As a result of the COVID-19 pandemic, there has been an unprecedented shift in employees working remotely. Many law firm practices lend themselves to remote work, and as such, the days of all partners and employees working from a single office in a single state every day are gone.
Many law firms now have partners, lawyers, and support staff working remotely on a full-time or part-time basis. This creates several state tax issues for law firms that traditionally only had to deal with a limited number of state tax obligations – or even just a single state tax obligation. Considerations related to remote work include:
- What are the state employment tax requirements in the remote work state? While many states provided guidance that they would not impose employment taxes on temporary remote work, these emergency provisions are expiring (or have already expired). Furthermore, these provisions were intended to only apply to temporary remote work arrangements (e.g., an individual working from a vacation home). These provisions were never intended to apply to permanent remote work arrangements. Many temporary remote work arrangements have evolved to become permanent – and as such, law firms with remote employees are now obligated to comply with state employment taxes in more states than ever before.
- How do remote-employee states treat law firms? While many states conform to the Federal treatment of law firms structured as pass-through entities (e.g., partnerships, LLCs, S-Corporations), there are states that:
- Impose entity-level income taxes on law firms structured as pass-through entities (e.g., DC, NH, TN)
- Impose entity-level gross receipts taxes on law firms structured as pass-through entities (e.g., OH, TX, WA)
- Impose non-income-based taxes and fees on law firms structured as pass-through entities (e.g., the CA LLC Fee can be up to $11,790)
- Does the law firm now have an obligation to withhold state income taxes on the owners (e.g., partners, members, shareholders) in the remote work state? Almost every state that imposes a personal income tax has imposed an obligation on pass-through entities to withhold taxes on nonresident owners on their share of income that is derived from sources within the state. Whether a law firm has income derived from sources within the state depends on the state’s apportionment methodology. In states that use “cost-of-performance sourcing”, a remote employee may cause the law firm to have income derived from sources within the state and thus an obligation to withhold state income taxes on the law firm owners. Even if the law firm does not have income derived from sources within the remote work state, the firm may still have an obligation to file an annual income tax return.