The Ultimate Guide To The State Tax Impact For Telecommuting Employees
By Davis Clarkson , April 24 2020
Like it or not, it seems that telecommuting is the present and future of work. In the US, the number of remote workers has increased by 91% over the course of the last decade. The ongoing COVID-19 pandemic that shook the world will only reinforce the trend. Simply put, telecommuting is a safe and practical solution that gives us a chance to overcome disruption.
There’s just one major problem and it comes in the form of state taxation. Namely, state tax legislation profoundly shapes telecommuting trends, as well as fates of countless workers. It also adversely affects employers that rely on the distributed workforce.
Most people are simply bamboozled by the regulative muddle involving state taxes.
There’s a lot to unravel and the stakes are high here, so let’s get down to business.
Telecommuting As A Double-Edged Sword
Telecommuting is the new norm across industry sectors. As technology advances by leaps and bounds, it becomes an evermore feasible work arrangement. Not to mention it is the only option for numerous taxpayers in the wake of the COVID-19 outbreak. The benefits range from money and time savings to positive environmental impact.
Remote arrangements can also have negative implications for both employers and employees. This is the result of state tax legislation that makes telecommuting a less attractive proposition. Things can get really challenging when you work from a state other than the one your employer is situated in.
This is a common phenomenon in big cities that sit close to the border of other states. Think in terms of Boston, New York City, Philadelphia, etc. There, jurisdictions effectively overlap, causing confusion and financial woes. For instance, employers may be forced to register for payroll taxes in a new state for the first time.
This can come on top of the obligation to withhold taxes locally. How did we end up in this mess?
A Problem Of Discrepancy
Well, in general, workers have to pay tax in a state where their services are performed. Notice this state doesn’t often correspond to the state of residence. This wouldn’t pose a problem if it wasn’t for the legislative discrepancy. Some states lack income tax. Others tax only the income stemming from interest and dividends.
Then, there are those that establish tax rules based primarily on the location of telecommuters. This third group warrants a bit of clarification. Namely, it includes states that tax only the services that telecommuters provide while being physically present in them. This means the employees can be compelled to split up their income in two states.
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They “divide” it according to the time they spend in each one. This physical method of tax allocation of earned wages is used in the majority of states. Five states deviate from this model and employ the convenience of employer rule. These are New Jersey, New York, Pennsylvania, Delaware, and Nebraska.
Among these, New York has displayed the most rigorous tax collection practices. It’s possible other states will follow suit in an attempt to patch up budget deficits.
Matters Of Convenience And Necessity
As you can see, the legal treatments of remote work arrangements vary wildly. The list of caveats goes on. One of them is related to reciprocal agreements between the state of residence and the state of the service provision. Such agreements are prevalent in certain regions, such as the Midwest. Their purpose is to prevent double taxation.
On the other hand, some jurisdictions, including aforementioned New York, instituted convenience of employer tests. They apply to non-residents that generate income in another state. The idea was to apportion the income of the telecommuter to the state in which an employer operates.
Unfortunately, the rule can lead to scenarios in which telecommuters are subject to withholding from more than one jurisdiction. This double taxation usually occurs when only one of two states imposes “convenience versus necessity tests”. It ends up taxing a nonresident telecommuter if the employer is from that state.
The other state, which workers telecommute from, doesn’t have a convenience rule in place but imposes a regular income tax. That’s why the income doesn’t get apportioned properly.
It’s Not All Doom And Gloom
There are some silver linings you should be aware of. In Philadelphia, for example, all non-residents and residents working in the city have to pay wage taxes. However, when an employee is required by the employer to work from home, a tax exemption is in effect. Technically, the exemption should be valid for workers both telecommuting due to employer convenience and employer directive.
Of course, COVID-19-related safety concerns and mandatory restrictions prevent many workers from accessing physical offices. This would suggest that the “convenience of employer” rule can’t be followed in practice. These cases show us that we are in uncharted waters. But, we should be able to gain more sense of clarity when the topic sparks more attention. And it’s bound to happen.
The Game Has Changed
Employees will get their paychecks and be more cautious of any changes than ever before. Employers will start considering tax positions for the purpose of financial statements and tax returns. Hopefully, states will be less stringent in enforcing tax rules and offer new reliefs and exemptions. They might consider suspending the “convenience of employer” rules.
The federal government ought to step in and provide necessary guidance in times of crisis. We have to protect the employees and employers from unnecessary financial burdens. What you can do as a taxpayer is get yourself educated. Stay vigilant in the following months and pay special attention to the changes.
Don’t give in to despair and use all the online resources at your disposal!
Towards The Light At The End Of The Tunnel
Telecommuting has become integral to how we do business in the US. The only issue is it can be both a great privilege and a hassle. Law often marks a difference between these two conflicting outcomes. Thus, we desperately need a sensitive approach in the wake of the Pandemic’s ravaging effects on the economy.
The good news is even though the tax filing date has been pushed, knowledge can help you steer clear of legal and financial problems. So, embrace a proactive approach to protect yourself. Get familiar with the legislation that applies to your case. Prevent the taxes from eating away at your income and budget. We have to preserve telecommuting as a mutually-beneficial arrangement between employers and workers.
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