In response to the COVID crisis and personal necessity, businesses have seen a significant shift towards remote work arrangements over the past few years. While this newfound flexibility can have its benefits for employers and employees, it has also presented unique challenges for both. One such challenge is the effect remote workers have had on the state and local tax compliance burdens for employers.
We will explore the evolving landscape of state and local tax considerations arising from the presence of remote workers in another state or locality, other than where the employer is located, and the potential risks associated with remote workers.
Traditionally, state and local tax requirements were largely determined by the physical presence of a business within a particular jurisdiction. Employees generally reported to a fixed job location, whether it be an office building or some other physical location, to perform their work. However, with the changes in technology and the COVID-19 pandemic, many businesses and their employees realized that they could perform their duties from anywhere, regardless of their business's permanent location.
With the shift to remote work and flexible work schedules, businesses are having to navigate the muddy waters of employer withholding for income taxes, unemployment compensation reporting, and other business taxes such as sales tax and entity level/shareholder income taxes. Businesses with remote workers could face employer withholding obligations in their employees’ resident state; the state where the business is located (if different); or potentially in states where employees actually perform work for extended periods. This can lead to complex multi-state tax filings and potential double taxation for employees. In addition to business withholding, businesses are forced to address other obligations such as unemployment compensation taxes.
Employees working remotely also create unanticipated administrative burdens for employers. These administrative burdens can include needing a more robust payroll reporting system to account for withholding in other states and possibly dual reporting; increases to personnel to handle the additional compliance requirements; and registration and implementation of multi-state sales tax compliance procedures and reporting.
Non-compliance with the state and local requirements imposed on employers resulting from remote workers is becoming less of an option for businesses as states continue to develop discovery tactics that are very successful in identifying non-compliant businesses.
In addition to employer withholding responsibilities arising from remote workers, businesses could also establish nexus (a taxable presence) in states where their remote workers are located. Having nexus with a state can trigger a multitude of tax filing obligations at the entity level and for the owners of pass-through entities. Entity level taxes could include net worth, franchise, gross receipts, and sales taxes. Among these taxes, businesses should be most concerned with sales tax.
While most states that impose sales and use tax have adopted economic nexus standards as a result of the Wayfair decision, physical presence still holds power and priority over any analysis regarding nexus. While businesses spent the past five years understanding the ins and outs of economic nexus rules, they potentially ruin strategic sales tax planning with the hire of a remote employee, which creates a physical presence in the state and thereby gives rise to a responsibility for the proper administration of sales taxes in any state where there is a physical presence.
The rapid growth of remote work has brought both opportunities and challenges for businesses and individuals. Navigating the state and local tax consequences of remote work requires careful consideration of tax obligations at the business level as well as the effect it can have on employees. As the landscape continues to evolve, it is imperative to stay up to date on where employees are living and working to ensure compliance, optimize tax outcomes, and minimize potential pitfalls.
Understanding the implications of remote work on state and local taxation is essential for both employees and business as they adapt to the changing work environment. If you have any questions or would like to discuss this topic in more detail, please contact Thomas Frascella, Director, Tax Strategies and State and Local Tax Group Leader, or any member of our State and Local Tax team.