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| Elizabeth Smith |
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| Isabelle Farrar |
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| Andrew Yarrows |
Due to travel limitations imposed in response to the COVID-19 crisis, instead of taking trains, buses and cars to commute to work, people are going to work at home. This new work location has created concerns for both businesses and individuals as to what authority will be trying to tax work that happens from homes.
Foreign countries — and the Organization for Economic Cooperation and Development — the U.S. federal government and state governments have issued guidance and implemented temporary policies to help businesses and individuals navigate complex questions surrounding whether they have a taxable presence in a jurisdiction, withholding obligations, or individual residency and reporting obligations.
This article surveys current policy developments at the U.S. federal and state levels and provides practical considerations for practitioners and taxpayers.
Federal Relief Policies
The IRS has issued a variety of guidance aimed at easing the effects of COVID-19 travel restrictions on the tax treatment of nonresident aliens, foreign businesses and domestic businesses with international activities.
Taxable Presence
The IRS has provided that certain services or activities conducted in the U.S. by a nonresident alien, a foreign corporation or a partnership in which either of those is a partner will be disregarded for up to 60 days in determining whether the individual or entity is engaged in a U.S. trade or business or has a U.S. permanent establishment.[1]
This relief applies only if those activities would not have been conducted in the U.S. but for travel disruptions arising from the COVID-19 emergency.[2] Travel disruptions broadly include disruptions in transportation, shelter-in-place orders, quarantines, border closures and social distancing policies that cause individuals to feel unsafe traveling.[3]
If such entity or individual is not treated as conducting a U.S. trade or business or having a permanent establishment pursuant to the guidance, any income earned during the 60-day disregarded period will not be subject to the 30% gross basis tax imposed by Sections 871(a) and 881(a).[4]
Foreign Branch Income
In addition, the IRS has clarified that U.S. businesses will not be deemed to have foreign branches and accompanying filing obligations under Section 1503 solely as a result of employees working abroad due to COVID-19 travel restrictions.[5] Such businesses may waive up to 60 consecutive days of foreign activities in 2020 for purposes of Section 1503(d).[6]
Residency
Recent IRS guidance also disregards up to 60 days of U.S. presence for purposes of calculating substantial presence under Section 7701(b)(3) to determine U.S. tax residency.[7] Such days will be excluded for purposes of determining whether an individual is eligible for tax treaty benefits with respect to certain income earned in the U.S.[8]
This relief applies to certain nonresident individuals who were present in the U.S. starting on or after Feb. 1 and on or before April 1 and are presumed to have remained in the U.S. due to COVID-19 travel restrictions.[9]
Section 911 Relief
The IRS has issued guidance providing that an individual's eligibility to qualify for exclusions from gross income under Section 911 will not be impacted as a result of days spent outside of a foreign country due to the COVID-19 emergency.[10]
Section 911 allows qualified individuals to exclude foreign income and housing cost amounts from gross income. Qualified individuals must have a tax home in a foreign country and be present in a foreign country for certain statutory periods.[11]
Pursuant to Revenue Procedure 2020-27, individuals who departed China on or after Dec. 1, 2019, or another foreign country on or after Feb. 1, 2020, but on or before July 15, 2020, will be treated as "qualified individuals" under Section 911(d)(1) for certain periods if they can establish a reasonable expectation that they would have met such qualified individual requirements but for the COVID-19 emergency.
Accordingly, such individuals remain eligible to exclude from gross income certain foreign earned income and housing costs.
State Relief Policies
The isolating nature of the COVID-19 pandemic and accompanying governmental responses has led some states to address issues relating to wage sourcing and nexus. Responses vary by state and are generally more common in states with large commuter populations. Variations include who is covered (employers or employees), the location (working within or outside of the state), the time frame and the type of tax implicated.
It will be important to understand the applicability, nuances and interplay between states' and localities' various policies, as employers and employees dealing with cross-border work will have to apply the policies of the jurisdictions from where the employees were working prior to, during and after the COVID-19 crisis.
