<b>Commentary:</b> Speed Passage Of The Telecommuter Tax Fairness Act

Now that the 109th session of Congress is well under way, passing The Telecommuter Tax Fairness Act must be a top priority for legislators. This proposed legislation would prohibit states from imposing a punitive tax on nonresidents who choose to telecommute some or most of the time to in-state employers. By proscribing such a tax, the law would remove a significant obstacle to the continued growth of an important form of e-commerce: interstate telework.

Convenience of The Employer Rule

The Telecommuter Tax Fairness Act (the Act), first introduced last September by Sen. Christopher Dodd (D-CT) and Rep. Christopher Shays (R-CT), would eliminate a state tax rule known as the “convenience of the employer” rule. New York is among the states to apply the convenience rule. Pennsylvania and Nebraska have maintained similar rules.

Under the rule in New York, a nonresident who elects to telecommute part-time to a New York employer may owe taxes to New York on 100% of his or her income, including the income earned at home. Because the telecommuter's home state may also tax the income earned at home, the telecommuter risks taxation by both states on the same income.

Consider, for example, a Connecticut resident who works for a firm in Manhattan and telecommutes 2 days a week. In addition to taxing the income the employee earns while physically in New York, New York may tax the telecommuter on the income he or she earned at home in Connecticut: New York may consider the income the telecommuter earned in Connecticut as New York source income. Connecticut, however, may take a different view. It may regard the income earned in Connecticut as Connecticut source income. Thus, Connecticut may tax its resident on the income earned there and may not grant a credit for taxes paid to New York on that income. As a result, the nonresident employee may be taxed twice on the income earned at home. By making telework costly for nonresidents, the convenience rule discourages this kind of interstate employment.

New York's Harsh Approach

The Empire State is aggressive in applying the convenience rule. For example, although New York may not tax income earned outside New York if the telework arrangement was an employer necessity rather than a personal convenience for the employee, the state rarely regards telework as necessary. Even in cases where the employer requires the employee to work offsite and prohibits the employee from using space at the New York office, the state may find that telework is merely a personal convenience for the employee. According to New York, telework is necessary only if the nature of the work is such that it cannot possibly be conducted in a New York office. This situation will seldom arise, however, because work that is sufficiently portable to be performed at home can probably also be performed at the office.

While New York takes a narrow view of when telework is necessary, it takes a broad view of who qualifies as a “part-time” telecommuter subject to the convenience rule. Even if a nonresident telecommuter spends only a few days a year working in New York, the state may apply the rule and tax the employee on his or her total income for the year. In a case pending before the New York Court of Appeals called Huckaby v. New York State Division of Tax Appeals, New York taxed 100% of the income of a Tennessee resident who telecommuted to a New York employer, despite the fact that the nonresident spent only 25% of his work time in New York.

Costs of the Rule for Employers

The convenience rule can be expensive for employers as well as employees. One reason why the rule is costly for employers is that, by discouraging employees from telecommuting, the rule prevents businesses from maximizing telework's bottom-line benefits. These benefits include:

• Reduced overhead expenses;
• Reduced recruitment and turnover costs; and
• Increased productivity.

If businesses can't exploit the savings and gains telework offers, they may lose a competitive advantage. To try to remain competitive, some firms may increase their reliance on offshore workers, threatening American jobs. Some may relocate to regions with more hospitable tax policies, threatening the financial stability of the communities they vacate.

Another reason why the convenience rule is detrimental to employers is that it may impose on them significant and administratively challenging withholding obligations. One commentator on New York's rule illustrated the problem as follows. At the beginning of the year, a nonresident employee of a New York employer may not expect to spend any time working in New York, and the employer may not withhold New York taxes from his or her pay. If, in December, a 3-day business trip to New York becomes necessary, the employer may suddenly have to withhold taxes based on the employee's salary for the year. If the amount the employer must withhold exceeds the employee's remaining pay for the year, this commentator queries, will the employer have to ask the worker to return some of the pay he or she has already received?

New York's Department of Taxation and Finance has recognized the risk for employers. In its Withholding Tax Field Audit Guidelines dated Sept. 17, 2004, the department provided that employees who expect to spend none of their time in New York may submit a tax form, Form IT-2104.1, setting forth this expectation. According to the department, an employer may rely on this form, as long as the employer does not have actual knowledge or reason to know that the form has become incorrect. However, this provision hardly cures the problem. If the employer does become aware, or acquire reason to know, that the form is no longer accurate ' or if the employee never submitted a form ' the employer may still be responsible for last-minute withholding on the employee's entire annual pay.

