In recent years, there has been an uptick in the number of businesses here in Washington, D.C. and elsewhere employing workers on a remote basis. This increase in remote work has led to an emergence of tax liability concerns that employers are only beginning to understand.
State and local tax authorities are starting to audit tax returns for individuals as well as resident and out-of-state businesses, which can lead to surprise unpaid taxes for both parties. To stay ahead of this trend, business owners must take a fresh look at the work arrangements of their remote employees to determine once and for all what their actual tax exposure is.
How taxes work in an era of remote work
Traditionally, employers and their employees were located in the same state, so companies would simply be responsible for making mandated tax withholdings in the same jurisdiction as their office location. However, with the advent of COVID and the convenience/comfort of greater mobility, the prospect of working in another state has become a greater reality. In response, state revenue authorities are taking notice. This includes both the shift in payroll taxes along with the uptick in remote work in the past two years.
States are now exercising the right to tax income made in their state, regardless of where the business is located. Thus, if a business is located in the tri-state area and an employee has decided to do her job from California, the company could be obligated to pay a portion of taxes on the revenue generated in California.
As states began auditing tax returns, it was discovered that their employers were paying the state where their offices were located instead of the ones where their workers performed the work, resulting in lost revenue to fund social programs and public services in workers’ home states. This motivated revenue officials to start sending notices to in- and out-of-state companies letting them know that they also owed taxes in their employee’s state.
What tax obligations do employers with out-of-state remote workers have?
Some tax-related costs that you need to take into account as an employer with remote workers are employment taxes, disability, local taxes and unemployment insurance. Each state runs its own programs offering benefits, and payroll withholdings fund them.
Some states don’t require individual taxpayers to pay personal income taxes, and some states don’t have corporate income tax policies in place. Also, convenience rules apply in seven states: Arkansas, Pennsylvania, Delaware, Connecticut, New York, Nebraska and Massachusetts which lends itself to employees being taxed by both states. With slight variations, a remote employee is to pay employment taxes in their physical location if they are working remotely by necessity. Otherwise, their income is taxable in their employer’s location. COVID has further complicated matters, and states have issued different guidance as to whether or not the pandemic constitutes a “necessity” in the eyes of tax law. The implementation of this is likely to be met with some constitutional challenges as well.
Rules like this and intrastate reciprocity agreements may alleviate some of the burdens newly placed on both employers and employees that have arisen as the U.S.’s remote workforce has grown. Take the time to learn about the revenue collection laws that apply in all appropriate jurisdictions to ensure you’re not blindsided by an unexpected tax bill.