Since the coronavirus pandemic began nearly three years ago, an unprecedented number of people have started working from home. No longer just for the lucky individual, working from home became a company-wide necessity in some cases, with thousands of workers permanently trading in their offices and coworking spaces for more COVID-19-compliant situations.
For some, the indefinite possibility of telecommuting turned into a unique travel opportunity or even a chance to relocate to their favorite rural destination while maintaining a big-city job. And although this might have changed things for the better for some workers, there are still a few things to consider in this new world of remote work — like the tax implications.
Whether you moved, spent a good part of the year traveling, or just recently started to earn money from your house, working outside of the state where your job is based can have some pretty messy consequences when it comes to time to file your taxes, including the possibility of paying additional tax.
Here’s everything you need to know about working remotely and what it could mean for your taxes this year.
You might be creating a nexus
Although this might sound like something from outer space, it’s not, and creating a nexus could hit too close to home for you this tax season.
“When an employee works from home or an office in a state other than the employer’s home state, that can create a physical nexus for the employer,” explains tax attorney Allie Petrova. “It can become a problem for the employer if the employer had no nexus in the state and now because of employee presence, the employer becomes subject to taxation in that state.”
Although creating a nexus might not affect you as much as your employer, it’s worth thinking about — especially if you work for a smaller company or if your employer isn’t aware that you’ve been working out of state.
Because income is taxed based on the state where you physically earned it, and because every state has slightly different tax laws, teleworking from outside of your company’s state could mean tax penalties for the business. And, if you haven’t (or don’t plan on) updated your address with the IRS, it could also mean consequences for your own taxes.
Although larger companies tend to have established tax relationships with states other than their home state, this might not be the case for smaller businesses. If you moved out of state or spent a significant amount of time working elsewhere this year, be sure to talk to your employer so you can both avoid any unexpected tax penalties.
You might be subject to dual residency
Another thing that can happen as a result of working in multiple states is being hit with something called dual residency. This occurs naturally whenever you report a move to the IRS, and will result in you getting taxed for different portions of the calendar year based on where you lived.
For example, if you lived in New York from January to March but then moved to California, you’d pay New York state taxes for those three months, and California taxes for the rest of that year.
The problem comes when dual residency results in double taxation, which can happen for a few reasons. If for example, you declare your domicile (or permanent home) to be in one country but reside for over 183 days (half the year) in another country, then your income may be taxed twice by both countries for the portion of time you lived abroad.
Another issue that happens is when your location within the U.S. is unclear, which can sometimes result in multiple states vying for the right to tax the same portion of your income — also called residency audits. This is another form of double taxation, and it’s happening more and more, especially in states where legislators have caught on to the fact that people tend to leave seasonally and work portions of the year elsewhere.
To avoid these tax issues, it’s good to be upfront about your whereabouts, both with your employer and the IRS. You should also consider documenting the dates of your travel or, if applicable, your move.
If the move is a permanent one, take steps to establish your state of residence (like changing your mailing address and getting a new driver’s license) as soon as possible — all of which will help when it comes time to figure out how to file your taxes. And if you plan on spending half the year in another country, be prepared for the possibility of double taxation.
You might benefit from reciprocity agreements
Although some states might fight tooth and nail for the right to tax your income, others have found a better solution, and that comes in the form of reciprocity agreements.
Reciprocity agreements are contracts between states that allow residents of one state to work in a neighboring state without having to file non-resident tax returns. For some states, this might mean offering a tax credit, the amount of which will vary based on the state. For others, they’ve simply worked out which of the two places will collect your state income tax in order to avoid making you pay twice.
For example, if you live in Pennsylvania but work in New Jersey, you’d be able to submit an exemption to your employer in New Jersey, which would make sure your tax withholding is done for Pennsylvania and avoid any need to file a nonresident state tax return to the state of New Jersey.
This is hugely helpful for people who live near state lines and commute across the border for work. But depending on which states you live and work in, you might just find yourself lucky enough to enjoy this perk as a remote worker.