In his recent State of the State Address, New York Gov. George Pataki called for a tax code that is “fairer … and friendlier for everyone.” Because of the hardships the convenience rule imposes on New York businesses, any meaningful effort to ease their burdens would have to include abandonment of the rule. Although New York's intransigent commitment to applying the convenience rule ultimately compelled introduction of The Telecommuter Tax Fairness Act, the state need not wait for Congressional instructions. It could remove the rule on its own, right now.

Endangered Public Policies

Telework can be a critical tool in achieving certain national goals. For example, telework can:

• Lower oil consumption and gas prices;
• Reduce traffic congestion and air pollution;
• Lessen costs related to transportation infrastructure;
• Help Americans balance work and personal responsibilities;
• Help the elderly remain employed, phase in retirement or enter the workforce for the first time;
• Help the disabled integrate into mainstream American life;
• Facilitate rural economic development; and
• Enable government and private businesses to continue operating during emergencies and recover from disasters.

By deterring telework, the convenience rule thwarts the country's capacity to realize these goals.

The convenience rule also undermines specific measures the federal government has previously taken to promote telework. For example, in 2000, Congress passed P.L. 106-346, mandating that federal agencies make telework available to 100% of their eligible employees. To strengthen this mandate, in December 2004, Congress passed further legislation, requiring certain federal departments and agencies to certify that they have complied with P.L. 106-346 and requiring that $5 million be withheld from their budgets until they do. If individual states are permitted to fine nonresident federal employees for cross-border telecommuting, agencies may struggle unnecessarily to comply with these federal laws.

Similarly, Congress must not allow states to sabotage federal efforts to foster the Internet's growth. It does not make sense for Congress to ban taxes on access to the Internet, as it also did in December, while permitting taxes on use of the Internet for interstate work. If ensuring that the greatest number of Americans can take advantage of the Internet is truly a national priority, Congress must quash the convenience rule.

Constitutional Concerns

In addition to imposing unreasonable costs on telecommuters and employers, and jeopardizing the nation's ability to achieve important public-policy goals, the convenience rule has raised constitutional concerns. Two recent cases address these.

In Zelinsky v. Tax Appeals Tribunal of New York, the taxpayer was a Connecticut resident and a professor at Cardozo Law School in New York. During the two relevant tax years, Zelinsky traveled to New York on certain days to teach and meet with students. On other days, he telecommuted. The job functions he performed at home included grading students' work and legal scholarship. On his New York State nonresident income tax returns, Zelinsky allocated to New York the income he earned while working in New York and allocated to Connecticut the income he earned while working in Connecticut. New York, however, disagreed with his allocation and taxed him on 100% of his income. Connecticut also taxed the income he earned while working at home. Thus, he was taxed twice on this income.

Zelinsky challenged the convenience rule as applied to him under the Due Process Clause and the Commerce Clause of the U.S. Constitution. Both the Partnership for New York City, which represents the interests of New York City businesses, and Connecticut's attorney general, Richard Blumenthal, supported his action. The New York Court of Appeals, however, upheld application of the rule.

Zelinsky appealed to the U.S. Supreme Court. In his petition for certiorari, Zelinsky argued that New York violated the Due Process Clause by wielding its tax authority outside New York. Further, he argued that New York violated the Commerce Clause by refusing to apportion taxes fairly between New York and Connecticut and by subjecting him to the risk that he would be taxed twice. He stressed that the convenience rule would be unconstitutional even if Connecticut had no income tax or provided a credit for the taxes paid to New York under the convenience rule: The constitutional defect, he argued, lies in the risk of double taxation that the rule creates. However, in April 2004, the Supreme Court denied Zelinsky's petition.

The constitutionality of the convenience rule has also been challenged in the Huckaby case, mentioned above. Huckaby, a computer programmer, telecommuted from his Tennessee home to an organization located in Queens, New York. During the two tax years at issue, Huckaby spent approximately 75% of his work time in Tennessee and 25% of his work time in New York. On his New York nonresident income tax returns, he apportioned his income between New York and Tennessee based on the number of days he worked in each state. As in Zelinsky, New York disagreed with the allocation and taxed him on 100% of his income.

