California OSTC: Eligibility, Qualifying Taxes, and Schedule S

The California Other State Tax Credit reduces your California income tax when another state has taxed the same income. The credit equals the lesser of two numbers: the net income tax you actually paid to the other state, or the share of your California tax that is attributable to the overlapping income. You claim it on Schedule S, attached to your California return, and the Franchise Tax Board uses it to prevent you from paying two states full freight on the same dollars.¹

Who Can Claim the Credit

Eligibility turns on your California residency status for the year.

Full-Year Residents

California residents report worldwide income to the Franchise Tax Board. When another state also taxes some of that income, you may claim the credit on your California return for the net income taxes paid to that state. The credit only reaches income that is sourced to the other state under California’s own sourcing rules, regardless of how the other state categorizes it.²

The Reverse Credit States

There is one trap that catches many residents. California will not grant the credit if the other state already offers nonresidents a credit for taxes paid to their home state. In that case, you are expected to claim the credit on the other state’s return instead.³

Arizona and Oregon are the most common reverse credit states. A California resident earning wages in either state cannot claim the Other State Tax Credit in California. You file in Arizona or Oregon and claim the credit there for the California tax on the same income. The 2025 Schedule S instructions list every state and territory eligible for the resident credit, and Arizona and Oregon are notably absent from that list.⁴

Nonresidents

Nonresidents who earn California-source income can also qualify, but the mechanics run the other direction. Instead of crediting the other state’s tax against California, you credit tax paid to your home state against your California tax. This only works if your home state either does not tax California-source income or gives its own residents a credit for California taxes paid.⁵

Only four jurisdictions qualify for this nonresident version: Arizona, Guam, Oregon, and Virginia. If you live in one of them and pay income tax there on income California is also taxing, you can claim the credit on Form 540NR.⁴

Part-Year Residents

If you moved into or out of California during the year, eligibility splits at the date of your move. While you were a California resident, resident rules apply to any income earned outside the state. After you left and established residency elsewhere, you are treated as a nonresident for any remaining California-source income. The transition requires a precise breakdown of income by date, and the Franchise Tax Board weighs factors like where you registered to vote, where you held a driver’s license, and where your primary home was located.⁶

Which Other-State Taxes Qualify

The credit only covers net income taxes: taxes imposed on your actual income or profits after deductions. The payment you made to the other state must be a true income tax to count. You also subtract all other nonrefundable credits applied on the other state’s return before entering the figure on Schedule S, because the credit is based on the net amount of tax the other state actually kept.⁴

Several common state-level charges do not qualify because they are not based on net income:

Gross receipts taxes assessed on total revenue rather than profit, like Washington’s Business and Occupation Tax.
Franchise or privilege taxes such as Texas’s franchise (margin) tax. The Franchise Tax Board treats it as neither a gross nor a net income tax. You can deduct it against California income, but it cannot support the credit.
Alternative minimum taxes comparable to California’s own AMT.
Local or city taxes, even if income-based. The credit is strictly state-to-state.
Payroll-based taxes calculated on payroll expense rather than income, such as New York City’s Metropolitan Commuter Transportation Mobility Tax.

Taxes paid to the federal government, to foreign countries, built-in gains taxes, and any special tax not measured by net income are also excluded on Line 7 of Schedule S.⁴ Foreign tax double taxation is handled through federal mechanisms, not the OSTC.

Which Income Counts as Double-Taxed

Both states must actually be taxing the same income for the credit to apply. If one state exempts a category of income that the other taxes, there is no overlap and no credit for that portion. And California decides the source of income using its own rules, not the other state’s rules, even when the two conflict.²

Wages

Employee wages are sourced to the state where the work is physically performed. If you live in California but commute to an office in another state, the income you earn while physically present in that state is sourced there and may qualify. Remote work follows the same rule in reverse: if you work from your California home for an out-of-state employer, the income is sourced to California no matter where the company is headquartered, and the other state generally has no claim to tax it.⁶

Independent Contractor and Business Income

Contractors face a different rule. California uses market-based sourcing, so your service income is sourced to where the customer receives the benefit, not where you sit while performing the work. A contractor working from home in Nevada for California clients has California-source income, because the benefit is received in California. A California-based contractor whose clients receive the benefit in another state has income sourced to that other state under California’s rules.⁷

This distinction between wages and contractor income is one of the most commonly misunderstood parts of the credit. Many filers assume all service income follows the “where you performed the work” rule, which can lead to claiming the credit on income that does not actually qualify.