The best way to find out whether your state has any reciprocity agreements with neighboring states is simply to look it up. Although these agreements are changing all the time, you can find out about your states by checking with the states in question or with your tax preparer.
You might have accidentally picked an aggressive state
On the flip side, you might find yourself living in a notoriously aggressive state. Although some states (notably California) have offered some sort of “nexus relief” to avoid overtaxing businesses or individuals for the duration of the pandemic, many haven’t. Others, like Kentucky, have said they’ll consider the impact on taxpayers working from home on a case-by-case basis.
Still, other states remain silent on what their tax policy will be, or otherwise saying it will depend on the conditions surrounding why a particular taxpayer is working from home. States might be more forgiving if someone is working from home because they’re considered part of the high-risk population, or if they’re working from home due to government lockdown orders.
The best way to find out how aggressively your state is pursuing tax revenue this year is to visit your state’s official website. Search for resources for taxpayers and businesses, and even consider contacting the correct state office directly for more information.
You might be mistaken about home office deductions
In the midst of our ever-changing work environment, another topic that’s confusing taxpayers is when and if they qualify for certain home office deductions. Although freelancers and small business owners who work from home have historically qualified for some type of home office deductions, that doesn’t mean the benefit is available to everyone.
In fact, if you’re considered to be an employee of a company (as opposed to an independent contractor), you likely don’t qualify. Because of legislation passed in the Tax Cuts and Jobs Act of 2017, employees who receive a paycheck or a federal W-2 form exclusively from one employer are not eligible for home office deductions.
In a nutshell, this means that as a remote employee, you won’t be able to make deductions for things like insurance, utilities, repairs, or depreciation related to anything in your home office — even if that’s where you spend all of your time working.
How to simplify your taxes
Whether you’ve been working remotely for years or just started recently, there are some relatively simple ways you can ensure a smoother tax filing experience this year. Here are some of our top tips for simplifying your taxes.
Use tax-filing software
Don’t go at filing your taxes alone. One of the easiest ways to ensure you don’t run into issues when filing your taxes is to use the services of the best tax software on the market. These programs not only help ensure you receive every possible deduction, but they’ll also help you avoid incurring fees or penalties from the IRS by ensuring every state income tax return you file is done correctly.
Do your research
Before it comes time to file your remote work taxes, be sure to research every state you spent time working in along with local tax rules. This is also a good idea for future trips, especially if you’re getting ready to plan a work-cation. By knowing the taxation laws for the states you telework from, you can avoid any bad surprises later and be better prepared when it comes to how to manage your money.
Are you taxed by where you live or work?
This depends on the state. Although most states tax your income based on where your physical presence is when you work, a few states (including Arkansas, Connecticut, Delaware, Massachusetts, Nebraska, New York, and Pennsylvania) have what’s called a convenience rule, which taxes your income based on the state where your employer’s office is located.
Can I be taxed on the same income in two states?
Although the Supreme Court ruled in 2015 that two states cannot tax the same income, the actual on-the-ground reality of how that works out can get more complicated. You may be taxed by two states on the same income, but receive a credit from one of the states.
And if your legal domicile or residency comes into question, two different states may feel they have the right to tax you and aggressively pursue that money. If you have questions regarding your specific situation and tax liability, it’s best if you book some time to talk with a tax professional.
Is it legal to work remotely from another country?
Although it’s legal to work remotely from another country, you should be aware of the 183-day rule, which states that anyone working 183 days (half the year) in another country is considered a resident for tax purposes and subject to taxation laws in both countries.
Taxation laws are never straightforward and, as of late, almost constantly changing. Although it wouldn’t be surprising if we see newer, more comprehensive laws for remote workers and teleworkers in the future, this year’s tax season may be a confusing one for many first-time telecommuters.
Familiarize yourself with the current tax laws in your state before it comes time to file taxes, and be sure to seek expert advice — through tax-filing services, software, or a certified public accountant (CPA) — if you feel like you need additional help to understand your tax obligations.