In the latest guidance, the New Jersey Division of Taxation (Division) outlines how the new "convenience of the employer rule" will work for those who must comply with it. Although the rule, enacted July 21, 2023, is retroactively effective to January 1, 2023, the Division said it will not impose penalties and interest on employers and individual taxpayers that begin complying by September 15, 2023. (For discussion of the rule's enactment, see Tax Alert 2023-1291 and A.4694.)

Background

In most states, employees who reside in one state (State A) but work for an employer in another state (State B), are taxed by State B only on wages earned for days they are physically present for work in State B. If State B has a convenience of the employer rule, however, a State A resident working from home in State A for his/her own convenience for an employer in State B is subject to State B nonresident income tax for all wages earned in State A and State B, despite not being physically present to work in State B.

Like New Jersey, Connecticut, Delaware, Nebraska, New York and Pennsylvania have statutes that expressly impose the convenience of the employer rule. As an administrative practice, Alabama began imposing the rule in tax year 2020. (See Tax Alert 2023-0609.) Arkansas imposed the rule administratively until legislation was enacted in 2021 repealing the practice. (See Tax Alert 2021-0905.)

Unique to New Jersey and Connecticut, the convenience of the employer rule applies only to a nonresident whose resident state imposes a similar rule. (Connecticut Employer's Tax Guide (2023), p. 8;Conn. Gen. Stat. § 12-711(b)(2)(C).)

New Jersey's initial guidance on application of the convenience of the employer rule

The Division explains that employers should apply the rules of the resident state in determining when the convenience of the employer rule applies. For example, a New York resident who performs services for a New Jersey employer from his New York home for his own convenience is subject to New York's test in determining if the convenience of the employer rule will apply to him.

Generally, the convenience of the employer rule applies if, for their own convenience, and not the necessity of the employer, employees are performing services from their homes, rather than their employers' locations in nonresident states. New York has a more elaborate "test" in TCB-M-06(5)I.

Triggering states for New Jersey's convenience of the employer rule

The Division's guidance states that the convenience of the employer rule will apply only to residents of Alabama, Delaware, Nebraska and New York (triggering states).

Although Pennsylvania imposes the convenience of the employer rule, it is not included in the triggering states because nonresident income tax does not apply under the reciprocal agreement in place between New Jersey and Pennsylvania.

For now, the guidance does not list Connecticut as a triggering state. Because New Jersey and Connecticut impose the rule according to the resident state, and therefore have no test of their own for determining if the rule will apply, Connecticut is not included in the list of triggering states. The Division's guidance states that it " … intends to coordinate with the Connecticut Department of Revenue Services and issue further guidance for clarification."

Withholding and estimated tax payments in 2023

Because New Jersey's convenience of the employer rule is retroactively effective to January 1, 2023, the Division requires employers to begin withholding (or individuals to begin making estimated tax payments) as soon as possible so the correct amount of New Jersey income tax will be paid by April 15, 2024.

The Division also suggests that employers accommodate their employees by making withholding adjustments so that their employees will have the correct New Jersey income tax withheld from their wages.

Ernst & Young LLP insights

To comply with New Jersey's new convenience of the employer rule, employers will have to:

• Identity New Jersey nonresidents working from home for a New Jersey office
• Determine if the New Jersey nonresidents are residents of a triggering state
• Analyze the convenience of the employer rule of each nonresident's resident state to determine if New Jersey's convenience of the employer rule will apply
• Determine the 2023 withholding adjustment if New Jersey's convenience of the employer rule applies
• Communicate to affected employees the additional withholding required and why
• Deduct the withholding adjustment from future 2023 wages or make other arrangements for payment of the added New Jersey state income tax

Employers should also keep in mind that further guidance is expected, which could, for instance, change the list of triggering states to take into account those that update their laws or administrative practices as they relate to the imposition of the convenience of the employer rule.

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Published by NTD’s Tax Technical Knowledge Services group; Maureen Sanelli, legal editor