- Many employees are taking advantage of the newfound opportunity to work from anywhere.
- However, that freedom may come with significant new tax implications for employers.
- Depending on their residences and roles, remote workers could create an economic nexus — and unanticipated filing responsibilities for the business.
Coronavirus forced a massive experiment in remote working — and many businesses aren’t going back. Citing lower real estate costs, comparable or even increased productivity and employees’ desire for flexibility, many companies with the ability to do so are considering a permanent shift toward remote work and away from office upkeep.
But hit pause on that Hawaii home search for a second.
The common thinking is, “WFH means that our knowledge workers can remote in from anywhere.” Yet where your employees lay down their laptops does matter, because location may trigger new taxes.
Each state sets rules for when companies must file tax returns. The rules, known as economic nexus laws, usually set a low bar. In many states, for example, economic activity of just $100,000 within its borders can trigger filing requirements.
To understand the timely — and complicated — issues arising from economic nexus laws, Brainyard reached out to Brian Kirkell, a tax principal at audit, tax and consulting firm RSM. In the first of a two-part Q&A, we cover tax nexus in light of coronavirus-driven WFH and future considerations.
Brainyard: First of all, can you explain the overall concept of a tax nexus?
Brian Kirkell: To cut it down to its bare minimum, nexus is a jurisdictional concept. Basically, in the United States, a state can subject you to its laws only if it has jurisdiction over you. From a tax perspective, that is called “nexus.” So, a state can only subject you to its corporate income tax, franchise tax, or require you to collect or remit sales tax — whatever it may be — if you have a sufficient presence within the state to give it jurisdiction over you.
Rules around nexus vary based on state and industry. Normally, states have a broad provision that says, “If you’re doing x, y and z, or anything that exceeds constitutional protection, then you’re subject to the state’s taxing jurisdiction.” But not every state does that, and not every industry is subject to the same rules. For example, financial institutions have rules relating to deposits and loans that are very different from those that would be applicable to a manufacturer, and they vary from state to state.
BY: What constitutes a “sufficient presence” regarding employees?
BK: Generally speaking, the way that we look at employees and property is that we say, “If you have more than de minimis payroll or property in the state, you have a commerce clause presence.”
It does not really matter if those employees or property are operational, back office or managerial in nature. The de minimis amount varies by state. However, several states have adopted the Multistate Tax Commission proposal where $50,000 of payroll or 25% of a company’s total payroll in a tax period would meet the de minimis requirement.
Public Law 86-272 allows a business to go into a state to solicit orders for goods without being subject to a net income tax if the orders are sent outside of the state for approval and fulfillment.
BY: Does the role of a professional employee play a factor in determining if or how much the business owes the state?
BK: It does when it comes to senior leadership. If high-ranking executives, like the CEO and CFO, live in a separate state from the corporate headquarters or legal filing state of the business, a state could say, “The nerve center is where the C-suite is located.” The state could then claim to be the source of any intangible revenue, like copyright or patent loyalties, or loans.
For both employees and management, it’s important to model out the implications of remote work.
BY: What does the COVID-19 crisis and its resulting remote work mandates mean for state tax nexuses?
BK: COVID-19 caused many businesses in various industries to shut down their offices and tell their people to work from home. Now you have people all over the country, because home, or where they choose to quarantine, might not be in the same state that the office is in.
And, unless there’s legal relief, those people create nexus for you in every state they’re working in.
BY: What relief is there currently due to the pandemic?
BK: 15 states plus the District of Columbia released guidance saying that, for the duration of the pandemic, having a stay-at-home employee in their jurisdiction will not trigger filing responsibility on its own nor will it give you nexus on its own.
But those provisions have some problems. For instance, what is the duration of the pandemic? Is it when the White House says the pandemic is over? Is it when the governor lifts a stay-at-home order? If that’s the case, is it when the state housing the company office lifts the order or when the state where the employee is staying lifts it? Or, what if the state where the employee is never had a stay-at-home order? A lot of these provisions don’t give any clarity around that important aspect.
Download our guide to the guidance issued by 15 states plus the District of Columbia for nexus in the time of COVID-19.Download Now
There’s an additional issue in conjunction with nexus. Only a few states have said that the relief applies for Public Law 86-272 purposes. This is relevant because 86-272 protections could be obviated if a non-sales employee moves to a state without relief measures in place.
It’s something that businesses need to be cognizant of because it can be a nasty trap for the unwary.
BY: Some companies are considering making the move to remote work permanent. What will be the implication of that?
BK: A number of our clients have said, “We’re really successful with everybody working from home. Why are we paying 15% of our overall profits to real estate rental? Why are we paying real property tax on these offices? If we just get rid of them, we’re in a much better liquidity situation. And we’re going to tell our employees, ’You don’t ever have to go back to the office. We’re 100% virtual.’”