Withholding Obligations
Some states have announced temporary modifications to sourcing rules to keep employers and employees in the same position as prior to the COVID-19 pandemic. Other states have announced that sourcing rules have not changed.
No states have issued guidance on whether workplace disruptions caused by the COVID-19 pandemic will alter the interpretation of "convenience of the employer" withholding policies, which generally permit an employer to source a telecommuting employee's income to the state in which the employer is located.[12]
For states that have made temporary modifications, variations include whether the modifications apply to residents and nonresidents alike.
For purposes of withholding requirements and personal income tax, Massachusetts temporarily treats the income of nonresident employees who worked in Massachusetts immediately prior to the pandemic, and who began telecommuting from another state on behalf of a Massachusetts business due to certain pandemic-related circumstances, as Massachusetts source income.[13]
In addition, with respect to resident employees who previously worked outside of Massachusetts, an employer need not withhold Massachusetts income taxes with respect to such employees to the extent the employer is required to withhold for the employees in another state.[14]
Mississippi has announced it will not change a business' withholding requirements based on its employees' temporary telework locations.[15] New Jersey has also indicated that for the purposes of sourcing employee wages during the pandemic for withholding purposes, wage income will continue to be sourced in accordance with the employer's jurisdiction.[16]
Taking a similar approach, South Carolina has announced temporary policies that generally provide that a change in an employee's work location will not cause resident and nonresident businesses to alter their withholding practices.[17]
Some states have made modifications that impact withholding only for nonresidents: For example, Pennsylvania will continue to treat income as Pennsylvania-sourced, and thus requiring withholding, when a nonresident employee that normally works in Pennsylvania is temporarily working at home in a different state.[18]
In contrast, some states are not making temporary modifications. Illinois announced that out-of-state employers may need to register with the Department of Revenue and withhold Illinois income taxes from a resident employee that spends more than 30 days working from home in Illinois.[19]
Similarly, a recently adopted rule provides that employers must withhold Illinois income tax for nonresident employees that work in the state for more than 30 days, excluding any days that the employee performs disaster or emergency-related services from Illinois during a disaster period. Although this rule is not specifically intended to provide relief in the context of COVID-19, it may have the effect of benefiting emergency workers temporarily providing services in the state.[20]
Maryland has announced it will not alter its standards for determining income sourcing for withholding tax purposes, which currently source income, and thus require withholding, based on the location of performance of services.[21] Thus compensation paid to a Maryland nonresident who is teleworking in Maryland is Maryland source income and withholding is required.[22]
In determining whether an employer properly withheld and reported employee state withholding, the Maryland comptroller will consider the temporary nature of the business's workplace model and employee locations in light of the health crisis.[23]
Nexus
As with withholding modifications, some states have announced temporary nexus modifications that will not subject entities to taxation because of modifications necessitated by the COVID-19 pandemic.
For corporate tax, Massachusetts, for instance, has provided that the presence of employees working remotely from Massachusetts due to pandemic-related circumstances, including any property reasonably needed for the employee's use, will not be sufficient to establish corporate nexus.[24]
Likewise, New Jersey will not treat the presence of employees working from their homes in New Jersey as sufficient nexus subjecting out-of-state corporations to New Jersey taxation.[25] Indiana, Mississippi, South Carolina, Pennsylvania and others have adopted similar policies.[26]
States are taking similar approaches with respect to nexus for sales and use tax purposes. For instance, neither Massachusetts nor New Jersey requires out-of-state sellers to collect sales and use taxes if the seller does not maintain a physical presence in the state, aside from employees temporarily working from home.[27]
For franchise tax, Washington, D.C., announced it will not impose corporation franchise tax or unincorporated business franchise tax nexus solely based on the presence of property in the District allowing employees to work from home, such as computers and related equipment, or on the basis of employees working from home in the District.[28]
Many states — including California and New York — have not addressed how employees working remotely as a result of COVID-19 might affect a business' nexus in state.
