How to manage hybrid work employment tax risks

Reimagining tax and compliance

Over the past few years, the landscape of work has transformed significantly, with a notable surge in remote and hybrid working arrangements. In this evolving environment, it becomes imperative for businesses to understand the tax implications associated with remote and hybrid work, as well as equity compensation for the employees who are working within these parameters. By proactively preparing for year-end employment tax reporting, businesses can position themselves for compliance with tax regulations and protect themselves from potential penalties and other associated risks.

Staying ahead of these tax considerations is crucial for not only meeting regulatory requirements, but also fostering a smooth and successful transition into the world of remote and hybrid work.

A holistic approach to employment tax risk

Employment tax risk refers to the potential exposure and liabilities that companies may face related to their payroll and employment tax compliance. Two common types of employment tax risks include:

Prioritizing proactive employment tax compliance

To mitigate the financial impact of employment tax penalties, businesses should take proactive measures for compliance such as maintaining a compliance project plan with clear steps, roles, and responsibilities to ensure timely tax deposits and filings, as well as working with external advisers to stay current with the latest tax regulations and requirements.

In addition, employers should seek to proactively maintain accurate payroll records, including employee mobility and business travel data, to gather the data needed to maintain compliance with local tax rules, particularly for mobile employees.

Businesses should prioritize working with employment tax professionals to seek guidance on complex tax matters. By understanding the different employment tax compliance requirements and taking appropriate measures, businesses can navigate the tax landscape with confidence and avoid unnecessary risks.

Late information statements
The IRS has a tiered penalty system based on how late a company is in filing or furnishing information statements (e.g., Forms W-2). The penalty amounts range from $60 to $310 per form and apply to filings due after December 31, 2023. Penalties are assessed on BOTH the Social Security Administration and resident copy.

Generally, there is a maximum penalty for the above of $3,783,000 per year ($1,261,000 for small businesses). However, if any failure to file a correct information return is due to intentional disregard of the filing or correct information requirements, the penalty is at least $630 per information return with no maximum penalty.

Late deposits
Under US tax law, employers are generally required to deposit withholding taxes (i.e., federal income tax and FICA) on either a monthly or semi-weekly deposit schedule (this depends on the employer’s historical withholding tax during a “lookback” period).

However, if an employer accumulates $100,000 or more in federal employment taxes (i.e., federal income tax and employer/employee FICA) on any day during a deposit period, the employer must deposit the federal tax by the next business day.

Penalties for late employment tax deposits can range from 2% of the late tax deposit amount all the way up to 10%. These numbers can quickly grow, depending on the size of the liability and the delay between liability date and deposit date:

• 1–5 days – 2%
• 6–15 days – 5%
• 15+ days – 10%

For companies operating an equity program in the United States, satisfying the “next day” deposit deadline can be challenging, particularly where shares are being sold on public markets to fund required withholding. Companies should review their tax funding and deposit procedures to ensure timely deposits can be made for equity compensation.

Building a resilient compliance framework for employment tax compliance in a remote/hybrid work environment

In order to establish a resilient, compliant framework for remote and hybrid employees, businesses need to consider various factors to enable a smooth employment tax reporting period. The chief considerations for companies as they usher in a new era of working arrangements include:

Employee data collection and maintenance
Employers are generally expected to know where their employees are providing services for payroll tax and withholding purposes—this includes both remote workers and business travelers. In order for companies to remain compliant with their employment tax obligations, it is imperative that they maintain diligent oversight of the locations of their remote and hybrid workers, including employee’s home/remote work location and assigned office location.

Inaccurate reporting of the location of where services are being performed can result in substantial challenges, impacting not only the individual employee, but also posing significant exposure to the employer and creating additional work for payroll departments when correcting these errors. Technology tools can support the collection and protection of key mobile employee data and can help mitigate the risk of error for purposes of calculating liabilities and remittances.

When determining which data to track for non-US employees, companies should work with their legal advisers to confirm compliance with applicable data privacy regulations.

Special processing and withholding requirements
After building a comprehensive file of employee mobility data, companies should conduct an analysis of employees’ residence and assigned office and working location(s) to determine if special processing and/or withholding requirements will apply, such as convenience of the employer (CoE) or reciprocity rules.

For example, CoE rules typically stipulate that any day worked remotely from a home office will count as a day spent in their assigned/designated office location. Consequently, wages earned during such remote work arrangements are typically subject to nonresident state withholding tax. New York is a state that actively enforces this rule, and we are starting to see more states consider such rules (e.g., on July 21, 2023, New Jersey implemented a selective CoE test for nonresidents). Compliance with such rules generally may require special technology system configurations (e.g., in payroll or stock systems). Employee communication and education about special circumstances is also a best practice.

