TELEWORKING PRESENTS NEW CHALLENGES FOR STATE AND LOCAL TAX By JASON ROSENBERG, CPA WITHUM
With many business leaders forecasting that remote work is here to stay, full remote work or hybrid telecommuting arrangements will likely be commonplace. Therefore, it’s crucial that both businesses and employees understand the potential state tax pitfalls of telecommuting.
4
WINTER 2021/22 | NEW JERSEY CPA
The state and local tax (SALT) effects of telecommuting range far and wide, from business income tax to sales tax to payroll tax to tax residency. BUSINESS TAXES With corporate income tax or sales tax, the impact of nexus is very apparent. For a jurisdiction to impose a tax, it is required that a sufficient connection exists, or what is referred to as having “nexus.” Traditionally speaking, a business establishes nexus when an employee is physically working from that state. Although a tax authority may provide limited exceptions to this, such as an employee working from home, an employee whose activities are de minimis (i.e., immaterial day count) or COVID-19 relief, these exceptions are few and far between. In fact, effective Oct. 1, 2021, New Jersey’s COVID-19 waiver of income and sales tax nexus no longer applies. A more likely exception might be P.L. 86-272, but this federal law is limited to only income tax for businesses that only sell tangible goods, and the employee’s activities must be limited to sales. Although in most cases an employee working from home creates nexus, with states generally imposing widespread economic nexus provisions, for many businesses physical presence is not even a requisite to establish nexus. A business with economic nexus, absent of any exceptions, will nevertheless find itself with a filing imposition. At the very least, for many businesses, the remote employee
will increase audit risk detection for noncomplying businesses. With business income taxes, the reverberations of telecommuting with respect to state tax apportionment could be as consequential. While many states have shifted away from the traditional three-factor formula to a single-sales factor, many states still use payroll in computing state taxable income. Remote employees may dictate how businesses compute state-apportionable income due to a variable payroll factor. As a result, businesses should not overlook these effects, as even an apportionment increase of a couple of percentage points could result in a significant tax impact. Possibly even more significant are states that still retain cost of performance (COP) sourcing for computing the sales factor of apportionment. Although there are many variations of COP sourcing, situsing revenues under COP, in effect, allocate revenues to the extent the business incurs expenses such as payroll in the state when rendering its services. As such, for service businesses subject to COP sourcing, such as New York City’s Unincorporated Business Tax (UBT), which sources income from services by the place where the services are performed, there may be an opportunity to significantly reduce entity-level UBT taxes as more employees work from home in the suburbs. This contrasts with New Jersey’s provision which sources sales based on the office at which its personnel (e.g., employees, independent contractors) are situated or connected to. PAYROLL TAX WITHHOLDING Another area that has garnered significant attention, even outside the tax community, is payroll taxes. Mainstream news media covered New Hampshire’s lawsuit against Massachusetts regarding taxation of New Hampshire residents who normally had worked in Massachusetts but who were working remotely during the pandemic. Effectively, Massachusetts put in place a “convenience of the employer” rule, albeit temporarily. Traditionally speaking, a convenience of employer rule treats wages as state sourced for an employee assigned to the employer’s office, unless the work was performed outside the state at “the necessity of the employer,” as opposed to for the
