New York State’s View on Telecommuting and an Opening Regarding New York City Unincorporated Business Tax
January 22, 2021
By Andrew Cohen
As we welcome in the New Year, we’re also thinking about the unbelievable changes in our lives over the past twelve months. The new normal has become social distancing and working from home as a result of the COVID-19 pandemic. With all these changes, employers are facing questions about whether or not they are required to withhold on employees whose primary office is in one state, such as New York, but who have been telecommuting from outside the state to adhere to the CDC guidelines or the need to quarantine. Fortunately, most states have not mandated withholding tax be withheld for employees that are working from home or working in a state temporarily due to the COVID-19 pandemic. Some states, including Colorado, Indiana, Kentucky, Michigan and Ohio, have taken the position that there is no authority to amend their current laws to avoid requiring the withholding by the employers. New York State has issued guidance, though, requiring employers to withhold on nonresident employees who are telecommuting, unless the employee can establish that he/she is working from a bona fide employer office. There are a number of factors that determine whether an employer has established a bona fide employer office at the employee’s telecommuting location. The key to this analysis is the New York State’s Convenience of the Employer rule, which is detailed below. However, as New York’s Convenience of the Employer rule is only applicable to the sourcing of wages for individual income tax purposes, there exists an opportunity for employers to pay reduced New York City Unincorporated Business Tax in certain circumstances.
Nonresident employees are subject to New York State tax on their taxable income derived from New York sources. When determining the amount of New York source income of the nonresident, If a nonresident employee performs services for their employer partially in New York and partially outside of New York, their income from New York sources includes the portion of their total compensation for services rendered while working in New York compared to the total numbers of days working within and without of New York. Under the Convenience of the Employer rule, any allowance claimed for days working outside of New York must be based out of necessity or obligation of the employer, as distinguished from the convenience of the employee. Any days that meet this qualification are considered non-New York days.
New York State recently published a frequently asked question (FAQ) bulletin that discusses New York State’s treatment of nonresidents telecommuting for a New York employer due to the COVID-19 pandemic. The FAQ confirmed that if a nonresident employee whose primary office is in New York State is telecommuting from outside the state due to the COVID-19 pandemic, that employee’s days telecommuting are considered New York days unless his/her employer established a bona fide employer office at the employee’s telecommuting location. In order to establish a bona fide employer office, the employer is required to take specific actions to establish the bona fide office in the employee’s telecommuting home.
On May 15, 2006, the New York Technical Service Division issued TSB-M-06(5)(I) (the “TSB-M”) which provided guidance on the type of actions that the employer must take to create a bona fide office in the nonresident telecommuting employee’s home. The TSB-M enumerated several factors that are applied to determine when a home office is a bona fide employer office. The factors are divided into three categories: The primary factor, secondary factor and other factors. In order for an office to be considered a bona fide employer office, the office must meet either the primary factor or at least four of the secondary factors and three of the other factors.
Primary factor: The primary factor will be met when the employee’s duties require the use of special facilities that cannot be made available at the employer’s place of business, but the facilities are available at or near the employee’s home. The TSB-M gives an example of the employee’s duties requiring the use of a test track to test new cars and the test track is not available at the city of the employer’s offices, but is available near the employee’s home. Given the narrow scope of the primary factor, this factor is not commonly met.
Secondary Factor: If the taxpayer cannot meet the primary factor, the taxpayer must meet four out of the six secondary factors, and three of the other factors. The six secondary factors are:
- The home office is a requirement of condition of employment: This factor is met when the employer requires the employee to work from his or her home as a condition of employment. One way to meet this factor is to include such a provision in a written employment contract.
- The employer has a bona fide business purpose for the employee’s home office location: If the employer has a bona fide business purpose for establishing an office near the employee’s home, the home office will meet this factor. This factor is met when an employee is working on several complex projects in his/her home state and establishes the home office in order to meet these project deadlines.
- The employee performs some of the core duties of his/her employer at the home office: The TSB-M does not define the term core duties, but does provide an example. In the example, a stock broker’s core duty includes the purchase and sale of stock. Thus, when a stock broker executes stock purchases and sales from his/her home office, the stock broker is performing his/her core duties. This is opposed to the stock broker merely reading business publications on the weekends, which does not constitute the stock broker’s core duties.
- Employee meets or deals with clients, patients or customers on a regular and continuous basis at the home office: This factor is met when an important part of the employee’s duties includes physically meeting with clients, patients or customers in the normal course of the employer’s trade or business, and those meetings are performed on a regular and continuous basis at the home office.