Apportionment
States that have addressed withholding and nexus requirements have generally failed to expressly address the issue of business income apportionment. In general, state apportionment formulas require businesses to apportion income to the state based on one or a combination of payroll, property and sales factors.
It is largely unclear if and how states may clarify or alter their apportionment formulas in response to COVID-19 disruptions.
Thus far, Massachusetts has announced that services performed by an employee temporarily working remotely in Massachusetts will not affect the employer's payroll factor for apportionment calculation purposes.[29] Nor will the presence of any business property reasonably necessary for the employee's use affect the employer's property factor.[30]
Rhode Island has provided similar guidance, announcing that the numerator of an employer's payroll factor will not increase due to employees temporarily working from Rhode Island.[31] Likewise, Mississippi has provided that the temporary location of an employee will not change an employer's apportionment of income.[32]
Individual Residency and Income Tax Obligations
Unlike modifications to sourcing and nexus requirements, states have not yet announced modifications to residency requirements. Therefore, taxpayers isolating in a state or country different than that of their primary residence should be aware of residency requirements, and of any pertinent exceptions.
In the absence of state guidance on residency rules during COVID-19, taxpayers may be able to take advantage of existing statutory exceptions to residency requirements in some cases, such as New York's exception for medical emergencies that force an individual to remain in the state.[33] This exception is analogous to the IRS' medical exception to residency requirements that the IRS has said applies to the COVID-19 pandemic.[34]
Several states have addressed the impact of remote work on personal income tax obligations. The relief generally varies based on whether the taxpayer is a resident or nonresident.
For instance, Massachusetts has provided that wages are subject to Massachusetts income tax when earned by a nonresident employee who is temporarily telecommuting from another state on behalf of a Massachusetts employer due to pandemic-related circumstances but who, immediately prior to the pandemic, worked in Massachusetts.[35]
As noted above, Pennsylvania has adopted a similar policy.[36] Massachusetts will continue to tax all income earned by residents from any source.[37] However, a resident who performed services outside of Massachusetts prior to the pandemic, but who began performing such services in Massachusetts due to pandemic-related circumstances, will be eligible for a credit for income taxes paid to the state where the employee previously provided services.[38]
Taking a different approach, New Jersey will temporarily allow individual taxpayers who are telecommuting or temporarily located out-of-state to source their wages, for individual income tax purposes, as determined by the employer in accordance with the employer's jurisdiction.[39]
Minnesota, in contrast, has announced that income tax filing requirements have not changed for residents that are temporarily telecommuting.[40] However, nonresidents and part-year residents temporarily working from home in Minnesota may be required to apportion their income based on the number of days spent working in the state.[41]
Practical Considerations for Assessing Shifting Tax Obligations Resulting From Telework
Track employees' locations and maintain records for withholding, nexus and apportionment purposes.
Employers having employees who are temporarily teleworking in a state or country different from that in which they typically work should track their locations and the number of days employees work in each state or country.
This information will ultimately assist in determining whether the employer has withheld and remitted taxes to the appropriate jurisdictions, as well as the employer's nexus to a particular jurisdiction. Employers should also maintain written records that will support any actions taken in response to the pandemic.[42]
In addition, employers may want to be aware of any reciprocal agreements or treaties between locales that eliminate this issue in some instances. Employers should also consider tracking government orders, workplace policies, health-related advice or anything else that necessitates workplace closures or reduced staffing.
Retain documentation for individual income tax reporting and residency purposes.
Similarly, individual employees may find it advantageous to track contemporaneously their location and the number of days they worked or resided in a different location to ensure they comply with any corresponding tax reporting and payment obligations.
Taxpayers should also consider documenting government orders, employers' workplace policies, advice received from health care providers, or anything else that necessitates working or living in a different location.
