Telecommuting is increasingly becoming a fact of life due to advances in technology. Yet, despite the numerous advantages of telecommuting to both companies and employees, employers are hesitating to offer telecommuting as an option to an out-of-state employee because of the likelihood that states will subject the employer to a variety of state and local taxes when the only nexus they have with the state is a single employee telecommuting from the state.
“A fundamental issue that arises in situations where an employee resides in one state and telecommutes to a company located in another state is whether that creates nexus sufficient for the company to apportion income to the state of residence for purposes of the state's corporate income tax,” Joseph Huddleston, executive director of the Multistate Tax Commission, told BNA Sept. 20.
Telebright and Nexus in New Jersey.
The recent decision in Telebright Corporation Inc. v. Director, New Jersey Division of Taxation, 25 N.J. Tax 222 (2010), aff'd, 424 N.J. Super. 384 (2012), may have established the precedent states will follow when deciding whether to assess tax liability on an out-of-state employer that has only one employee telecommuting from the state on a full-time basis.
In Telebright, the Superior Court of New Jersey affirmed the New Jersey Tax Court decision that one full-time employee telecommuting from her New Jersey home had enough nexus with New Jersey to subject her out-of-state employer to New Jersey corporate business tax.
Telebright Corp. Inc. maintained offices in Maryland and had an employee who relocated to New Jersey for personal reasons. Telebright allowed her to telecommute full-time at her own expense. The employee, who developed and wrote software code for Telebright, worked entirely from her home and attended company meetings in Maryland twice a year. Telebright had no other connection to New Jersey.
Telebright withheld New Jersey income tax from the employee's salary and remitted it to the New Jersey Division of Taxation. The division of taxation determined that Telebright was required to file New Jersey corporate business tax returns because it was “doing business” in New Jersey. The Tax Court upheld the decision and Telebright appealed arguing Due Process and Commerce Clause violations. The court rejected Telebright's claims.
According to the court, Telebright had sufficient minimum contacts with New Jersey to satisfy due process because the employee worked for Telebright on a full-time basis in New Jersey and both the employee and Telebright had legal protections in New Jersey.
Further, the court found that the substantial nexus prong of the Commerce Clause was satisfied because the employee wrote a portion of Telebright's software product in New Jersey and Telebright benefited from all the protections afforded to the employee under New Jersey law.
Nexus and Other States.
A majority of states share New Jersey's conclusion that employing one person in the state is not de minimis, but rather, could create substantial nexus with the state.
According to the BNA 2012 Survey of State Tax Departments, 35 states reported that nexus would result for an out-of-state employer that permits an employee to telecommute from a home within their borders and who performs non-solicitation activities. Several states indicated that their answer would remain the same even if the corporation made no sales in the state or the employee telecommuted for only part of his or her total work time.
According to the survey, only six states said telecommuting would not trigger nexus for an out-of-state employer. Those states are Indiana, Kentucky, Maryland, Mississippi, Oklahoma, and Virginia.
Telecommuting Incentives After Telebright.
After Telebright, it would seem that employers would have little incentive to allow telecommuting.
However, “[t]here are many advantages to having employees telecommute including employee morale, retaining the best and brightest for your workforce (as was the case with Telebright), reduced expenses for office space and furniture, as well as the expense of retraining a skilled worker should they need to telecommute rather than be in the physical office,” Kristie Lowery, a partner in Ernst & Young's Employment Tax Advisory Services, told BNA in an email Sept. 20.
“In addition,” Lowery said, “there are various financial and tax incentives available for expenses incurred in creating or maintaining a telecommuting workforce strategy (or plan).”
In a webinar, “Roadblocks to Telecommuting: State Tax Policies That Can Prevent Companies From Maximizing Telecommuting Advantages,” held Sept. 20, Nicole Belson Goloboff, legislative adviser for Telework Coalition, said that “employers that implement telecommuting can reduce their overhead costs, such as rent and utilities, because they have fewer employees on-site every day.”
Other benefits of telecommuting for employers include reducing travel expenses, increasing productivity, and increasing efficiency. Absenteeism is decreased because employees can take care of family needs, such as a sick child, instead of taking a whole day off, Goloboff said. In addition, recruitment costs are reduced, recruitment results are improved, and turnover and associated costs are reduced.
Further, Goloboff said at the webinar, treating telecommuting as a basis for nexus validates telecommuting as a business practice that benefits employers and implicitly rejects the common misperception that telecommuting is an employee perk or accommodation.
Out-of-state companies would be forced to limit their telecommuting programs and lose the business benefits of telecommuting, Goloboff said. Further, Goloboff said, the nexus policy would limit sales of in-state companies by prolonging the unemployment of jobless residents in the state.