Payroll registrations
Employers are generally required to be registered for payroll purposes in any state in which they have employees providing services to it. Payroll registrations may be required if employees are working remotely in a state where the employer is not registered in the state for local employment tax purposes. In addition to employment tax risks, remote employees may create corporate income tax implications and/or nexus implications.

State unemployment insurance (SUI)
If the employee will be exclusively working remotely, then the employer’s SUI liability will likely change.

Business travel expense reimbursement
Generally, business travel expenses are only tax deductible to the extent that an individual is traveling away from their “tax home” for purposes of their job duties.

Given the implementation of hybrid work models and the practice of individuals commuting to the office on designated days, there is a notable possibility that employees could accumulate substantial travel-related expenditures during their journeys to the office, but such expenditures may not be deductible if the individual’s “tax home” is aligned to the office, even if their personal home is in another city or state.

Careful attention is required to ensure that business travel expense policies are in line with tax regulations and that internal control procedures are in place to validate the appropriateness of expenses submitted by employees.

Home working expense reimbursement
Many employers offer reimbursements for health and internet technology expenses, office furniture, and equipment for employees to be able to work from home. Currently, these expenses may be excludable from income as a working condition fringe.

Potential double taxing
US states typically tax residents on 100% of their income received while resident of the state, even if such income is also subject to tax in another state.

Tax credits may be available in the resident state to help mitigate the impacts of double taxation. However, when dealing with a CoE tax regime, some resident states may be reluctant to offer a resident tax credit for services that are performed in the resident state but are taxed by the CoE state. This situation may impact or restrict an individual’s capacity to receive credits in the place where they reside.

If an employee is ineligible for a resident credit, double taxation is likely (i.e., the employee will be subject to taxation in their resident and nonresident state on the same compensation, with no offsetting resident credit).

Companies need to be aware of the state tax laws where their employees are working remotely. They can offer tax assistance or reimbursement for tax-related expenses, such as consulting with tax professionals who can help employees navigate the complexities of state tax rules. Alternatively, they can consider modifying remote work policies to mitigate the tax impact on employees.

Equity compensation
For companies offering equity compensation, it is essential to be aware of compliance and filing requirements applicable to the specific type of equity compensation being offered. These rules often vary from tax rules applicable to salary or other forms of cash compensation and may include equity-specific disclosure requirements or registrations. For example, in the United Kingdom, it is generally required to register a share plan with the UK HM Revenue & Customs (HMRC) and complete an annual, equity-specific reporting disclosure that includes details on share plan grant and tax event activity throughout the year.

Additionally, equity compensation can pose special issues for mobile employee tax compliance because tax rules will generally require tax in each jurisdiction in which the award was “earned” over the period from grant to vest. However, rules vary from country to country, and rules may vary based on specific facts and circumstances, such as the application of a double tax treaty.

Planning for compliance
Having a well-planned compliance calendar is crucial for ensuring year-round compliance. A common starting point includes detailing major transactions and expected events throughout the year. For example, develop a comprehensive internal schedule for reporting actions and tracking equity compensation details to facilitate seamless operations and to safeguard compliance in the event of personnel changes or transitions. This proactive approach can allow the company to remain compliant and well prepared for the future, maintaining stability and meeting its legal obligations effectively.

Another key to success is having the right members of your organization involved in the compliance framework. Identify stakeholders from various departments who will be involved in compliance-related tasks. Communicate with them in advance to avoid last-minute challenges during filing periods.

Regarding data, one key to improving accuracy is understanding where the data sits, who owns it, and how it is updated. Relying solely on employee inputs for compliance data may lead to inaccuracies. Rather than relying solely on employee inputs, companies should validate and verify data sources to increase reliability. Proactive planning and data validation can make compliance processes smoother and more efficient.

Finally, seek guidance from third-party advisers to validate your company’s holistic year-end tax compliance plan. Technology may be able to assist with accurate and complex calculations, especially in equity-related matters.

Looking to the future

Amid economic uncertainty and technological advancements, Deloitte Global Employer Services offers insights to navigate these complexities with control and confidence. By providing valuable insights and perspectives, Deloitte empowers businesses to lead with agility and stay ahead in this ever-evolving global market. With our deep breadth of experience, employers can embrace the future of work with confidence, making strategic decisions to harness opportunities and overcome challenges on the journey to success.