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By Debera Salam and Michael Baer
Debera Salam is a director, Employment Tax, at Ernst & Young and Michael Baer is a managing editor at Bloomberg BNA.
The views expressed herein are those of the authors and do not necessarily reflect the views of Ernst & Young LLP or Bloomberg BNA.
Fewer than half (48 percent) of surveyed employers that have programs for withholding nonresident state income taxes for mobile workers said they follow all state guidelines concerning de minimis thresholds that would trigger withholding requirements, according to results from a Bloomberg BNA-Ernst & Young LLP survey.
Many respondents said they set their own threshold for determining when to withhold and pay nonresident taxes. This sets up 2016 to be a year of living dangerously for those employers that don't have adequate management of mobile worker taxation, as states are increasing audit capabilities in this area of tax compliance.
According to results of the survey, released in late 2015, four out of 10 of the more than 400 surveyed employers with workers crossing state lines reported they had been audited by state tax authorities, with 21 percent saying they were audited in the past year.
And the auditing doesn't stop at the state level. More than one-fifth (21 percent) said they have experienced a local tax audit due to mobile workers.
While not a direct comparison, audits of employment tax returns filed with the Internal Revenue Service are very low. According to the IRS, only 57,123 examinations were performed on 29,826,675 employment tax returns in fiscal year 2014, the most recent year for which this information has been made available.
The conclusion we arrive at based on the results of the joint BBNA-Ernst & Young LLP survey is that employers in 2016 are far more likely to be audited for employment tax issues by a state or local agency than by the IRS.
Some states and localities are more active than others according to an audit heat map developed by Ernst & Young LLP, and included in a 2015 special report, “Crossing US borders: Managing state and local mobile workforce income tax compliance.”
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The joint BBNA-Ernst & Young LLP 2015 Multistate Payroll Tax Compliance Survey sought to identify the most common payroll practices and areas of risk when paying a mobile, domestic employee population, and included questions on foreign nonresidents working temporarily in the U.S. For mobile workers crossing state lines to work, many states have unclear or difficult-to-administer provisions regarding taxation of those workers, and those requirements vary widely.
Arizona, for example, has a 60-day period during which employees from another state working in Arizona aren't subject to Arizona income tax withholding. Recently, and effective Jan. 1, 2016, Connecticut has adopted a 15-day rule.
Other states tax such workers from the first day. Colorado recently clarified its one-day policy. Some states, including New York, have at least a two-week time period before employers are obliged to withhold that state’s tax on the out-of-state worker.
Withholding and reporting requirements are even less clear for administering compensation when there is a delay between earning and paying, such as equity compensation, severance payments and bonuses.
Georgia has a time criterion (23 days in a calendar quarter) as well as a threshold dollar amount or income percentage that employers need to refer to for those workers in the state coming from elsewhere.
There are many exceptions to these de minimis rules across the states, the common ones applying to athletes, entertainers and higher-income executives who may visit a jurisdiction for even part of a day for an event or a board meeting. The lack of reciprocity in numerous jurisdictions can result in double taxation for mobile workers, with the resident jurisdiction requiring tax on all amounts earned while the work location also imposes tax on amounts earned within its boundaries.
Fifty-nine percent of respondents with mobile domestic workers have a program in place for withholding nonresident state income taxes, but many don't track the work location of all their mobile workers.
Some employers with a program (16 percent) for meeting nonresident income tax requirements only track work locations for employees who travel frequently, such as salespersons and buyers. Another 20 percent had programs only in select states and 10 percent limited their programs to only include executives and highly paid employees.
So employers are burdened to follow complex and varied requirements to track straight salary earned, allocate amounts appropriately, withhold taxes and file the proper reports to the work and home states.
But that isn't all.
Withholding and reporting requirements are even less clear for administering compensation when there is a delay between earning and paying, such as equity compensation, severance payments and bonuses. Taxing authorities can vary on the application of tax liabilities in this context as well.
Employers need to clearly identify the trailing compensation that must be attributed to work within a state since often they are required to report and pay taxes long after the employee has left the jurisdiction and even left employment.
Tracking trailing compensation and correctly sourcing these amounts presented a challenge to surveyed employers with mobile workers. The survey results show a significant number of respondents (32 percent) fail to source equity, bonuses and other trailing compensation to the appropriate state where the amounts were earned, and of those, 22 percent weren't even aware of the issue while 44 percent said they couldn't track down the historical data necessary for compliance.
States also want to ensure employers appropriately tax U.S. nonresident alien employee income earned within the jurisdiction. Some employers surveyed have few credible applications in place to capture these income amounts.
For example, survey results showed that 58 percent of the respondents that had foreign nonresident workers said they relied on travel data obtained directly from the employee, such as the viewing of travel calendars, for managing the taxation of those mobile workers.
The scope of employers involved may be broader than many think. The issue concerns employers that have anyone living and working in two different states or localities. Even if the employer operates only in one state or locality, having a single worker that commutes to work outside of the usual location can trigger nonresident income tax requirements.
The lack of standardization across states continues into 2016 as Congress has failed to move forward on the Mobile Workforce State Income Tax Simplification Act of 2015 (H.R. 2315, S. 386).
The legislation would require states to adhere to specific criteria before assessing tax liability on out-of-state workers. Under the bill:
The bill faces strong opposition from some state governments that view it as potentially reducing state tax income. Similar bills were proposed in past congressional sessions but weren't successful.
For all employers with mobile multistate workers, 2016 is a new beginning.
In a July 22, 2015, BBNA/Ernst & Young LLP webcast on U.S. mobile workforce income tax compliance considerations, Peter Berard, senior manager at Ernst & Young LLP, said that employers should begin their compliance process first by identifying their compliance risks and prioritizing remediation based on these risk levels. Berard suggested a four-step process illustrated in the graphic provided.
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When viewed in a graphic, these steps seem simple. In practice, this process can be daunting.
For some employers, gathering historical information of employee work locations is a manual task reliant on full and timely cooperation from affected employees.
Depending on the geographic diversity of these data, the lack of conformity among state and local taxing authorities also may be challenging, particularly when it comes to mitigation strategy and implementation.
From the preliminary survey report—and the full report will be available early in 2016—it is clear some employers are hesitant to move toward complete compliance with all the state and local tax requirements regarding mobile workers, with some determining to only apply their programs to subsets of workers. This leaves many employers with large potential tax liabilities, all while jurisdictions increase their audit capabilities.
In conclusion, while businesses are becoming more aware of business traveler payroll tax compliance, our survey results show that efforts to comply thus far may be insufficient when compared to the increasing pace and depth of state and local withholding tax audits.
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