The immediate impact is that you no longer qualify for any of the COVID-19 relief provisions offered in the state where the office is located because now your people aren’t in the state just as a result of COVID-19. They’re in the state because you closed all your offices. Now, you have nexus everywhere that you have an employee. This means the business will have increased compliance costs and have to file returns in all those states.
However, depending on the situation, it could possibly be a good thing. It might actually help you.
BY: How could that be a good thing?
BK: For many companies, going fully or partially remote will allow them to decrease or eliminate some of the high-cost office space they have in expensive cities. Now, if employees opt to spread out, the business will have nexus and filing requirements wherever they go. However, the company’s effective tax rates might still be cut in half, from a corporate income tax perspective.
Despite the liability exposure, nexus created in multiple states by employees can present other unexpected benefits. Potential tax savings could result from differences in how states handle apportionment and sourcing. For instance, businesses could avoid their home state’s throwback/throwout rules if they have nexus in the state where they are selling. As another example, if a company’s newly dispersed workforce members leave cost of performance states and go to market sourcing states, that too is a benefit.
BY: One term that we have seen often in regard to nexus is ‘the convenience of the employer test.’ Can you explain what that means and its implications on both current and future remote work?
BK: When you get into a remote employee environment, some states have something called the “convenience of the employer test.” With that test, you still have to withhold based on that employee’s office of assignment even though they may work from a home office in a different state.
*DFA legal option
**Does not explicitly have a convenience of the employer rule in its tax laws or regulations, however, in practice, the state imposes a rule similar to that of New York
Now, during COVID-19, there have been some relief provisions that basically say, “If you’re working at home, withhold for that state. If you are working in the office, withhold for the office for the duration of the pandemic.” A notable exception is New York, where they have instead opted to continue the convenience of the employer test and continue taxing based on office assignment for the duration of the pandemic.
In the case that a company is doing an entire virtual transformation, I would absolutely argue that the convenience of the employer no longer applies. An employee’s place of business is wherever his or her home is, because there is no ordinary worksite.
In the event that a company decides to go partially virtual but still maintain some offices, circumstances are slightly different. If employees are assigned to an office in a state with the convenience of the employer rule but choose to work remotely, the state will require withholding on the employees as if they were still working in that space.
If you have a business with multiple offices, you can assign employees to an office outside of the convenience of the employer state. However, it should be noted that you have to show that there is a reasonable connection between them and the office of assignment.
BY: What best practices can companies use if they plan on making a permanent switch to remote work?
BK: Companies will need to implement systems, processes and employee communications in order to make the shift to remote. This is integral to ensure that employers are up-to-date on their employees’ current residence, withholding appropriately and in compliance with any other jurisdictional requirements. They may find they need to hire people to build out systems and put new controls and procedures in place to cover all applicable states and localities.
We are telling our clients that they can’t just say they’ll hire anywhere and their employees can move anywhere. Companies have to understand the impact of having nexus, the compliance filing requirement and how much they’ll have to pay from a sourcing perspective.
We’ve actually had clients have their corporate communications teams telling their employees, “We’re going 100% virtual. Anybody can live wherever you want, except for these five states.” We highly recommend, before getting out of offices and going remote, doing that analysis and having those conversations with employees — otherwise, the business is going to run into trouble.
Overall though, it’s very easy to start talking about state taxes and imagine that state taxes determine everything. They really don’t. This is an employer-employee relations issue — it’s about management. How do you want to run your business, and what do you want your business to look like? Then the state tax piece is a layer on top of that. You know what you want to do. Now how do you want to execute? And are you properly accounting for the potential tax pitfalls and opportunities when you execute this virtual transformation?
Remote work eliminates many of the expenses associated with maintaining an office. However, it does introduce some new tax considerations. Check back for our follow-up piece on additional tax concerns outside of nexus to consider when making the move to virtual.
About Our Expert
Brian Kirkell is a Principal of Washington National Tax at RSM US LLP, based in Washington, D.C. He tracks significant state case law and legislative and administrative activities and coordinates the firm’s response to law changes. Mr. Kirkell provides tax services to clients across the U.S., including advice on sales and use, credits and incentives, income and franchise and property tax issues. Prior to joining RSM, he was a manager of state and local taxes at Gannett and a senior manager of state and local taxes at Crowe Horwath LLP. He holds a Juris Doctor from the George Washington University School of Law and a Bachelor of Arts from the University of Rochester.
Megan O’Brien is Brainyard’s business & finance editor, covering the latest trends in strategy for CFOs. She has written extensively on executive topics as a former content creator for Deloitte’s C-suite programs. Got thoughts on this story? Reach Megan here.