With Tax Day within the U.S. postponed to May 17, now could also be a superb time to discuss with your clients about how the pandemic-related home office rule may affect their tax liability.
The income tax system within the United States is a patchwork quilt. Of course, federal income tax applies throughout the country. However, each state is an independent sovereign with its own tax jurisdiction.
Not all states impose an income tax, but people who do have their very own systems for doing so. In addition to the state income tax, many municipalities even have the authority to impose an income tax.
With so many tax authorities, it’s no wonder people spend a lot money and time trying to find out their correct tax liability and which state that tax is owed to. With many business offices closed because of this of the COVID-19 pandemic, many staff – including our clients – are forced to earn a living from home, and infrequently their homes are in a unique state or municipality than their now-closed offices.
The shift of staff and the work they do from the office to the house office poses a challenge for various tax systems. States and localities try to lift revenue, and employers and employees try to find out who has the authority to tax the income generated from that work now that staff are not any longer commuting to the office.
Below are some discussion points that advisors might raise with affected clients before May 17. Of course, the myriad of local income tax rules dictate that if you happen to should not one yourself, you encourage your clients to hunt the recommendation of a knowledgeable local tax advisor who can assist you to and your clients resolve these issues.
Essentially, the query that arises from our unique federal system is whether or not a state can tax the income of a employee who’s employed by and works for a corporation in that state but never physically enters that state. Of course, the identical query can arise in a state that enables its municipalities to impose an income tax. That is, can a city tax the income of a employee who’s employed by and works for a corporation in that city but never physically enters that state?
It is sort of clear that a state can impose a tax on an worker who lives outside of that state but involves the state to work for an employer situated within the state.1
Of course, governments thrive on tax revenue, and even before the present pandemic, many states sought to tax the income of nonresidents who work from their out-of-state residence for in-state employers. New York State is a chief example. Consider a client who works for a corporation in Manhattan, lives in Connecticut, and works a part of the time in a New York office and a part of the time from home in Connecticut. Under New York State law, as in other states, nonresident employees are taxed based only on the proportion of the nonresident’s days worked in New York.2
In New York, nonetheless, an worker’s workday is taken into account an out-of-state day for tax purposes provided that the nonresident is required to earn a living from home within the employer’s service “out of necessity, as opposed to convenience.”3 So, if our New York client chooses to earn a living from home somewhat than achieve this as an employer requirement, New York would tax all of that client’s income whatever the indisputable fact that she or he works in Connecticut.4
The COVID-19 pandemic has brought this issue into even greater focus for the tax authority as offices have been closed and residential office arrangements have increased. For example: Pennsylvania has issued guidelines for Pennsylvania employers whose employees are working from home on account of the COVID-19 pandemicThe guidelines state:5
“Employees
“In summary, the department isn’t changing the source of an worker’s salary if the worker is temporarily working from home on account of the COVID-19 pandemic. For nonresidents who worked in Pennsylvania before the pandemic, their salary will remain Pennsylvania income for all tax purposes, including PA-40 reporting, employer tax withholdings, and the three-tier apportionment of business income for S corporations, partnerships, and individuals. . . .
“Employer
“For a Pennsylvania employer who employs a non-Pennsylvania resident who is temporarily working from home due to the COVID-19 pandemic in a state that does not have a reciprocity agreement with Pennsylvania, the Department advises that the employee’s compensation must continue to be Pennsylvania-sourced and the employer is required to withhold an amount from the compensation.”
“…for the duration of the Massachusetts COVID-19 state of emergency, all compensation for personal services performed by a nonresident who was an employee engaged in the performance of such services in Massachusetts immediately before the Massachusetts COVID-19 state of emergency and who, during that state of emergency, performs such services from a location outside of Massachusetts solely as a result of the Massachusetts COVID-19 state of emergency, will continue to be treated as Massachusetts income subject to income tax under MGL c. 62 and to withholding.”6
Many employees of Massachusetts corporations live in neighboring states, including New Hampshire. New Hampshire doesn’t impose income tax on salaries and wages and has applied to sue Massachusetts before the U.S. Supreme Court7 to stop Massachusetts from taxing the income of New Hampshire residents who earn a living from home for Massachusetts employers.eighth Massachusetts described its actions as merely maintaining the establishment with respect to the administration of its tax system through the COVID-19 emergency.9
As the tax filing deadline approaches, what should an worker of a client who must pay income tax or an employer of a client who must withhold taxes do?
