laws can change from time to time. We would strongly recommend that you check in with your accountant to confirm your most up-to-date tax status and if this would apply to you.
STEP ONE: Are You Exempt?
The number one question to ask is… Are You exempt? If so, then the property management company is not required to withhold from your rents and therefore, you can get your full distribution. The following are categories of individuals or entities that would be exempt:
California Residents: If you reside in California, then by definition you are exempt. This will apply to most owners and therefore the only item needed is to fill out Form 590, which can be provided by the management company.
Corporations, Partnerships, LLC’s qualified with the Secretary of State to do business in California or that have a permanent place of business in California
Estates where the deceased was a California resident at the time of death
Tax-exempt organizations
California non-grantor trusts
ACTION ITEM: If you live in California then fill out FORM 590 as provided by the property management company and no further action is needed.
STEP TWO: Do You Qualify For a Waiver?
Let's assume that you are not exempt as you live out of state. It is still possible to qualify for a waiver, and if you do, it removes the withholding requirement for the property management company. The following reasons you may qualify for a waiver:
You have California tax returns on file for the past two taxable years in which there was a filing requirement, and you are considered current on any outstanding FTB tax obligations
If you have no tax filing history but are making estimated tax payments for the current year and are current on any outstanding FTB tax obligations.
ACTION ITEM: Complete FORM 588 and submit it to the CA Franchise Tax Board to see if you qualify for a waiver. They will respond to you within 30 days and either approve or deny your request. If they approve it, they'll provide you a form showcasing that you are exempt. Please provide us a copy and that's what we need on file to not withhold from your rents. Please note that these waivers are only good for one year and you must re-apply the following year for another extension. If you don't qualify, then proceed to Step Three.
STEP THREE: Do You Qualify For a Reduced Withholding?
The required full withholding is 7% of the rent. However, you may qualify for a reduced withholding if applicable. Please consult with your accountant to see if this would apply.
ACTION ITEM: Fill out FORM 589 to see if can qualify for a reduced withholding.
STEP FOUR: Withholding Requirements
If you live out of state and have been denied a waiver through Form 588 and have been denied a reduced withholding through Form 589, then the property management company is required to withhold 7% of the rent and mail it out to the CA Franchise Tax Board on a quarterly basis. To do so, the property management company will prepare Form 592 and 592V. Please note that this is required of all property management companies as if they don’t, they can face steep penalties. I will be the first to share with you that not all property management companies follow this requirement. This will say a lot because it tells you that a property management company may not be playing by the rules. These quarterly payments are tracked in the accounting software, and you'll be provided a statement at the end of the year showcasing the payments made on your behalf.
ACTION ITEM: The property management company will withhold the 7% and mail it out quarterly to the CA Franchise Tax Board.
STEP FIVE: Filing Your Taxes
When it comes time to file your taxes I will provide to you an annual written withholding statement, Form 592B Resident & Nonresident Withholding Tax Statement, by January 31 (following the end of the calendar year). It will summarize the rents I have sent to you as well as the amounts withheld and forwarded to the CA Franchise Tax Board. You must file a California tax return to claim your withholding credit at the end of the year.
ACTION ITEM: When you file your return, you’ll attach the withholding tax statement, FORM 592B, as proof of the credit withheld.
CONCLUSION
No one likes paying additional taxes and neither do we. Proper planning is key to making sure that you stay within California's compliance guidelines.