Huckaby claimed that New York's application of the convenience rule violated his due process and equal protection rights. New York's appellate division disagreed. Citing Zelinsky, the court rejected the due process claim on the ground that Huckaby and his employer derived benefits from New York that justified New York's taxation of the income Huckaby earned in Tennessee. The court rejected the equal protection claim on the ground that “New York's reliance on the [convenience rule] to apportion nonresident income is rationally related to its legitimate interest in taxing nonresident income derived from New York sources.” Huckaby appealed to New York's highest court, which heard oral argument on January 5.

The Telecommuter Tax Fairness Act

The Telecommuter Tax Fairness Act is essential to remedy the many injurious effects of the convenience rule. The bills introduced by Sen. Dodd and Rep. Shays would prohibit New York ' or any other state ' from applying the rule. Specifically, the bills provide that a state applying its income tax laws to a nonresident's salary may treat the nonresident as working in the state only if the nonresident was physically present in the state. The state may not impose taxes on the nonresident's salary for any period when the nonresident was physically outside the state. Further, the state may not treat a nonresident as working in the state on the grounds that the nonresident was working at home for his or her convenience.

Federal legislation is necessary because the convenience rule may adversely affect interstate telecommuters nationwide. As the Huckaby case illustrates, a convenience-rule state may tax nonresident telecommuters located anywhere in the country. In addition, by denying certiorari in the Zelinsky case, the U.S. Supreme Court effectively invited any state not yet imposing a tax on interstate telework to begin doing so. Congress must send a clear message to states that they cannot tax nonresidents on the income they earn in their home states simply because these nonresidents choose to commute to their in-state employers via the Internet.

Passage of the Act is a priority for The Telework Coalition (Telcoa), a telework advocacy group in Washington, DC. Telcoa is facilitating a letter-writing campaign by making a sample letter available on its Web site (www.telcoa.org) that visitors can send to their representatives in the U.S. House and Senate urging enactment of the legislation. By participating in this campaign, teleworkers, their employers and other stakeholders can help ensure that the Act makes good time on the road to the White House.

Now that the 109th session of Congress is well under way, passing The Telecommuter Tax Fairness Act must be a top priority for legislators. This proposed legislation would prohibit states from imposing a punitive tax on nonresidents who choose to telecommute some or most of the time to in-state employers. By proscribing such a tax, the law would remove a significant obstacle to the continued growth of an important form of e-commerce: interstate telework.

Convenience of The Employer Rule

The Telecommuter Tax Fairness Act (the Act), first introduced last September by Sen. Christopher Dodd (D-CT) and Rep. Christopher Shays (R-CT), would eliminate a state tax rule known as the “convenience of the employer” rule. New York is among the states to apply the convenience rule. Pennsylvania and Nebraska have maintained similar rules.

Under the rule in New York, a nonresident who elects to telecommute part-time to a New York employer may owe taxes to New York on 100% of his or her income, including the income earned at home. Because the telecommuter's home state may also tax the income earned at home, the telecommuter risks taxation by both states on the same income.

Consider, for example, a Connecticut resident who works for a firm in Manhattan and telecommutes 2 days a week. In addition to taxing the income the employee earns while physically in New York, New York may tax the telecommuter on the income he or she earned at home in Connecticut: New York may consider the income the telecommuter earned in Connecticut as New York source income. Connecticut, however, may take a different view. It may regard the income earned in Connecticut as Connecticut source income. Thus, Connecticut may tax its resident on the income earned there and may not grant a credit for taxes paid to New York on that income. As a result, the nonresident employee may be taxed twice on the income earned at home. By making telework costly for nonresidents, the convenience rule discourages this kind of interstate employment.

New York's Harsh Approach

The Empire State is aggressive in applying the convenience rule. For example, although New York may not tax income earned outside New York if the telework arrangement was an employer necessity rather than a personal convenience for the employee, the state rarely regards telework as necessary. Even in cases where the employer requires the employee to work offsite and prohibits the employee from using space at the New York office, the state may find that telework is merely a personal convenience for the employee. According to New York, telework is necessary only if the nature of the work is such that it cannot possibly be conducted in a New York office. This situation will seldom arise, however, because work that is sufficiently portable to be performed at home can probably also be performed at the office.