Capital Gains on Real Property

Gains from selling real estate are sourced to the state where the property is located. A California resident selling a rental property in Colorado has Colorado-source gain that likely qualifies. For installment sales, each payment carries the same sourcing as the underlying property, so gains recognized over multiple years stay tied to the property’s state.⁷

Interest and Dividends

Investment income from intangible assets like bank interest and stock dividends generally does not produce double taxation. These items are sourced to your state of residence, so if you live in California the income belongs to California and the other state typically has no claim. The exception is when the asset has a business situs in another state, meaning it is used as part of a business you operate there.

How the Credit Amount Is Calculated

The credit is capped at the lesser of:

The net income tax you paid to the other state on the double-taxed income, after all credits on that state’s return.
The California tax attributable to the double-taxed income, calculated as (double-taxed income ÷ your total California adjusted gross income) × your California net tax.²

An example makes the formula concrete. You are a California resident with $200,000 of total income, $50,000 of which came from work physically performed in New York. Your California net tax is $14,000, and you paid $3,200 in New York income tax. The California-side cap is ($50,000 ÷ $200,000) × $14,000 = $3,500. Because the New York tax of $3,200 is lower than $3,500, your credit is $3,200. If California’s proportional share had been only $2,800, the credit would be $2,800 even though you paid more to New York.

The credit works best when the other state’s effective rate on the overlapping income is close to or below California’s. If the other state charges significantly more than California would on the same slice, you will not recover the full amount. The excess is absorbed as a cost of earning income in a higher-tax jurisdiction. The statute contains no carryforward or carryback, so any unused portion is lost in the year it arose.

Pass-Through Entities

If you are a partner in a partnership or a shareholder in an S corporation that pays income tax to another state on your behalf, you can treat your proportionate share of that tax as though you paid it directly. The tax must still meet all the same requirements that apply to an individual taxpayer.⁸ For S corporation shareholders, this flow-through only applies when the other state either does not allow S corporation elections or imposes a tax on S corporations that your company elected into. If the other state simply does not tax S corporations, there is no payment to pass through.

California’s pass-through entity elective tax creates an ordering issue. When you have both an OSTC from another state and a California PTE elective tax credit, apply the OSTC first. Your California net tax is increased by the amount of any PTE credit that reduced it before the OSTC calculation runs, so the PTE credit does not shrink the base against which your OSTC is measured. Getting the order wrong can understate the OSTC.⁹

Filing Schedule S

You claim the credit by completing Schedule S and attaching it to your California return. Residents attach it to Form 540; nonresidents and part-year residents attach it to Form 540NR. You must also attach a copy of the tax return you filed with the other state.⁴

Schedule S has two main parts. Part I itemizes your double-taxed income by category and amount. Part II runs the credit calculation. The key lines:

Line 2 is your California tax liability (Form 540, line 48 for residents, or Form 540NR, line 63 for nonresidents), calculated without the OSTC or PTE elective tax credit.
Line 4 is your California adjusted gross income.
Line 7 is the net income tax you paid to the other state after all of that state’s credits. Exclude local, federal, foreign, and AMT-equivalent taxes, along with any tax not based on net income.
Line 9 is your adjusted gross income taxed by the other state.⁴

Use credit code 187 when entering the credit on your California return. If you owe tax to more than one other state, complete a separate Part I and Part II for each. Electronic filers should confirm their software includes Schedule S and the other state’s return in the digital submission. Paper filers physically attach both documents.

If the Other State Later Changes Your Tax

If the other state adjusts your tax through an amended return, an audit, or a correction, you must report the change to the Franchise Tax Board. Prepare a revised Schedule S, attach it to an amended Form 540 or Form 540NR with the “AMENDED return” box checked on Side 1, and include Schedule X to explain the changes.⁴

Timing of payment matters less than you might expect. The other state’s tax does not have to be paid in the same calendar year as your California return, as long as both relate to the same underlying income. If you file an extension in the other state and pay later, you can still claim the credit for the correct tax year. But if the other state issues a refund after you have claimed the OSTC, the amended return requirement kicks in immediately.⁴

1
Franchise Tax Board. Other State Tax Credit
2
California Legislative Information. California Revenue and Taxation Code 18001
3
Cornell Law Institute. California Code of Regulations Title 18 18001-2 – Limitations on Credit of Resident Taxpayers
4
Franchise Tax Board. 2025 Instructions for Schedule S Other State Tax Credit
5
Justia. California Revenue and Taxation Code 18001-18011
6
Franchise Tax Board. Part-Year Resident and Nonresident
7
Franchise Tax Board. Residency and Sourcing Technical Manual
8
California Legislative Information. California Revenue and Taxation Code 18006
9
Franchise Tax Board. Help With Pass-Through Entity (PTE) Elective Tax