In addition, the IRS urged nonresident aliens and foreign corporations to retain documentation with respect to establishing periods that are chosen to be excluded from certain U.S. federal income tax calculations.[43] It also noted that taxpayers may consider making protective U.S. tax filings if any tax treatment is uncertain.[44]
Account for differing withholding and sourcing rules, as well as reciprocal agreements.
Employers having employees temporarily working in a different state should take care to understand the wage sourcing rules and related withholding obligations of the state in which they normally work and those of the state of temporary work. Each state may impose withholding obligations on a different basis.
As discussed above, several states also have convenience of the employer rules that may provide guidance to employers on withholding obligations for telecommuting employees. Moreover, certain states have issued reciprocal agreements that may nullify a possible sourcing and withholding dilemma.
Employees who ultimately pay taxes in multiple states should also consider whether a credit may help offset the imposition of double tax.
Monitor for further relief measures.
Most countries and states have yet to issue guidance on the issues discussed herein. In particular, there is a general lack of instruction surrounding issues of residency and apportionment. Taxpayers and their advisers should strive to remain aware of ongoing developments at the state, federal, and international levels that may have a significant impact on taxpayers' obligations.
Reevaluate obligations as temporary relief measures expire.
As states reopen and travel disruptions subside, many of the temporary relief measures described in this article will expire. Nevertheless, employees may continue to work remotely for extended periods as employers develop return-to-work policies and formal teleworking policies.
Employers should continue to evaluate their withholding obligations, as well as their nexus in states where employees are teleworking, as temporary relief policies expire. Similarly, individual employees should continue to document their own locations to ensure compliance with any income tax obligations that are ultimately imposed.
Elizabeth Smith is counsel, and Isabelle Farrar and Andrew Yarrows are associates, at Ropes & Gray LLP.
The opinions expressed are those of the authors and do not necessarily reflect the views of the firm, its clients or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
[1] See IRS FAQs for Nonresident Alien Individuals and Foreign Businesses with Employees or Agents Impacted by COVID-19 Emergency Travel Disruptions (June 12, 2020).
[2] Id.
[3] Id.
[4] Id.
[5] See Rev. Proc. 2020-30.
[6] Id.
[7] See Rev. Proc. 2020-20.
[8] Id.
[9] Id.
[10] See Rev. Proc. 2020-27.
[11] See 26 U.S.C. § 911.
[12] See, e.g., TSB-M-06(5)I, New York State Dep't of Taxation and Finance (May 15, 2006).
[13] See 830 CMR 62.5A.3: Massachusetts Source Income of Non-Residents Telecommuting due to the COVID-19 Pandemic (EMERGENCY REGULATION), Mass. Dep't of Revenue (July 21, 2020). The pandemic-related circumstances broadly include "(a) a government order issued in response to the COVID-19 pandemic, (b) a remote work policy adopted by an employer in compliance with federal or state government guidance or public health recommendations relating to the COVID-19 pandemic, (c) the worker's compliance with quarantine, isolation directions relating to a COVID-19 diagnosis or suspected diagnosis, or advice of a physician relating to COVID-19 exposure, or (d) any other work arrangement in which an employee who performed services at a location in Massachusetts prior to the Massachusetts COVID-19 state of emergency performs such services for the employer from a location outside Massachusetts during a period in which 830 CMR 62.5A.3 is in effect."
[14] Id.; TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic, Mass. Dep't of Revenue (July 21, 2020).
[15] See Mississippi Department of Revenue Response to Requests for Relief, Miss. Dep't of Revenue (March 26, 2020).
[16] See Telecommuter COVID-19 Employer and Employee FAQ, N.J. Treasury (May 27, 2020). A reciprocal agreement with Pennsylvania not to tax the wages of residents of the other state eliminates wage sourcing issues for these employees.
[17] See SC Information Letter #20-11, South Carolina Dep't of Revenue (May 15, 2020).
