Q: I just took a new job, but heard that it may make my tax situation a little complicated. I live in Illinois but I work full time in Indiana. Is there anything you can tell me about this?
A: Living in one state and working in another can make things complicated from an income tax standpoint. However, there are many mechanisms written into the state tax codes that ensure you don’t pay tax to more than one state on the same income. For example, reciprocal agreements between states exempt some people from filing a return. Thus, if you are a resident of Iowa, Kentucky, Michigan or Wisconsin and only have wage income from Illinois, you are not required to file a return. But what about Indiana?
Indiana and Illinois don’t have a reciprocal agreement, however, they do offer a credit for taxes paid to another state. The steps to filing are as follows:
File Your Federal Return. An individual’s Illinois return begins by using the Adjusted Gross Income (AGI) from their Federal (IRS) return. Thus, once you have your Federal return done you’ll be ready to begin your state returns.
File Your Indiana Return. As your income is earned in Indiana and you more than likely had Indiana Income Taxes withheld from your checks, it’s best to start with this return next. You will file a NONRESIDENT return for Indiana (Form IT-40PNR) and owe Indiana tax on the money you earned in that state. If you have Indiana tax withheld, that will go against your Indiana tax liability and produce a refund or an amount due, depending on how much you had withheld.
File Your Illinois Return. Since you live in Illinois you will file a full-year RESIDENT return and compute tax on your entire income (Form IL-1040). You will then complete the “Credit for Tax Paid to Another State” where you subtract what you paid to Indiana from your tentative Illinois tax liability. In theory, you should wind up not owing Illinois if you paid enough taxes to Indiana.
Now what if you live in Indiana and work in Illinois? You simply reverse the process as Indiana also offers a credit for taxes paid to another state.