Nonresident Equity Taxation: California's Rule for Equity You Earned There

Part of Nauma's complete guide to RSU Taxes When You Move States.

California is one of the most active states in the country at enforcing nonresident taxation of equity compensation — a fact that catches many former California residents off guard, sometimes years after they've moved away, stopped filing a California return, and assumed the state was no longer part of their tax picture at all. It often still is, for exactly the equity that vested while they were building the position that eventually led them to leave.

The Legal Basis

California's authority to tax this income rests on California Revenue and Taxation Code §17951, which establishes that nonresidents are taxed only on California-source income, and is implemented through California Code of Regulations, Title 18, §17951-5 — the specific regulation governing sourcing of wages, salaries, and other compensation for personal services, and the provision explained in detail in Franchise Tax Board Publication 1004 (Equity-Based Compensation Guidelines). The core principle: compensation income is California-source to the extent the underlying services were performed in California, regardless of the taxpayer's state of residence when the income is actually recognized. For RSUs specifically, the relevant period is the grant date to the vest date; see RSU State Sourcing for the general workday-ratio formula this principle relies on.

A Worked Example, Modeled on the FTB's Own Guidance

FTB Publication 1004 provides its own illustrative example using stock options, which applies with the same logic to RSUs using the grant-to-vest period instead of grant-to-exercise. In the FTB's example: an employee is granted options while a California resident, later transfers out of state, and eventually exercises the options after working a total of 1,000 workdays for the company — 700 of them in California, 300 in other states. The allocation ratio is 700 ÷ 1,000 = 70%, meaning California taxes 70% of the total option income as California-source, regardless of the employee's state of residence at the time of exercise.

Applied to an RSU scenario: an employee granted RSUs while living in California, who relocates partway through the vesting period and works a total of 1,000 workdays from grant to vest — 400 of them in California — would have California source 40% of that tranche's value at vest, even though the employee may have lived outside California, and had no California withholding at all, for years by the time the shares actually vested. This example is illustrative only and does not reflect any specific taxpayer's situation.

Filing Mechanics: Form 540NR

A former California resident with California-sourced equity income generally must file California Form 540NR (Nonresident or Part-Year Resident return) reporting the California-source portion of the vest, along with a supporting schedule showing the workday allocation calculation. This is not optional paperwork: if a taxpayer omits the California-source portion or fails to attach supporting documentation, the FTB will generally treat the full value of the vest as California-source by default — the burden of substantiating a lower allocation falls on the taxpayer, not the FTB. Keeping contemporaneous records of workdays by state during any period spanning a departure from California is the single most useful thing an affected taxpayer can do to support a correct, lower allocation later.

The Formula's Known Weakness — and Why California Still Uses It

The linear, day-count allocation method assumes the value of the underlying stock rose at a constant rate, and that the value of the services performed was constant, throughout the grant-to-vest period. Neither assumption is reliably true in practice, and a real California Office of Tax Appeals case illustrates the problem clearly: a taxpayer's stock rose sharply and non-uniformly in value between the grant date (while a California resident) and the vest date (after establishing residency elsewhere) — meaning a simple day-count allocation arguably attributed a disproportionate share of the stock's actual appreciation to California, since much of that appreciation occurred after the taxpayer had already left. The taxpayer proposed two alternative allocation methods — one based on the stock price at the date residency changed, another based on annualized appreciation — and both were rejected by the FTB and upheld on appeal by the Office of Tax Appeals. The day-count method remains the standard California applies, imperfections and all, and taxpayers should not assume a more "fair" alternative method will be accepted without a specific, separate legal basis for departing from it.

This Applies Even With Zero Ongoing California Presence

A common and costly misunderstanding: some assume that once they've established residency elsewhere and have had no physical presence in California at all, California no longer has any claim on their income. That is not correct for the sourced portion of equity earned while a California resident or California-based employee — the sourcing rule looks backward at where the underlying services were performed, not forward at current residency or presence. A taxpayer working entirely from Texas or Washington today can still owe California tax on a vest occurring today, if a meaningful share of that grant's vesting period was worked in California years earlier.

What This Page Does Not Cover

This page covers California's specific sourcing mechanics and filing requirements. For the general (non-California-specific) workday-allocation formula, see RSU State Sourcing. For what happens once this California liability is identified — including how a credit from a new state of residence may or may not offset it — see Resident Credit for Taxes Paid to Another State and When Double Taxation on Equity Compensation Isn't Actually Fixed by a Credit.

California Note

Because this entire page is about California's own rule, the broader California-specific point is this: California is widely regarded, including by tax professionals outside the state, as one of the most assertive states in actually enforcing nonresident equity sourcing rather than merely having the rules on the books. Given the scale of California's tech workforce and the volume of pre-IPO and recently-public equity compensation involved, this is not a theoretical risk for Nauma's audience — it is one of the more common, higher-dollar surprises facing tech employees who relocate mid-vesting. See Capital Gains Taxes for how California treats the separate capital-gains portion of any post-vest appreciation, which is sourced differently (generally to the state of residence at the time of sale, not to where the underlying services were performed).

This article is for educational purposes only and does not constitute legal, tax, or financial advice. California's equity sourcing rules are technical and fact-specific, and the consequences of misapplying them — or failing to file — can be significant. Always consult a qualified tax advisor familiar with California nonresident taxation before relying on any specific allocation calculation.