- The employer does not provide the employee with designated office space or other regular work accommodations at one of its regular place of business: The TSB-M gives an example of an employer who wishes to reduce the size of its offices in New York City to decrease rental expenses and therefore no longer provides designated office space or other work accommodations for one or several of their employees. Instead, the employer allows the employee(s) to work from home. When the employee comes to the office, they are given a visitors’ office to use.
- Employer reimburses employees for expenses incurred for the home office: This factor is met when the employer reimburses the employee for substantially all of the expenses related to the home office, or the employer pays the employee a fair rental value for the home office space used and the employer furnishes or reimburses the employee for substantially all of the costs associated with the purchases of supplies and equipment. The TSB-M defined substantially all of the expenses to mean 80% or more of the expenses.
The TSB-M lists the following other factors (three of these factors must be met):
- The employer maintains a separate telephone line and listing for the employee’s home office.
- The employee’s home office address and phone number is listed on the business letterhead and/or business cards of the employer.
- The employee uses a specific area of the home exclusively to conduct business of the employer that is separate from the living area. This area cannot be used for both business and personal purposes.
- The employer’s business is selling products at wholesale or retail and the employee keeps inventory of the products or product samples in the home office for use in the employer’s business.
- Business records of the employer are stored in the employee’s home office.
- The home office location has a sign indicating a place of business of the employer.
- The employer’s advertisements show the employee’s home office as one of the employer’s place of business.
- The home office is covered by a business insurance policy or by a business rider to the employee’s homeowner insurance policy.
- The employee is entitled to and actually claims a deduction for home office expense for federal income tax purposes.
- The employee is not an officer of the company.
The guidance provided in the TSB-M provides the requisite information to allow the nonresident employee to structure arrangements to establish a bona fide home office. However, this task has become increasingly more difficult with the elimination of one of the other factors as an employee currently cannot claim an itemized deduction for a home office as a result of the changes made by the TCJA. Additionally, if the employee is an officer of the company, this would eliminate a second other factor. The TSB-M has taken on new importance with New York State’s current treatment of telecommuting during the COVID-19 pandemic. With the difficulties surrounding meeting the bona fide office qualifications, employees may not get a reduction of New York State wages while working from home during the pandemic.
However, the need for employees to telecommute as a result of the COVID-19 pandemic may result in employers who are professional services companies, like law firms, paying less New York City Unincorporated Business Tax (hereinafter “UBT”). The basis for this savings is the sourcing of business receipts for purposes of the New York City UBT. New York Administrative Code 11-508(c)(3)(c) sources receipts for purposes of the UBT to the location where the services are performed. With the UBT, the Convenience of the Employer rule does not apply. Thus, there is a strong position to apportion the income based on where the telecommuters are actually performing the services.
For example, a law firm has twenty employees who work in an office in New York City: Prior to the pandemic, 100% of the receipts generated from the services performed by those attorneys would be sourced to New York City for purposes of the UBT. However, as a result of the COVID-19 pandemic, half of those 20 attorneys are now working outside of New York City in their home offices. Thus, now only 50% of the services are performed in the New York City office, and therefore only 50% of the income is apportioned to New York for purposes of UBT. This reduces the amount of the UBT the law firm is required to pay. However, at this time there is no clear guidance on the position New York City’s Department of Finance will take on the apportionment of income during the pandemic. Therefore, this position is not without risk.
It is important to note that the focus of this analysis is on the employees who are responsible for generating the income. This includes partners, but could exclude those in supportive roles that do not necessary generate receipts are not considered in this calculation.
With the possible reduction of UBT income being apportioned to New York City, there may be an increased risk of audit by the New York City Department of Finance. Thus, it is imperative to document where the employees are actually working. Documentation can be done with daily time sheet entries, or with the use of software products which keep track of the number of days that employees are working in the New York City office and the number of days working outside of the city in their home offices. This is an excellent way to document the exact location of where the employees are performing services and is an excellent tool to use to defend against an audit.
With the recent FAQ on how New York State will handle telecommuters, individual employees may find it difficult to establish that they are performing services in a bona fide employer home office under the Convenience of the Employer rule. Again: The employees will be required to establish that he/she either meets the primary factor, or four of the secondary factors and three of the other factors. If these factors are not met, all the employee’s wages will be subject to withholding. However, for purposes of the UBT, hedge funds or law firms (or any number of professional services firms) may have a rare opportunity to reduce the amount of income sourced to New York City for UBT purposes as its employees are performing services outside of New York City. The employer should take action to accurately track the exact location of these workers to defend against an audit. So, as we begin the New Year, the hope is for better days ahead. Until then, we need to navigate through these turbulent times.