The coronavirus pandemic has delivered a short-term shock to New Jersey’s budget, but it could also mean long-term changes in how the state taxes telecommuters, a move that could end up boosting collections in the long run.
The source of what could eventually be a revenue windfall for New Jersey is the income earned by residents who would normally be showing up at their jobs in New York, but are instead working from homes in New Jersey due to the pandemic.
New York has been treating that income as still subject to its tax laws since the companies that employ many New Jerseyans are located in New York.
So far, Gov. Phil Murphy’s administration has resisted taking a more aggressive posture that could spark a border war over that tax revenue.
Teleworking: the new normal
But many companies are expected to allow employees to work from home regularly even after the pandemic wanes, meaning they will be earning at least some share of their income in New Jersey rather than New York.
And with the state continuing to suffer significant revenue losses triggered by the health crisis, some New Jersey lawmakers have begun to eye the income that Garden State commuters earn while working in their homes as a potential solution to ongoing budget problems.
They also have a hunch that many residents could pay less in taxes if their telework fell under New Jersey’s tax rules since there are differences between the rates levied by New Jersey and New York, including for those in lower-income brackets.
“We’re talking about our residents paying less tax, and that tax (revenue) coming here to New Jersey,” said Sen. Steve Oroho (R-Sussex) as he discussed the issue during a recent legislative hearing in Trenton.
Home state advantage?
New Jersey has for decades maintained a reciprocal tax agreement with Pennsylvania that calls for residents to pay their income taxes where they live, even if they earn their paychecks working for companies located across state lines.
In addition to being more convenient, many New Jersey residents also benefit from this arrangement, due in part to New Jersey’s more progressive income-tax structure, and to tax credits some receive for any taxes paid to the city of Philadelphia.
But no such tax deal is in place between New Jersey and New York. That means thousands of New Jersey residents who commute regularly to jobs in New York are generally forced to pay income taxes to Albany.
To prevent double taxation, New Jersey provides a tax credit to its residents who work for companies that are based across the Hudson River to offset the income taxes they pay to New York. By some estimates, the credits are believed to be worth some $2 billion to $3 billion annually.
Earlier this year, many of those New Jersey commuters were told to work from home to prevent spreading COVID-19. And it’s believed many are continuing to do so as the health crisis has persisted into the fall.
Real taxes on virtual offices
New Jersey’s tax rules generally dictate that income is “sourced based on where the service or employment is performed based on a day’s method of allocation,” according to a notice that was posted to Treasury’s Division of Taxation website earlier this year. But the notice added: “During the temporary period of COVID-19 pandemic, wage income will continue to be sourced as determined by the employer in accordance with the employer’s jurisdiction.”
Last week, Treasury officials confirmed nothing has changed since the notice was first posted online.
But Oroho and other New Jersey lawmakers advanced legislation last week that would require the Department of Treasury to conduct an in-depth review of the interstate tax issue, and to also issue a report detailing “how the State may resolve the inequitable tax treatment of New Jersey commuters working for employers in New York.”
Among other requirements listed in the bill, the report should estimate the value of tax credits that New Jersey residents have paid to New York over the past 10 years and also detail any legal matters that would have to be resolved to change New Jersey’s approach to taxing income earned by remote workers.
Opening other fronts in tax war
A last-minute amendment would also force Treasury to discuss whether it makes sense to join a new legal battle between the states of New Hampshire and Massachusetts that relates to Massachusetts’ handling of income earned by people who have been working from home in New Hampshire during the pandemic instead of at offices in Massachusetts.
“The transition of New Jersey workers to telecommuting is something we’ve been watching for a long time,” said Senate Budget and Appropriations Committee Chair Paul Sarlo (D-Bergen), who is cosponsoring the bill with Oroho.
“It’s clear that the State of New Jersey can no longer afford to ignore the substantial tax implications of this shift, which has been supercharged as a result of COVID-19,” Sarlo said.
New York-based companies collect and withhold taxes for New York even if their income is being earned remotely under what’s known as New York’s “convenience rule,” said Jared Walczak, a state tax expert at the Washington, D.C.-based Tax Foundation.
‘Pure double taxation’
New Jersey may now have a good claim to that tax revenue, but simply adopting a new tax policy without working things out with New York’s tax officials could expose New Jersey residents to “pure double taxation,” Walczak said in an interview with NJ Spotlight News.
Federal legislation could resolve the issue by setting a national standard that prevents double taxation of the same income, and Walczak highlighted several efforts that have been launched in Congress in a Tax Foundation blog post published in August.
He also suggested during the interview with NJ Spotlight News that it could ultimately be in the best interest of states like New York to change their tax policies, or run the risk of having companies establish new offices that formally shift at least some of their workforce out of state to protect them from double taxation.
“We are clearly entering into an era with much more location flexibility,” he said.
In the meantime, the best outcome for states like New Jersey, New York and Connecticut could be to create a new multistate pact that would set policies related to remote work going forward.
The governors from each state could meet together to sort through the complicated tax issues related to telework, and to also give New York the opportunity to “smooth out” the potential impact on its revenue stream going forward, said former New Jersey Treasurer Dave Rousseau.
“The issue of work, and where these people work, has changed,” Rousseau said.
But with Murphy up for reelection next year, and all 120 seats in the Legislature also on the November ballot, immediately changing New Jersey tax policy in a way that risks double taxing its residents appears fraught with risk.
“That’s a suicide mission for a (New Jersey) politician to take right now,” Rousseau said.