For the employer who has to withhold taxes
If you lack the expertise, encourage them to hunt the recommendation of an area tax advisor conversant in the foundations within the countries by which they operate to find out their obligation to withhold and pay income tax on the wages of their employees.
For the shopper who has to file a tax return
If you haven’t got the knowledge, advise them to seek the advice of an area tax advisor who may also help them determine how much tax they should pay and to which jurisdictions. If there isn’t any income tax collection agreement between the state they work in and the state they live in, they will probably want to pay taxes within the state they work in, whatever the indisputable fact that they didn’t actually work in that state, after which file for a refund.10
While this approach could also be dearer, it could be just like what they might have done in a standard 12 months before COVID-19. Additionally, by paying the tax and claiming a refund, they will avoid charging interest and penalties for underpaying income tax. An experienced tax advisor can assist you to and your clients make these decisions.
As if life hasn’t grow to be complicated enough as we navigate the brand new world forced upon us by the COVID-19 pandemic, lots of our clients are actually also navigating the uncertainties of state and native taxation as they’re forced to earn a living from home. As with any complicated issue, if you happen to haven’t got the expertise, get it. Help your clients discover a tax and legal expert who may also help them make the precise decision for themselves, their families and their assets.
1. The Due Process Clause of the U.S. Constitution, U.S. Const. amend. XIV §1, allows a state to tax nonresidents who work in that state (but generally not outside the state). A state “shall generally tax only income derived throughout the [state]”, not income derived by nonresidents outside the boundaries of the taxing State. , 515 US 450, 463 n. 11 (1995); , 252 US 37, 57 (1920) (“In the case of nonresidents, jurisdiction extends only to their property throughout the State and to their business, trade, or occupation carried on therein, and the tax is imposed only on such income as is derived from such sources.”); , 252 US 60, 75 (1920) (the State “… has jurisdiction to impose a tax of this sort on the income of nonresidents from any business, trade, occupation, or employment carried on inside its boundaries, …”).
2. 20 NYCRR § 132.18(a).
3. I might.
4. One such case was actually heard in New York. , 1 NY 3d 85 (2003), , 541 US 1009 (2004). In that case, the taxpayer divided his time between his office in New York and his home in Connecticut. Perhaps not surprisingly, New York’s highest court found that the taxpayer worked from home out of his own convenience, not out of his employer’s necessity, and imposed its income tax on the entire taxpayer’s income. The United States Supreme Court declined to listen to the case. Other states also follow this path, including Pennsylvania, 61 Pa. Code § 109.8, Nebraska, 316 Neb. Admin. Code § 22-003.01C(1), and Delaware, Del. Code Regs. 31-200-800, Director’s Ruling 71-13.3(b).
5. Teleworking through the COVID-19 pandemic, Pennsylvania Department of Revenue(last accessed on February 13, 2021).
6. TIR 20-5: Massachusetts tax implications when an worker works from home on account of the COVID-19 pandemicMassachusetts Department of Revenue, April 21, 2020 (last accessed February 13, 2021).
7. File number 22O154, Application for permission to file an announcement of claim (last accessed on February 13, 2021).
8. New Hampshire seeks to invoke the unique jurisdiction of the U.S. Supreme Court in disputes between states, thereby bypassing all lower courts. U.S. Constitution, Article III § 2.
9. File number 22O154, written statement against the applying for leave to file an appeal11 December 2020, p. 3.
10. In fact, their only option could also be to appeal to the executive courts of the state that proposes to impose the tax. 28 US Code § 1341.
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