by: Richard L. Feldman, CPA, Senior Manager
Once upon a time living in one state and earning revenue in another would have been very complicated. With the advent of modern technology and the ease of travel, however, such scenarios are commonplace. What remains complicated are the draconian tax implications that individual taxpayers and employers must face when earning income in one or multiple nonresident states.
Each state’s rules vary widely when it comes to taxing income earned in their state – and careless recordkeeping or ignorance of a particular state’s regulations can lead to double taxation or worse.
In past generations, individuals almost always earned their income not far from where they lived. But today, businesspeople often live in one place and conduct business very far from home.
Similarly, an employee living in one location can be sent by their employer to perform their job on the other side of the country. A traveling salesperson can potentially sell in a different state every day. All 50 states over the course of the year is not unusual. Another employee can be working from their living room on the East coast for an employer located on the West coast. Investing in a business entity located hundreds or thousands of miles away is certainly not out of the norm.
In general, nonresident individuals are taxed based on where their income is earned. While that may sound uncomplicated, it is not. Each state is free to use different methodologies to determine where income is earned. This also applies to apportionment and allocation.
States use different thresholds to determine who is taxable in their particular state. An individual can be in a state for a very short period of time and earn little or no income and still be subject to a filing requirement. Certain types of income can also be sourced differently depending on who is earning it. For instance a nonresident employee working in one state can be taxed differently than a business owner, a partner or an independent contractor conducting the same activity in that same state.
While most states will give a credit to a resident taxpayer for the tax paid to a nonresident state, the differing methods of computing that income and determining where it is sourced can result in situations where a taxpayer is taxed on the same income more than once. States may even disagree on the determination of which state an individual with multiple homes is a resident of, potentially forcing an individual to be taxed as a resident in more than one state. This could lead to the individual being taxed on “Unsourced income” by multiple states.
Needless to say, compliance with differing tax regimes can be quite challenging. Here are some general guidelines to follow.
- Scrupulous record keeping by business travelers is an absolute necessity. Upon audit a taxpayer may need to prove where they were on any given day, what they did there and who they met with. A contemporaneous diary is a must.
- Businesses that have employees working in multiple states must fastidiously track their employee’s whereabouts in order to withhold an accurate amount of tax and remit it to the correct state.
These are just some of the issues that nonresident taxpayers and their employers must deal with. In upcoming blogs we intend to delve into these and other issues in greater detail.