[18] See COVID-19, Penn. Dep't of Revenue (April 10, 2020).
[19] See Informational Bulletin, Ill. Dep't of Revenue (May 2020).
[20] See Illinois Register, Rules of Governmental Agencies, Vol. 44, Issue 26, Pages 10,831-11,131 (June 26, 2020).
[21] See Tax Alert 05-04-20, Comptroller of Maryland (May 4, 2020). Maryland notes that it has executed reciprocal agreements with Virginia, Washington D.C., West Virginia, and Pennsylvania that eliminate sourcing concerns. Notably, it has no reciprocal agreement with Delaware. Similarly, the Governor of New York announced that the state plans to impose income tax on emergency workers who are temporarily performing services in New York, in accordance with the state's usual income tax rules. See New York Gov. Cuomo Holds Coronavirus Briefing (May 5, 2020).
[22] Id.
[23] Id.
[24] See TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic, Mass. Dep't of Revenue (July 21, 2020).
[25] See Tele-Commuter COVID-19 Employer and Employee FAQ, N.J. Treasury (May 6, 2020). This waiver applies to employees working from New Jersey solely as a result of closures due to the coronavirus outbreak and/or their employer's social distancing policy.
[26] See COVID-19 FAQs, Indiana Dep't of Revenue (April 29, 2020) (announcing that the Department will not take into account an employee's temporary relocation due to COVID-19 as a basis for establishing nexus in Indiana); Mississippi Department of Revenue Response to Requests for Relief, Miss. Dep't of Revenue (March 26, 2020) (announcing that the Department will not impose nexus on an employer based on temporary changes in employees' work locations due to COVID-19); SC Information Letter #20-11, South Carolina Dep't of Revenue (May 15, 2020); COVID-19, Penn. Dep't of Revenue (April 10, 2020) (confirming that the Department will not impose nexus on a business with respect to Sales and Use or Corporate Net Income Taxes for physical presence of employees that results solely from COVID-19).
[27] See TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic, Mass. Dep't of Revenue (July 21, 2020); Tele-Commuter COVID-19 Employer and Employee FAQ, N.J. Treasury (May 6, 2020) (providing that eligible corporations must also remain beneath certain economic thresholds).
[28] See OTR Tax Notice 2020-05 (Apr. 10, 2020).
[29] See TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic, Mass. Dep't of Revenue (July 21, 2020).
[30] Id.
[31] See Rhode Island Advisory No. 2020-24, Rhode Island Div. of Revenue (May 28, 2020).
[32] See Mississippi Department of Revenue Response to Requests for Relief, Miss. Dep't of Revenue (March 26, 2020).
[33] See Stranahan v. State Tax Commission, 254 N.Y. App. Div. (1979).
[34] See Rev. Proc. 2020-20.
[35] See 830 CMR 62.5A.3: Massachusetts Source Income of Non-Residents Telecommuting due to the COVID-19 Pandemic (EMERGENCY REGULATION), Mass. Dep't of Revenue (July 21, 2020); TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic, Mass. Dep't of Revenue (July 21, 2020).
[36] See COVID-19, Penn. Dep't of Revenue (April 10, 2020).
[37] Id.
[38] Id.
[39] [39] See Telecommuter COVID-19 Employer and Employee FAQ, N.J. Treasury (May 27, 2020).
[40] See COVID-19 FAQs for Individuals, Minn. Dep't of Revenue (May 27, 2020).
[41] Id.
[42] For instance, Massachusetts requires businesses to maintain written records that establish "pandemic-related circumstances" in order to qualify for certain relief. See TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic, Mass. Dep't of Revenue (July 21, 2020).
[43] See IRS FAQs for Nonresident Alien Individuals and Foreign Businesses with Employees or Agents Impacted by COVID-19 Emergency Travel Disruptions (June 12, 2020).
[44] Id.
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