New Challenges Arise as a Mobile Workforce Becomes the New Normal
The COVID-19 pandemic upended operations for countless companies, causing many employees to transition to remote work, including outside of their employer’s home country. The pandemic, however, has also ushered in an increased desire among employees to have more flexibility in where they live and work. Companies have witnessed the potential benefits of remote work, such as decreased costs associated with real estate. As a result, although governmental restrictions have largely been lifted, companies must consider whether to allow a mobile workforce to continue indefinitely.
Part and parcel of such a policy determination is an awareness and understanding of the tax and legal consequences that arise out of implementing a permanent remote or hybrid work environment.
State Payroll and Withholding Taxes
Companies need to know where their employees are physically working in order to determine their payroll or income tax obligations. An employee that moves to a different state or local jurisdiction - with or without the knowledge of the employer - can trigger new compliance obligations.
The general rule for state and local income tax withholding is income taxes must be withheld based on where the employee performed the services. So, for example, where an Oregon-based company employs an individual who works remotely from California, the company may need to withhold California income taxes because that’s where the services were performed.
Some states have dollar amount thresholds before an employer is required to withhold and/ or report income taxes and, compounding the complexity, some municipalities levy their own income taxes as well. Yet, still, an employer may be required to withhold school district taxes from an employee’s paycheck in certain localities.
Finally, companies need to also determine whether to and which state they must make unemployment insurance (“UI”) fund contributions. States have adopted a uniform four-part test to determine the correct state for UI contributions, the first criteria being the location where the services are performed. Relatedly, the company should also determine which state’s unemployment insurance law applies to a remote employee.
There are many complicated and interrelated variables that companies must consider to informedly develop remote work policies. Given the trajectory of the workforce, it’s not whether these issues need to be considered, but when.
Whether a state has nexus over a company can be affected by the presence of employees in such a state. If nexus is created by remote-working employees, it could cause a company to have significant - perhaps unintended or unanticipated - tax liabilities in a new jurisdiction. Although some states established temporary nexus waivers during the pandemic, where the presence of a remote employee working solely due to the pandemic would not create nexus in the state for enumerated taxes, most nexus waiver policies have now expired. Absent waivers, a remote employee can create nexus for a variety of state and local taxes, including but not limited to income, gross receipts, and sales taxes.
Often overlooked, companies may need to register their business in states where they have employees working remotely. Furthermore,, companies should determine whether state business licenses or license fees are required. Companies may wish to limit states in which they allow employees to remotely work to limit the universe of states in which they are subject to registration and licensure. Often the consideration extends beyond taxes and fees, but also to the regulatory environment of the state and strategic compatibility with the company’s business profile.
The Risks of Triggering Permanent Establishment by allowing Cross-Border Remote Work
In April 2022, Airbnb announced a new corporate policy allowing employees to live and work in over 170 countries for up to three months a year in each location. Acknowledging the complexities of taxes and payroll, Airbnb conceded that providing employees with this level of flexibility is something that most companies don’t, won’t, or simply cannot do because it isn’t feasible from a compliance viewpoint.
A complexity that arises with cross-border remote work is determining if employees’ activities in a home office in a foreign jurisdiction create a permanent establishment (“PE”) for the company, thereby triggering new filing requirements and tax obligations in those foreign jurisdictions.
Typically, a company with operations in a foreign country is subject to taxation in that foreign country with respect to all income sourced to that country. A company may qualify for benefits under a tax treaty between that company’s home country and the foreign country, which may provide that the company is not subject to taxation in the foreign country if the company’s activities do not create a PE in the foreign country.
Tax treaties generally define a PE as a fixed place of business within the foreign country that is at the company’s disposal. An employee may also trigger a PE if that employee, acting as a dependent agent, habitually exercises the authority to conclude contracts on behalf of the company in the foreign country.
The 2017 Organization for Economic Cooperation and Development (“OECD”) model treaty provides that whether an employee’s home office creates a PE is determined by whether the use of the home office is “so intermittent or incidental that the home will not be considered to be a location at the disposal of the .” Whether the company requires the employee to use their home to carry out the company’s business is also a consideration.
Several organizations, including the Multistate Commission (“MTC”) and the American Institute of Certified Public Accountants (“AICPA”), are working on creating uniform rules and legislation because of the magnitude of the compliance burdens touched on herein.
Moving forward, counsel and their compliance teams need to make some very complicated decisions. Companies that are adopting a mobile workforce may be well-advised to follow a model that is currently being purposed by the MTC and/or AICPA. Furthermore,, like Airbnb, companies may want to create task forces and teams dedicated to addressing these complex issues where resources allow, as well as engaging experienced advisors to help navigate the waters.
Qiva Dinuri and Nicholas Sanchez are both partners and tax attorneys at Miller Kaplan.