Remote work has become more popular in recent years. While remote work is nothing new, the rise in the number of people working remotely has become an issue when it comes to collecting taxes.
As a result, some states have adopted the convenience of the employer rule or something similar. We’ll cover everything you need to know about the convenience of the employer rule as it continues to take shape including:
- What is the Convenience of Employer Rule
- Which States have this rule
- The impact to the employer
- The impact to the employee
- Exceptions to the Rule
- How the states find out
What Is the Convenience of the Employer Rule?
Despite the name of the rule, it is actually imposed by states and not employers. For example, suppose someone works for a company in New York but performs all of their work remotely from their home in New Jersey. Under the convenience of the employer rule, New York could collect state income tax because the person works remotely for a company located in the state of New York. That’s in addition to the tax they are already paying to New Jersey.
Which States Have the Convenience of the Employer Rule?
Right now, only five states are using the convenience of the employee rule:
Arkansas
Delaware
Nebraska
New York
Pennsylvania
Connecticut, Massachusetts, and New Jersey also have a version of the rule. In Connecticut, employees only have to pass the COE test if the state where the employee is working has similar tax laws. Meanwhile, Massachusetts has temporarily adopted the COE test, but only for employees who have been working remotely as a direct result of the pandemic. In New Jersey, the COE rule will apply only as a direct result of an audit. It does this even though the state doesn’t use the rule otherwise.
The impact to the employer
Employers need to confirm that the employees are correctly set up in payroll systems to have the correct taxes deducted.
The larger issue concerns business income tax filings in various states. Depending on the state, the presence of an employee may obligate the business to file a business tax return and pay any related taxes and fees. For LLCs and S-Corps, this could mean the owner(s) need to file personal non-resident income tax returns in multiple states. In addition to the taxes, the cost to file the additional tax returns can be a significant increase in tax preparation costs.
The impact to the employee
Normally, employees working for an employer located in another state would only be subject to income taxes where they live. However, under the convenience of the employer rule, employees residing in a state different from where the employer is located may have to pay taxes in both states. In most states one receives a credit from their home state for most or all of the taxes paid to non-resident states. This helps lessen the impact of double taxation.
Bona Fide Employer Office Exception
New York provides an exception from the convenience of the employer rule in limited circumstances. To qualify for this exception, a taxpayer must establish that their home office constitutes a “bona fide employer office.” And this bona fide employer office is what creates the need for a business (and the owners) to file taxes in the employees home state.
The determination factors are divided into three categories: Primary, Secondary and Other factors.
Primary Factor
If an employee's work requires special facilities that aren't available at the employer's office but can be accessed near the employee's home, then their home office qualifies. For instance, if an employee needs a test track to test new cars and there's no test track at the employer's New York City office, but there is one near the employee's home, the home office qualifies. However, if the employee needs specialized scientific equipment that could be set up at the employer's New York office but is instead set up at their home or a nearby facility, the home office wouldn't qualify.
If the primary factor is not met, at least four of the secondary factors AND least three of the other factors must be met for the office will be considered bona fide:
Secondary Factors (need at least four)
1) The home office is a requirement or condition of employment. For example, if a written employment contract states the employee must work from home to perform specific duties for the employer, then the home office will meet this factor.
2) The employer has a bona fide business purpose for the employee’s home office location. For example, if the employee is an engineer working on several projects in his or her home state and it is necessary that the employee have an office near these projects in order to meet project deadlines, then the home office will meet this factor.
3) The employee performs some of the core duties of his or her employment at the home office. For example, the core duties of a stock broker include the purchase and sale of stock. Accordingly, if the stock broker executes stock purchases and sales from the home office, this would constitute performing some of the core duties at the home office. However, if the stock broker merely reads business publications on the weekend, this would not constitute performing any core duties at the home office.
4) The employee meets or deals with clients, patients or customers on a regular and continuous basis at the home office. For example, the employer has clients located near the employee’s home office and the employee must meet with the clients once a week to perform the duties of his or her job. If the meetings with clients are on a regular and continuous basis at the employee’s home office, then the home office will meet this factor.
5) The employer does not provide the employee with designated office space or other regular work accommodations at one of its regular places of business. For example, an employer wishes to reduce the size of the office space maintained in New York to decrease rental expenses and, therefore, no longer provides designated office space or other regular work accommodations for one of its employees. Instead, the employer allows the employee to work from the employee’s home. If the employee must come to the office, the employee must use the “visitors” cubicle, conference room, or other available space that is also used by the other employees of the company. In this instance, the home office will meet this factor.
6) Employer reimbursement of expenses for the home office. If the employer reimburses the employee for substantially all of the expenses (e.g., utility expenses, insurance) related to the home office, or the employer pays the employee a fair rental value for the home office space used and the employer furnishes or reimburses the employee for substantially all of the supplies and equipment used by the employee, then the home office will meet this factor. For purposes of this factor, substantially all of the expenses means 80% or more of the expenses.
Other factors (need at least three)
1) The employer maintains a separate telephone line and listing for the home office.
2) The employee’s home office address and phone number is listed on the business letterhead and/or business cards of the employer.
3) The employee uses a specific area of the home exclusively to conduct the business of the employer that is separate from the living area. The home office will not meet this factor if the area is used for both business and personal purposes.
4) The employer’s business is selling products at wholesale or retail and the employee keeps an inventory of the products or product samples in the home office for use in the employer’s business.
5) Business records of the employer are stored at the employee’s home office.
6) The home office location has a sign indicating a place of business of the employer.
7) Advertising for the employer shows the employee’s home office as one of the employer’s places of business.
8) The home office is covered by a business insurance policy or by a business rider to the employee’s homeowner insurance policy.
9) The employee is entitled to and actually claims a deduction for home office expenses for federal income tax purposes.
10) The employee is not an officer of the company.
Aggressive Pursuit of Remote Workers via Desk Audits
New York has traditionally been aggressive in auditing high-net-worth individuals’ returns to determine whether they are paying the proper amount of income tax to New York.
The Department has recently issued thousands of notices to individuals who have moved out of New York and/or allocated less income to New York than in prior years.
Most of these notices were issued in the form of a desk audit, which is automatically generated when the Department’s system notes a discrepancy in a tax return from a prior year filing.
Those who receive such notices should not ignore them; doing so can result in having to pay additional taxes that would then require an attempt to recover those taxes by filing refund claims.
Contact US
If you would like more information regarding the exception to the New York “convenience of the employer” rule, or if you have received a desk audit notice or questionnaire from the Department regarding your allocation of income to New York and you need guidance, don’t hesitate to contact us and schedule a time to discuss this further.