Cost-Benefit Analysis.
“In light of the New Jersey Telebright decision, employers should perform a cost-benefit analysis in states in which they do not have a presence for corporate income tax filing purposes to determine whether it is cost-effective for employees to telecommute in such states,” Cristina Schrob, director of PricewaterhouseCoopers' State and Local Tax (SALT) practice, told BNA in an email Sept. 20.
“For example, one employee telecommuting in a particular state could result in a significant corporate income tax liability,” Schrob said.
Companies should learn the law in the telecommuter's jurisdiction and learn how the tax department in that jurisdiction will treat telecommuting, Goloboff said.
Jaime Yesnowitz, principal with Grant Thornton LLP in Washington, told BNA in an email Sept. 20 that “[e]mployers might respond to this decision by being more vigilant in requiring employees that telecommute to report where the work will be completed.” Some employers may instruct employees not to take work home with them if they live in a jurisdiction in which corporate income tax nexus does not exist.
At the very least, following Telebright, employers will be more cognizant of the potential corporation income tax issues that might arise by employing telecommuters, Yesnowitz said. While the holding in Telebright could chill certain telecommuting arrangements, employees and employers that embrace telecommuting will want to preserve these arrangements due to the non-tax benefits that telecommuting provides, and tweaks to an existing telecommuting policy may ensure that telecommuting remains an option in most situations, Yesnowitz said.
Strategies for Minimizing Exposure.
Most employers know they have an issue and are concerned, especially given the need for state revenues these days, Lowery said. In today's environment, regardless of the industry or amount of travel, most employers are working to understand their historical exposure, entering into voluntary disclosure agreements for those states within which they have significant exposure from a historical standpoint, and finally working to become compliant going forward.
Without compliance, many employers recognize that not only can the liability create significant tax penalties and interest for the company, but it can impact a company's ability to do business as well as ultimately impact the mobile employee workforce from a personal liability standpoint, Lowery said.
Some corporate employers maintain a policy by which employees are only permitted to telecommute if the employer is already registered for corporate income tax and state income tax withholding in a particular state or locality, Schrob, said.
“This process mitigates the potential corporate income tax as well as sales and use tax nexus in additional jurisdictions,” Schrob said.
More specifically, “a telecommuting policy that requires employees to report where their work will be performed makes sense,” Yesnowitz said. “The policy allows employers to properly withhold state income tax from their employees and can serve to prevent employers from becoming subject to tax obligations in states in which employees telecommute.”
Huddleston suggested that state legislatures would be very responsive to business interests that want to establish de minimis exceptions for telecommuters. By granting a de minimis exception to the corporate employer, a state could bring in more sales tax revenue from residents who telecommute than the small amount of corporate income apportioned to them.
Another solution might be the Multistate Tax Commission's model statute,Factor Presence Nexus Standard for Business Activity Taxes, Huddleston said. Under the model law, nexus is triggered for contact with a state only if certain thresholds are exceeded during the tax period for property ($50,000), payroll ($50,000), or sales ($500,000), or a percentage of the total for each. However, it would be unlikely for a company to put someone in a state with income below $50,000, Huddleston said.
Federal Legislation.
The proposed federal Telecommuter Tax Fairness Act (S.B. 1811, H.R. 5615) could possibly provide incentive to companies to offer more telecommuting options to employees. The bill would eliminate the “convenience of the employer” test, which requires all of an employee's income to be allocated to the employer's location unless the employee can prove that work performed away from the employer's location was due to the necessity of the employer rather than the convenience of the employee.
The bill would require a nonresident individual to be physically present in a state before the state could apply its tax laws to the compensation earned by the individual while working in the state.
“While the bill does not cover corporation income tax issues, passage of the bill would provide corporations based in a 'convenience of the employer’ state a number of tangible benefits, including an additional pool of potential workers that otherwise would not choose to work for a company based in a 'convenience of the employer’ state,” Yesnowitz said.
In addition, the removal of the “convenience of the employer” test would eliminate the requirement that the employer consider whether the “convenience” test is being met, thus eliminating the issue of whether the employer should withhold state income tax imposed by the nonresident state, Yesnowitz said.
Although the proposed federal legislation would alleviate the withholding issue, it would not relieve the employer of the potential corporate tax liability resulting from an employee telecommuting (and, therefore, performing services) in his or her resident state, Schrob noted.
The issue for corporations that want to offer telecommuting as an option is clearly based on compliance, Huddleston said. The issue is not one to be readily solved by federal legislation, he said.
Copyright 2012, The Bureau of National Affairs, Inc.
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