On Oct. 16, 2020, the Massachusetts Department of Revenue adopted a controversial final regulation, 830 CMR 62.5A.3, Massachusetts Source Income of Non-Residents Telecommuting due to the COVID-19 Pandemic. The new regulation, initially promulgated as a temporary emergency regulation in April of this year, formalizes controversial rules for nonresident income taxation during the 2020 tax year by imposing income tax on the wages of certain nonresidents who neither work nor live in Massachusetts during the pandemic. Massachusetts had previously extended the emergency rule on a temporary basis in July, before finalizing the regulation with the addition of new rules for apportionment of Massachusetts source income for telecommuting nonresidents.

Overview

The regulation impacts wages received for services performed during March 10, 2020 through Dec. 31, 2020 by nonresident employees who had worked in Massachusetts immediately prior to the Massachusetts COVID-19 state of emergency and have been working outside the state during the year due to a pandemic-related circumstance. Compensation received for services performed by such nonresident employees will continue to be treated as Massachusetts source income subject to personal income tax and withholding, as if they had continued commuting to Massachusetts. 

Additionally, the final regulation provides new guidance requiring that nonresident employees who, prior to the COVID-19 state of emergency, determined Massachusetts source income by apportioning based on days spent working in Massachusetts, continue to do so based on one of the following:

1. The percentage of the employee’s work days spent in Massachusetts during the period Jan. 1, 2020 through Feb. 29, 2020, or 
2. If the employee worked for the same employer in 2019, the apportionment percentage used to determine the portion of Massachusetts source income on the employee’s 2019 return. 

The regulation also clarifies that a tax credit is available for Massachusetts residents who commuted to a state with a similar rule to Massachusetts’ pandemic and consequently incurred income tax liability in another state while working from home in Massachusetts due to the pandemic. An employer of such Massachusetts resident will not be obligated to withhold Massachusetts income tax to the extent the employer is required to withhold on behalf of that employee in the other state. 

While not within the scope of the regulation, the department has stated its position that the presence of one or more employee working remotely from Massachusetts due solely to a pandemic-related circumstance will not by itself trigger an income or sales or use tax filing requirement for that business. See Massachusetts TIR 20-10: Revised Guidance on the Massachusetts Tax Implications of an Employee Working Remotely due to the COVID-19 Pandemic (07/21/2020) for more information. 

Legal challenges 

Massachusetts statutes imposes a nonresident income tax upon income from sources within the commonwealth. In part, income from Massachusetts sources includes income derived from or effectively connected with any trade or business, "including any employment carried on by the taxpayer in the commonwealth." Accordingly, the rule, which taxes nonresidents on compensation earned while working outside the commonwealth, may exceed statutory taxing authority.  

Further, New Hampshire Governor Chris Sununu has filed with the U.S. Supreme Court a Motion For Leave To File Bill Of Complaint contending that the rule is unconstitutional because it results in taxation of income earned entirely outside of the commonwealth’s borders. The rule impacts many New Hampshire residents who were commuting to Massachusetts for work prior to the state of emergency. Although Massachusetts provides a credit for taxes paid to another state in this situation, New Hampshire does not have a personal income tax, so New Hampshire residents are not able to take advantage of the Massachusetts credit. 

The motion contends that Massachusetts’ “extraterritorial assertion of taxing power is unconstitutional” and seeks an order declaring its unconstitutionality under the Commerce Clause and Due Process Clause of the U.S. Constitution. New Hampshire also requests that the Court enjoin enforcement of the rule and impose an injunction requiring the refund of all tax collected from nonresidents under the rule, including interest. The motion explains that the pandemic is having permanent impact on companies’ increased use of remote employees and claims that Massachusetts is likely to continue this policy after the pandemic ends.

Takeaways

While the new Massachusetts regulation faces legal challenges, it is unlikely that any action will be taken to reverse the sourcing rules by the end of the 2020 tax year. 

State tax nexus and withholding has become increasingly complex during the pandemic. A number of states have offered both nexus and withholding safe harbors, most of which are temporary. Planning ahead for how remote and telecommuting employees impact the state and local tax profile of a business is important. State income tax considerations for remote employees should be carefully reviewed. Not all of the states that have provided a nexus safe harbor have provided a Public Law 86-272 safe harbor as well. 

Individuals subject to the Massachusetts rule residing in New Hampshire and other states, as well as affected businesses, should consult their tax advisors with respect to how to apply the authority in relation to nonresident withholding, estimated tax payments, tax return filing considerations and how an increasingly remote or telecommuting workforce can impact a broad range of state and local taxes.