U.S. workers performing their jobs from another state may face an unexpected tax headache in their 2020 returns. But if you act now, you might get ahead of any surprises.
While you may have adapted to working from home by now, your remote employment may be creating a challenge you have yet to face: If you’ve been working across state lines, you could be ensnared in a mess of complicated tax rules. But getting ahead of this issue now may spare you from unpleasant surprises come next April.
More than 40 states (and the District of Columbia) tax earned income. Each jurisdiction has its own rules about who and what are subject to income tax. But these jurisdictions all tax “resident” taxpayers on all of their income—no matter where it is earned.
To date, few states have offered explicit guidance about how they will treat income from remote work during the pandemic for tax purposes. Though some states have indicated they will be more lenient, the fiscal pressures from the collapse in their revenues, together with a surge in state spending, create reasons to believe that other states may be aggressive in pursuing tax revenues wherever they can find them.
Don’t wait for your state to issue a declaration. There are some actions you can take right now, including keeping good records, knowing a bit about the law, asking for advice, and exploring potential alternatives. How complicated can it get? Well, for example, do any of these three now-common scenarios resemble your situation?
- High-Tax State Refugee—You’ve been working remotely in a lower-tax state and are wondering whether you can avoid your usual workplace’s high state taxes
- Non-Commuting Commuter—You’re not commuting into the office in another state and are wondering whether you still owe that state income tax at all
- Dual Resident—You’ve been spending so much time at your vacation home in another state, you might owe both states income taxes
Keep good records
This is the advice we usually give to clients whose lifestyles or regular employment has them living for extended periods in multiple states. Now it is one of our best tips for everyone working from home in a different state.
To protect yourself, we recommend that you keep detailed records of:
- How much time you spend in a given state
- Which days you work
- When state-mandated travel restrictions affecting you are in place
Meticulous records should prove helpful when it comes time to determine to which state(s) you will owe income taxes. With much still uncertain, you should review the facts of your current work arrangement with your tax preparer to determine your overall state income tax situation. Discuss whether it makes sense for you to adjust your withholdings or set aside extra cash for a larger-than-normal tax bill in April 2021.
On the flip side, if you expect to earn less income in 2020, consider whether you should reduce the amounts withheld from your pay, or remit as estimated quarterly payments.
(If you are a parent with children who moved home during the pandemic, you’ll want to make sure they keep detailed records and evaluate their options as well.)
Know a bit about the law
While you work from a different state, it’s best you familiarize with this basic information: Most states use a two-pronged definition to determine if you are a resident for tax purposes. You may be a resident if you have your domicile in that state or if you pass a statutory test:
- The statutory test is usually something along these lines: You maintain a permanent place of abode in the state and spend more than half the year (183 of 365 days) in that state.
- Domicile is a fuzzier concept. A domicile is your permanent home: the place that is the center of your life and to which you always plan to return. In determining domicile, multiple factors are considered, including such quotidian things as where: your children attend school, your car is registered, your vote is cast, you go to the dentist, and you keep your pets.
Even if you temporarily relocate to a different state, you may still be subject to income tax in the state you left. And even though you may have no intention of staying there permanently, you may still end up subject to tax in that state if you trip the statutory resident test.
Ask for advice
These issues are certainly ones to discuss with your tax advisor—and sooner is probably better than later. Your J.P. Morgan team is available to work closely with you and that professional to help you achieve your best possible outcome.
Not sure you really need this level of attention to your “working remotely” taxes? Take a quick look below at three common scenarios and their new ramifications.
Explore the potential complications
You may be asking yourself, “If I work remotely, where do I pay taxes?” and there are various things to consider. To illustrate the issues many U.S. taxpayers may face with their 2020 tax bills because they’ve worked from home during the pandemic, we offer this analysis of three scenarios that are now, strangely, common.
