What Is the Convenience of the Employer Rule?

SmartAsset: What Is the Convenience of the Employer Rule?

Remote work has become more popular in recent years and is among the many trends that have accelerated due to the COVID-19 pandemic. While remote work is nothing new, the rise in the number of people working remotely has become an issue when it comes to collecting taxes.

As a result, some states have adopted the convenience of the employer rule or something similar, which could result in double taxation for some employees. While there are some exceptions to the rule, employees working for employers that adopt the rule could owe quite a bit more at tax time. We’ll cover everything you need to know about the convenience of the employer rule as it continues to take shape.

A financial advisor could help you create a financial plan for your tax planning needs and goals.

Normally, employees working for an employer located in another state would only be subject to income taxes where they live. However, under the convenience of the employer rule, employees residing in a state different from where the employer is located may have to pay taxes in both states.

Despite the name of the rule, it is actually imposed by states and not employers. For example, suppose someone works for a company in New York but performs all of their work remotely from their home in New Jersey. Under the convenience of the employer rule, New York could collect state income tax because the person works remotely for a company in the state of New York. That’s in addition to the tax they are already paying to New Jersey.

In other words, employees may be subject to double taxation. While employees living in states with no income tax may be able to escape double taxation, others may be subject to withholding for two different states.

There are some exceptions to the rule, though. The biggest exception is one where the employer requires the employee to work in another state. If the employee’s job requires them to work in another state for whatever reason, they will not be subject to the rule. But if the employee is living in a different state for their own personal reasons, they may be subject to the rule.

Under the current version of the rule, this can put employees in a tough spot. For example, if they have a family of four living in a state other than where their employer is located, they could be subject to the convenience of the employer rule. They may not qualify for an exception even though it could be quite difficult for them to move to another state.

What Is the Purpose of the Rule?

As the rule’s name suggests, its purpose is to make things easier for employers and not necessarily for employees. Specifically, it attempts to make managing remote teams easier and more beneficial for employers. It also aims to prevent tax evasion by those who are working remotely.

The Convenience of the Employer Test

There are some cases where employees can escape double taxation. The main way is to pass the convenience of the employer (COE) test, which signifies their home office is a bona fide employer office. In order to do so, employees must either meet the primary criteria for the exception. Alternatively, they can meet four out of six secondary factors and three out of 10 of a group of other factors.

The primary factor is that the employer is a specialized facility the employee needs to perform their work duties, and it is close to them. Other factors include things like the office being a necessary condition of employment and having an area of their home that is designated only for work.

Which States Have the Convenience of the Employer Rule?

Right now, only five states are using the convenience of the employee rule:

Arkansas
Delaware
Nebraska
New York
Pennsylvania

Connecticut, Massachusetts, and New Jersey also have a version of the rule. In Connecticut, employees only have to pass the COE test if the state where the employee is working has similar tax laws. Meanwhile, Massachusetts has temporarily adopted the COE test, but only for employees who have been working remotely as a direct result of the pandemic.

In New Jersey, the COE rule will apply only as a direct result of an audit. It does this even though the state doesn’t use the rule otherwise.

Challenges to the Rule

These rules have already seen several challenges in court – a trend that may continue as the U.S. grapples with how to handle remote workers. Taxpayers have brought several cases to court in New York, citing clauses such as the Commerce Clause and the Due Process Clause. Unfortunately, legal challenges in New York have not gone the way of the taxpayer, with the rule largely being upheld.

In another case, one state challenged another: New Hampshire brought Massachusetts to court over its adoption of the rule for COVID-19 era telecommuters. Unfortunately for those telecommuters, the case was brought all the way to the Supreme Court, but the challenge was denied.

Bottom Line

The convenience of the employer rule allows some states to impose income tax on employees working remotely in other states for companies located within their borders. Unless employees live and work in a state with no income tax, they may be taxed twice. The main exception is where the remote work location is necessary to perform their job duties. While several legal challenges have been brought against the rule, most have failed so far.

Tips for State Income Tax

A financial advisor could help you mitigate your tax liability. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Income tax can significantly reduce your take-home pay, especially if you work in a state that has adopted the convenience of the employer rule. If you recently started working for a company based in New York, use SmartAsset’s New York income tax calculator to estimate how much state income tax you will owe there.
One way to potentially lessen the burden of the COE rule is to live in one of the nine states with no income tax. While the COE rule may still subject you to income tax where your employer is based, at least you can avoid state income tax at home.