The U.S. House of Representatives recently approved legislation to simplify employers' tax withholding compliance for employees who travel for work outside their states of residence.
H.R. 1393, the Mobile Workforce State Income Tax Simplification Act, would create a 30-day “safe harbor" that would exempt nonresident employees from state personal income taxes, and their employers from the related tax withholding obligations, so long as employees work in the nonresident state fewer than 31 days in a calendar year.
Employees would remain liable for state income taxes on wages earned in their state of residence and employers would continue to be responsible for resident state wage and tax reporting. If an employee worked longer than 30 days in a nonresident state, he or she would be liable for state income taxes on wages earned for all days worked in that state. The employer would also be liable for corresponding income tax withholding on those nonresident wages.
Certain job categories such as professional athletes and entertainers would be exempt from the safe harbor.
Driving this legislation is some 40 states’ widely different tax requirements for nonresident employees who travel into states for temporary work periods. The challenge is that there is no uniformity in state taxation requirements for nonresident employees and employers. Tax liability and withholding requirements for employees and employers related to travel for work to nonresident states vary from state to state.
When an employee works temporarily – even for one day in some states – in a state that is not the employee's state of residence, the employee may incur an obligation to pay nonresident state income taxes. In addition, the nonresident state may impose a duty on the employer to withhold income taxes on any wages attributable to work in the nonresident state, as well as to file a Form W-2 for that state – or face penalties.
Oregon, for example, triggers income tax liability when an employee’s nonresident state wages equal or exceed an employee’s standard deduction. In Georgia, tax liability occurs when an employee is in the state for more than 23 days, or if $5,000 or more than 5% of total income is attributable to Georgia, according to the Mobile Workforce Coalition.
Some states have a “days worked in-state” threshold: 59 days in Arizona, 15 in New Mexico and 14 in Connecticut. Other states have a de minimis exception to employer withholding based on wages earned, says the House Judiciary Committee report.
This patchwork quilt of fragmented state tax obligations for employees, paired with withholding and reporting requirements for employers, presents an unnecessarily complex and costly compliance burden. In an effort to ease this pressure, lawmakers on both sides of the aisle support administrative relief in the form of a uniform standard for nonresident taxation and employer withholding.
The American Payroll Association (APA) explained the need for such legislation in a letter to the House Judiciary Committee in 2015: "When an employee resides in one state and works throughout the year in another, state and local tax withholding and reporting can be very complicated. The employer must verify the employee's state of residence, check whether the two states have a reciprocity agreement, analyze the tax laws of both states, likely withhold for both states, and prepare a Form W-2 for both states. Of the 41 states with income tax withholding, most tax all wages earned within their borders by residents of other states."
Convinced the pending legislation would “reduce the burden and cost of administering multistate taxes for American workers and American businesses," APA strongly supports the Mobile Workforce State Income Tax Simplification Act of 2017.
Another advocate is the Mobile Workforce Coalition, an umbrella group of over 300 organizations seeking to simplify nonresident state income tax rules for traveling workers.
The group argues that "employees who travel outside their states of residence for business purposes are subject to onerous administrative burdens because they may be legally required to file an income tax return in every other state into which they traveled." And, employers must "comply with the states 'incredibly complex' withholding requirements for employees' travel to nonresident states for temporary work periods."
Put simply, The Mobile Workforce State Income Tax Simplification Act provides that for the first 30 days of work in a nonresident state, the traveling employee incurs no state income tax liability and the employer has no obligation to withhold taxes. After the 30th day of work in the nonresident state, however, the state’s tax and withholding requirements apply as usual and to all earnings in the state.
It’s important to note that the U.S. House of Representatives twice has approved versions of H.R. 1393 – in 2012 and 2015. The U.S. Senate has not followed suit. If mobile workforce tax simplification makes good sense and enjoys broad support, why hasn’t it happened?
Four procedural and substantive factors have stalled the bill:
1. The U.S. Senate operates under entirely different procedural rules than the House of Representatives, particularly with regard to amendments that may be offered during debate. Unlike the House, once a tax bill is pending on the Senate floor, senators may offer any amendments, making it unlikely that the Senate would consider a narrow, single-purpose tax bill like H.R. 1393 except as part of comprehensive tax legislation.
2. Some question whether the proposed 30-day safe harbor represents a “camel’s nose under the tent” federal government infringement upon the independent taxing power of the states. This is not the place to explore constitutional questions, but some states may object to the precedent of Washington D.C. even modestly limiting their taxing authority.
3. Perhaps most significant, it appears that states like California and New York that have large numbers of nonresident employees traveling from nearby states could sustain a large revenue hit if the federal government exempts nonresident employees who work 30 days or less from state personal income taxes.
The nonpartisan Congressional Budget Office (CBO), based on information from state officials and others, estimates that Illinois, California and New York would “face losses…with New York probably losing the largest amount of revenue – between $55 million and $120 million per year.” Senators from these states can be expected to oppose the House-passed legislation.
4. Finally, as news headlines scream every day, the Senate has a full legislative agenda for 2017. Senators are debating legislation to repeal and replace the Affordable Care Act, the first tax reform to cut personal and corporate tax rates in 30 years, infrastructure redevelopment and immigration reform, to name a few. Where H.R. 1393 fits in this crowded agenda is anyone’s guess.
Inconsistent state nonresident income tax rules and regulations can be an administrative nightmare for traveling employees and their employers. Republicans and democrats seem to agree that this hodgepodge of conflicting requirements presents a costly and complex compliance challenge.
H.R. 1393 would simplify nonresident taxation for employees and employers. The question is whether the benefits of nonresident tax simplification outweigh the costs – to revenue-losing states as well as possibly to their taxing authority. So far anyway, the Senate seems to have concluded that the costs outweigh the benefits.
For today’s payroll professional, the message seems clear: until and unless a national safe harbor solution is signed into law, employers must track state-by-state nonresident tax obligations on their own or rely on an HCM solution to help manage the requirements. For now, trusted HCM is the best answer.
Disclaimer: The information provided in this post is provided for informational purposes only and should not be relied upon or construed as legal advice and does not create an attorney-client relationship. You should review with your legal advisors how the laws identified in this post may apply to your specific situation.
With more than 30 years of experience in federal legislative and regulatory affairs, Jim O’Connell focuses on HR and PAYROLL POLICY ISSUES, keeping customers informed about fast-changing and complex compliance regulations and workforce trends. Follow him on Twitter JOCWashDCView Collection