closed the physical location of many businesses and stay-at-home orders were issued,
some individuals chose to shelter-in-place at vacation homes or other locations
out of the state where they previously worked. Those individuals may still be continuing
to work out of their “COVID homes.”
able to work remotely has many benefits, nexus implications for both individual
and business tax clients resulting from employees working somewhere other than
the employer’s or taxpayer’s home state may arise. Each state has its own set
of complex rules related to filing obligations, and, given the length of the
pandemic, those rules may require consideration for 2020 and potentially future
tax years. Failing to advise a client about or identify potential additional
filing obligations can create professional liability risk for CPA firms.
What are the implications for
business tax clients?
with employees working in other states may establish nexus with those states, meaning
sufficient contact with a particular state to create a tax filing obligation. If
a client has additional filing obligations and fails to fulfill those
responsibilities, the client may assert that the firm should have advised them
of such. In such circumstances, the client may seek to hold the firm
responsible for the client’s penalties and, in some instances, the tax.
would a client having an employee working in another state be responsible for filing?
Obviously, the business may have to withhold state income tax for employees working
from COVID homes, but are there other potential filing obligations?
Yes. By having
a physical presence, such as the location of its employees, in other states, the
business may be required to collect and remit sales tax to those states. Additionally,
the business may have income, franchise, unemployment and gross receipt tax filing
obligations. In some circumstances, filing income tax returns in other states
may actually reduce the client’s state tax burden, providing additional
incentive for the client to explore its filing obligations.
What are the implications for
individual tax clients?
If the CPA
firm fails to advise an individual client of its out-of-state filing
obligations, individual tax clients may make assertions similar to those made
by business tax clients.
speaking, if an individual works in another state, an individual income tax
return is required to be filed in that state and a credit for taxes paid to other
states is claimed on their resident state income tax return. However,
exceptions, such as reciprocity and coronavirus-specific exemptions, make the
While the obligation
to file in another state is a nuisance, and there could be additional tax if
the COVID home state has a higher tax rate than the individual’s home state, a potential
for double taxation may arise. Several states have a statutory definition of a “resident”
based upon the taxpayer spending a certain number of days in the state. If the
COVID home is in one of these states, they may be required to file a resident
return in that state in additional to their resident state, thus creating
business clients, a client may be able to save state tax by residing in the
COVID home, a possible incentive for clients to explore their filing
What risk management tips can a
firm implement to mitigate its risk?
clients of the potential for additional state and local filing obligations
through a direct letter, newsletter, webinar or similar communication and take
note of which clients receive the notification. Impose the burden on the client
to contact the firm to discuss their specific situation and how the various
state laws may apply to them. AICPA Tax Section members have access to its Letter to
Advise Client on Teleworking Tax Impacts which can serve this purpose. Although not failsafe, such
communications reduce the likelihood of a claim asserting that the CPA failed
to advise the client.
newsletter may be sufficient for individual tax clients with whom the firm may meet
annually, it may not be sufficient for clients with more frequent interaction.
Consider directly communicating with these clients to discuss the issue. Always
document the discussion.
If a client asks the firm to research
its filing obligations, is there anything to keep in mind?
and business tax clients may ask the firm to research its filing obligations,
including planning opportunities for tax savings based on the client’s physical
location. Although this tax consulting engagement provides CPA firms with a potential
revenue opportunity, the risk must be managed. Securing a separate engagement
letter for the new service is the first step in managing professional liability
risk. Be sure to specifically identify the states and types of taxes the firm
will be researching. CNA policyholders and AICPA Tax Section members have access to a sample Tax Consulting engagement letter to leverage.
Utilizing experts to add bench
have the requisite state and local tax experience and resources necessary to advise
on filing obligations, but what if your firm does not? Consider referring the
client to another CPA firm to provide such advice or consider engaging a state
and local tax expert to work with your firm.
If the CPA
firm opts to subcontract with an expert to perform the research, read Navigating
Storms, and Risk, with Subcontractors
for tips on how to mitigate potential professional liability risk.
If the firm
makes a referral, it could be held liable for a negligent referral if the professional
does not perform services competently. Therefore, it is recommended that the
- Performs limited due diligence on the
individuals to ensure they are properly licensed and have relevant experience;
- Provides at least three referrals in
- Makes the referrals in writing; and
- Instructs the client to perform its
own due diligence and disclaims any responsibility for the referred
Experts may be
sourced from state CPA societies, the AICPA, network firms and presenters at
continuing professional education events.
Anything else to keep in mind?
2020 filing season, it may be obvious that a client has a filing obligation in
another state. For example, an individual tax client has an out-of-state Form
W-2, Wage and Tax Statement, or you
note a new state on a business client’s property-by-state for apportionment
purposes listing. Other times, it may not be obvious. To help identify clients
with potential additional filing obligations, ask every client about their
out-of-state activity during the tax year and document the client’s response.
This protocol may be a good addition to your tax organizer. If additional
filing obligations are noted, be sure to add them to the tax compliance
engagement letter and adjust your fees accordingly.
* * * * *
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