While New York takes a narrow view of when telework is necessary, it takes a broad view of who qualifies as a “part-time” telecommuter subject to the convenience rule. Even if a nonresident telecommuter spends only a few days a year working in New York, the state may apply the rule and tax the employee on his or her total income for the year. In a case pending before the New York Court of Appeals called Huckaby v. New York State Division of Tax Appeals, New York taxed 100% of the income of a Tennessee resident who telecommuted to a New York employer, despite the fact that the nonresident spent only 25% of his work time in New York.

Costs of the Rule for Employers

The convenience rule can be expensive for employers as well as employees. One reason why the rule is costly for employers is that, by discouraging employees from telecommuting, the rule prevents businesses from maximizing telework's bottom-line benefits. These benefits include:

• Reduced overhead expenses;
• Reduced recruitment and turnover costs; and
• Increased productivity.

If businesses can't exploit the savings and gains telework offers, they may lose a competitive advantage. To try to remain competitive, some firms may increase their reliance on offshore workers, threatening American jobs. Some may relocate to regions with more hospitable tax policies, threatening the financial stability of the communities they vacate.

Another reason why the convenience rule is detrimental to employers is that it may impose on them significant and administratively challenging withholding obligations. One commentator on New York's rule illustrated the problem as follows. At the beginning of the year, a nonresident employee of a New York employer may not expect to spend any time working in New York, and the employer may not withhold New York taxes from his or her pay. If, in December, a 3-day business trip to New York becomes necessary, the employer may suddenly have to withhold taxes based on the employee's salary for the year. If the amount the employer must withhold exceeds the employee's remaining pay for the year, this commentator queries, will the employer have to ask the worker to return some of the pay he or she has already received?

New York's Department of Taxation and Finance has recognized the risk for employers. In its Withholding Tax Field Audit Guidelines dated Sept. 17, 2004, the department provided that employees who expect to spend none of their time in New York may submit a tax form, Form IT-2104.1, setting forth this expectation. According to the department, an employer may rely on this form, as long as the employer does not have actual knowledge or reason to know that the form has become incorrect. However, this provision hardly cures the problem. If the employer does become aware, or acquire reason to know, that the form is no longer accurate ' or if the employee never submitted a form ' the employer may still be responsible for last-minute withholding on the employee's entire annual pay.

In his recent State of the State Address, New York Gov. George Pataki called for a tax code that is “fairer … and friendlier for everyone.” Because of the hardships the convenience rule imposes on New York businesses, any meaningful effort to ease their burdens would have to include abandonment of the rule. Although New York's intransigent commitment to applying the convenience rule ultimately compelled introduction of The Telecommuter Tax Fairness Act, the state need not wait for Congressional instructions. It could remove the rule on its own, right now.

Endangered Public Policies

Telework can be a critical tool in achieving certain national goals. For example, telework can:

• Lower oil consumption and gas prices;
• Reduce traffic congestion and air pollution;
• Lessen costs related to transportation infrastructure;
• Help Americans balance work and personal responsibilities;
• Help the elderly remain employed, phase in retirement or enter the workforce for the first time;
• Help the disabled integrate into mainstream American life;
• Facilitate rural economic development; and
• Enable government and private businesses to continue operating during emergencies and recover from disasters.

By deterring telework, the convenience rule thwarts the country's capacity to realize these goals.

The convenience rule also undermines specific measures the federal government has previously taken to promote telework. For example, in 2000, Congress passed P.L. 106-346, mandating that federal agencies make telework available to 100% of their eligible employees. To strengthen this mandate, in December 2004, Congress passed further legislation, requiring certain federal departments and agencies to certify that they have complied with P.L. 106-346 and requiring that $5 million be withheld from their budgets until they do. If individual states are permitted to fine nonresident federal employees for cross-border telecommuting, agencies may struggle unnecessarily to comply with these federal laws.

Similarly, Congress must not allow states to sabotage federal efforts to foster the Internet's growth. It does not make sense for Congress to ban taxes on access to the Internet, as it also did in December, while permitting taxes on use of the Internet for interstate work. If ensuring that the greatest number of Americans can take advantage of the Internet is truly a national priority, Congress must quash the convenience rule.

