If your business has employees working remotely outside of your home state, it may have state income tax obligations it hasn’t yet considered.
Since the pandemic, remote work has exploded in popularity, and there’s every indication it’s a trend that’s here to stay. Per the Bureau of Labor Statistics, 27% of the U.S. workforce was working remotely at least in part in Q4 of 2022. While some of those employees live in the same state as their employer, many do not – an issue that might cause businesses to have state income tax nexus in states their remote employees live.
In this overview, we explore this issue in more depth, highlighting the evolving state income tax nexus standards that companies employing remote workers need to be aware of. We also outline the steps businesses should take to determine whether their remote employees potentially create a state income tax nexus they need to be aware of.
During the pandemic, when remote work became more common, many states took a relatively hands-off approach to determining whether remote employees resulted in a business having a state income tax nexus. In many cases, states provided temporary exclusions for remote employees in income tax nexus considerations. However, since the end of the pandemic, it’s become clear that remote work is here to stay. Many states are now in the process of updating and formalizing their position over whether remote workers can create state income tax nexus.
Previously, many companies have relied on Public Law 86-272 to guide their state income tax nexus considerations. This law dates from 1959 and provides protections for certain interstate activities, most notably the sale of tangible personal property outside of a company’s home state. But depending on a state’s laws, if an employee works remotely from that state, the business may lose the protection of Public Law 86-272.
Today, some states explicitly state that the presence of a remote worker(s) is a specific exclusion from Public Law 86-272 protection. Others have no specific guidance and largely leave it up to employers to determine whether they have a state income tax nexus. Many states fall somewhere in the middle of this spectrum. However, businesses should bear in mind that this is a constantly evolving area of tax, with many states in the process of redefining their laws in this area.
In recent years, the makeup of many businesses’ workforces has changed significantly. Offices have been downsized as many employees work on a hybrid basis, whereas others have moved away and now work entirely remotely. Today, many businesses aren’t entirely sure of where all of their employees are based, which has the potential to cause significant tax issues.
For that reason, it’s recommended that businesses make a proactive effort to determine where their employees are based and whether this results in a state income tax nexus.
Start by establishing the facts. Identify where each of your business’s employees lives, making sure that you have updated information that reflects any address changes in recent years. As part of this process, finance teams should also establish each employee’s key responsibilities.
Once you have established the states in which your remote employees live and work, work to establish the current state income tax nexus standards in that state, paying particular attention to any language that addresses the presence of remote workers in the state. This work is best conducted in partnership with an experienced accounting firm that offers multistate tax services. Without this level of sophistication, it can be challenging to assess evolving nexus standards in every state your business has employees.
By working together with an accounting partner, your business can determine whether it is required to file tax returns in states where remote employees live and work. Equally, there may be states where your business files returns today that it no longer needs to under new state nexus standards.
If your business hasn’t thoroughly examined the state income tax nexus requirements its remote employees might have triggered in the past two or three years, it’s likely something significant has changed. Nexus standards are evolving all the time, as is your business’s employee base, and staying on top of this issue can be a major challenge.
This should not be a one-time review: firms should manage this issue proactively. There may be some states with particularly aggressive tax laws that your business wants to avoid hiring employees in.
As this is such a complex and nuanced issue, many businesses opt to work with an experienced accounting and tax firm to understand their position. At Smith + Howard, our tax professionals work with businesses across the country to determine state income tax nexus. We take a rigorous, detail-driven approach to qualifying your business’s tax exposure and are also available to assist with any required filings.
To learn more about how Smith + Howard can support your business, contact an advisor today.
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