A corporation whose only tie to California is its employees working remotely due to the stay-at-home order will not be considered to be doing business in the state. Similarly, South Carolina has extended its coronavirus (COVID-19) relief period to employers through December 31, 2020.

As we previously discussed, the presence of employees in a state where a taxpayer engages in activities beyond the protection of Public Law (PL) 86-272[1] can create income tax nexus in the state and a resulting filing obligation. However, in light of the COVID-19 pandemic, many taxpayers are wondering if this general rule still applies when employees are required to work from home due to a state order. States have been releasing guidance over the last several months as the effects of COVID-19 continue to linger. In our last LawFlash we discussed Massachusetts and Oregon guidance. We now cover the two latest releases from California and South Carolina.

CALIFORNIA

The Franchise Tax Board issued an FAQ, Teleworking and the “Stay at Home” Order, advising taxpayers that “California will not treat an out-of-state corporation whose only connection to California is the presence of an employee who is currently teleworking in California due to Executive Order N-33-20[2] as being actively engaged in a transaction for the purposes of financial or pecuniary gain or profit.” California defines “doing business” in the state as engaging in any transaction for the purposes of financial or pecuniary gain or profit.[3] Thus, a corporation whose only connection to the state is the presence of remote workers in the state will not be considered doing business in the state and therein will not create a filing obligation.

Furthermore, the FAQ addresses California’s minimum thresholds for property, payroll, or sales, which if met will mean a taxpayer is considered doing business in the state.[4] Wages paid to employees remote working in California solely in response to the state’s stay-at-home order will not count toward the state’s payroll threshold.

Lastly, the presence of employees in the state teleworking due to the state’s stay-at-home order will not be considered as exceeding the protection of PL 86-272.[5]

SOUTH CAROLINA

The South Carolina Department of Revenue issued Information Letter 20-11 wherein it advised taxpayers of temporary relief in regard to nexus rules. The department initially established the “COVID-19 relief period” as March 13, 2020 to September 30, 2020, but extended the COVID-19 relief period to December 31, 2020 in Information Letter 2020-24.

The department will not use the presence of employees temporarily working in the state during the COVID-19 relief period as a basis for establishing nexus in the state, for losing PL 86-272 protection, or for consideration in apportioning income. It would follow that, if employees are remote working in South Carolina after December 31, 2020, there is a risk that the employer could be subject to income tax, lose PL 86-272 protection, or have a change in apportionment based solely on the presence of those employees in the state.

ANALYSIS

Many states have remained silent on whether employees working remotely as a result of the pandemic establish nexus for corporate income tax. This would seem to imply that normal nexus rules apply to the presence of remote workers in the state during the pandemic.

However, a few trends or common approaches have emerged from the states that have released guidance, which may be indicative of where other states might fall. These trends include the following:

• Employees temporarily working in the state due to COVID-19 will not affect nexus for the employer (without mention of parameters for the suspension of nexus) (e.g., Minnesota).
• Employees temporarily working in the state due to COVID-19 will not affect nexus so long as there is a declared state of emergency or work-from-home order in effect (e.g., Alabama, Georgia, and Rhode Island).
• Employees temporarily working in the state due to COVID-19 will not affect nexus prior to a fixed date (e.g., Oregon has a fixed date of November 1 and South Carolina has a fixed date of December 31; post those dates, nexus rules will no longer be relaxed in the context of remote workers).

Morgan Lewis has continued to monitor updates from various state agencies. See the chart on state and local tax responses.

We previously highlighted constitutionality questions relating to whether the imposition of nexus based solely on the presence of certain employees in the state as a result of COVID-19 satisfies both the Due Process Clause and the Commerce Clause of the US Constitution. These questions continue to remain relevant when examining the varying approaches taken by the states in addressing whether employees temporarily working in the state due to COVID-19 creates nexus.

TAKEAWAYS

As the year closes and taxpayers prepare their 2020 tax filings, they may want to consider reviewing their nexus footprints, as that analysis, not surprisingly, will present unique challenges for determining filing obligations. 

[1] PL 86-272 prohibits a state from imposing a net income tax on a person whose only activity in the state is solicitation of sales of tangible personal property.

[2] Executive Order N-33-20 is Governor Newsom’s stay-at-home order.

[3] Cal. Rev. & Tax. Code § 23101(a).

[4] California uses bright-line factor presence as way to establish nexus in the state. A taxpayer with sales, property, or compensation paid in the state in excess of the state’s indexed thresholds will be considered doing business in the state. California’s factor nexus thresholds for tax year 2020 are set at sales in excess of $610,395 or 25% of total sales; property in excess of $61,040 or 25% of total property; and compensation in excess of $61,040 or 25% of total compensation. Cal. Rev. & Tax. Code § 23101(b).

[5] Cal. Rev. & Tax. Code § 23101(b).

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