Constitutional Concerns

In addition to imposing unreasonable costs on telecommuters and employers, and jeopardizing the nation's ability to achieve important public-policy goals, the convenience rule has raised constitutional concerns. Two recent cases address these.

In Zelinsky v. Tax Appeals Tribunal of New York, the taxpayer was a Connecticut resident and a professor at Cardozo Law School in New York. During the two relevant tax years, Zelinsky traveled to New York on certain days to teach and meet with students. On other days, he telecommuted. The job functions he performed at home included grading students' work and legal scholarship. On his New York State nonresident income tax returns, Zelinsky allocated to New York the income he earned while working in New York and allocated to Connecticut the income he earned while working in Connecticut. New York, however, disagreed with his allocation and taxed him on 100% of his income. Connecticut also taxed the income he earned while working at home. Thus, he was taxed twice on this income.

Zelinsky challenged the convenience rule as applied to him under the Due Process Clause and the Commerce Clause of the U.S. Constitution. Both the Partnership for New York City, which represents the interests of New York City businesses, and Connecticut's attorney general, Richard Blumenthal, supported his action. The New York Court of Appeals, however, upheld application of the rule.

Zelinsky appealed to the U.S. Supreme Court. In his petition for certiorari, Zelinsky argued that New York violated the Due Process Clause by wielding its tax authority outside New York. Further, he argued that New York violated the Commerce Clause by refusing to apportion taxes fairly between New York and Connecticut and by subjecting him to the risk that he would be taxed twice. He stressed that the convenience rule would be unconstitutional even if Connecticut had no income tax or provided a credit for the taxes paid to New York under the convenience rule: The constitutional defect, he argued, lies in the risk of double taxation that the rule creates. However, in April 2004, the Supreme Court denied Zelinsky's petition.

The constitutionality of the convenience rule has also been challenged in the Huckaby case, mentioned above. Huckaby, a computer programmer, telecommuted from his Tennessee home to an organization located in Queens, New York. During the two tax years at issue, Huckaby spent approximately 75% of his work time in Tennessee and 25% of his work time in New York. On his New York nonresident income tax returns, he apportioned his income between New York and Tennessee based on the number of days he worked in each state. As in Zelinsky, New York disagreed with the allocation and taxed him on 100% of his income.

Huckaby claimed that New York's application of the convenience rule violated his due process and equal protection rights. New York's appellate division disagreed. Citing Zelinsky, the court rejected the due process claim on the ground that Huckaby and his employer derived benefits from New York that justified New York's taxation of the income Huckaby earned in Tennessee. The court rejected the equal protection claim on the ground that “New York's reliance on the [convenience rule] to apportion nonresident income is rationally related to its legitimate interest in taxing nonresident income derived from New York sources.” Huckaby appealed to New York's highest court, which heard oral argument on January 5.

The Telecommuter Tax Fairness Act

The Telecommuter Tax Fairness Act is essential to remedy the many injurious effects of the convenience rule. The bills introduced by Sen. Dodd and Rep. Shays would prohibit New York ' or any other state ' from applying the rule. Specifically, the bills provide that a state applying its income tax laws to a nonresident's salary may treat the nonresident as working in the state only if the nonresident was physically present in the state. The state may not impose taxes on the nonresident's salary for any period when the nonresident was physically outside the state. Further, the state may not treat a nonresident as working in the state on the grounds that the nonresident was working at home for his or her convenience.

Federal legislation is necessary because the convenience rule may adversely affect interstate telecommuters nationwide. As the Huckaby case illustrates, a convenience-rule state may tax nonresident telecommuters located anywhere in the country. In addition, by denying certiorari in the Zelinsky case, the U.S. Supreme Court effectively invited any state not yet imposing a tax on interstate telework to begin doing so. Congress must send a clear message to states that they cannot tax nonresidents on the income they earn in their home states simply because these nonresidents choose to commute to their in-state employers via the Internet.

Passage of the Act is a priority for The Telework Coalition (Telcoa), a telework advocacy group in Washington, DC. Telcoa is facilitating a letter-writing campaign by making a sample letter available on its Web site (www.telcoa.org) that visitors can send to their representatives in the U.S. House and Senate urging enactment of the legislation. By participating in this campaign, teleworkers, their employers and other stakeholders can help ensure that the Act makes good time on the road to the White House.