The High-Tax State Refugee
Gaurav is a software engineer for a technology company located in California’s Silicon Valley. His permanent residence (domicile) is in San Francisco, but since the COVID-19 pandemic began, he has chosen to work from his cabin in Lake Tahoe, Nevada. While California has one of the highest state income taxes, Nevada has no state income tax. If Gaurav stays in Nevada for 183 days or longer in 2020, does that mean he’s off the hook to pay tax to California on the income he earns while working remotely?
No. Even if Gaurav stays out of California for more than half the year, that state will tax him as a resident as long as California remains his domicile. To avoid California state income taxes, Gaurav would have to make his move to Nevada permanent.
Even someone who is neither a domiciliary nor a resident of a state may still owe tax there on income “sourced” from that state. In general, income earned for performing services in a given state is deemed to have its source there.
This income would also be subject to tax in the state where you are a resident. To mitigate the impact of this double taxation, states typically allow their residents to claim a tax credit for income taxes paid to another state. For example, someone who lives in Kansas City, Kansas, and works in Kansas City, Missouri, would pay tax to Missouri on the income earned there and get a credit against Kansas taxes owed for the amount paid to Missouri.
The age of telecommuting has blurred the line as to what it means to earn income “in” a state. Some states, most notably New York, take the position that, when income is tied to an office in that state, whether the taxpayer will be treated as having earned the income there will depend on whether the taxpayer is working remotely out of convenience, or, instead, out of necessity. If the taxpayer works remotely merely out of convenience, income will still be subject to that state’s tax.
But if the taxpayer works remotely out of necessity, that may be a different story. Which brings us to our second scenario.
The Non-Commuting Commuter
Sarah lives in New Jersey and commutes daily to New York City, where she works as an accountant. One snowy day in February 2020, Sarah decided to work from home rather than drive to work on icy roads. For that day, Sarah worked from home out of convenience, and New York would treat the portion of her salary she earned for that day of remote work as New York source income.
Fast forward to March 2020. The Governor of New Jersey issued a stay-at-home order, related to the COVID-19 pandemic, to all residents. While the order was in place, Sarah worked from home out of necessity, not out of convenience. Therefore, arguably, the income she earned during this time should not be subject to New York income tax. (Note: New York has not provided guidance as to whether or not it will respect this argument.)
The tax credits offered by one state may not always completely eliminate double tax, particularly when the state where a taxpayer is working remotely has a higher income tax rate than the state where she normally resides. States do not issue refunds to residents if the taxes paid to another state are higher than those they would pay to the home state.
Working “too long” in a given state could cause a taxpayer to be treated as a resident of that state due to a statutory day count rule. While nonresident taxpayers owe taxes only on the income they earn in a given state, resident taxpayers are typically subject to tax on income from all sources.
Inadvertently or not, becoming a resident of two different states could mean that income (such as investment income) that normally would be taxed by only one state would be subject to tax by two states. And if the state’s tax credit is not a dollar-for-dollar offset, that could mean a taxpayer would owe more in taxes overall. And that brings us to our third scenario…
The Dual Resident
Keisha is a domiciliary of Chicago, where she works in digital media. She owns a lake home in Minnesota that she uses for vacations in the summer. Early on in the COVID-19 pandemic, Keisha decided to leave Chicago for her Minnesota residence. Working from home was going so smoothly that she decided to remain in Minnesota all through the summer. By the time she returned to Chicago, Keisha had spent more than 183 days in Minnesota during 2020.
Because Keisha maintains a permanent place of abode in Minnesota—even though it is just a summer house—and meets the statutory day count rule, she will be treated as a Minnesota resident taxpayer in 2020. And yet, because her domicile remains in Illinois, she will also be subject to tax in Illinois on all of her income as an Illinois resident.
Illinois will allow Keisha to claim a tax credit for the income taxes she pays to Minnesota, but because Minnesota taxes her income at a higher rate than Illinois does, she ends up paying state income tax at the higher Minnesota rate.
Had Keisha been mindful of the number of days she was spending in Minnesota and left before she became a resident, she could have avoided Minnesota tax on all income but that which she earned while working there.