Yes, You are correct. California should only be taxing the home sold in California, if it was not related to the Arizona property.
Please see 2019 California FTB Form 540NR Instructions page 48:
Line 3 – Business Income or (Loss)
California resident amounts – Enter the total profits or losses (including losses allowed from passive activities) from all businesses conducted while a California resident.
California nonresident amounts – Enter the total amount of profits or losses (including losses allowed from passive activities) from all businesses sourced to California while a nonresident of California. California uses a mandatory market assignment method and single-sales factor apportionment to apportion business income to California. A nonresident may have California sourced income or apportionable business income if receiving income from intangibles or services from California sources.
If, as a nonresident, you derived income from a business, trade, or profession conducted partly within California and partly outside California, only income from the part conducted within California is considered California source income that you must report in column E. If there is any business relationship between the parts within and outside California (flow of goods, etc.), apportion the gross income or loss from the entire business. To determine the portion of income or loss from businesses engaged in multistate activities that you must report, use the apportionment formula described in Schedule R, Apportionment and Allocation of Income.
Line 4 – Other Gains or (Losses)
California resident amounts – Enter gains and losses (including losses allowed from passive activities) from all sources while a resident.
California nonresident amounts – Enter gains and losses from sources within California while a nonresident.
Line 5 – Rental Real Estate, Royalties, Partnerships, S Corporations, Trusts, Etc.
California resident amounts – Enter your profit or loss (including losses allowed from passive activities) from all rents, royalties, partnerships, S corporations, LLCs, estates, and trusts that accrued while a California resident.
California nonresident amounts – Enter your profit or loss related to property or business located in California while a nonresident of California. Your Schedule K-1 (100S, 541, 565, or 568) will indicate the amount of S corporation, estate, trust, partnership, or LLC profit or loss derived from California sources.
If you are experiencing unexpected results, go back through the Federal interview to verify everything is coded to the proper state.
In addition, if you have not been taking the allowable depreciation, it will be taken now. You may need to utilize Form 3115 to account for the change. See Form 3115 Instructions.
