States Are Feeling Budget Pressures And Are Looking to Tax Non-Residents

To raise more revenue, states are attempting to tax more non-resident businesses and individuals.  If you thought that you were safe because you didn’t have a physical presence in another state, watch out.  That rule is going out the window according to states.

Many states are now employing the theory of “economic nexus” to impose income tax upon non-resident businesses and individuals.  “Nexus”, established under the U.S. Constitution’s 14th Amendment , requires states to have some definite minimum connection between a state and the person, property or transaction.  This was interpreted as having a physical presence in the state such as a sales office.

Under the new “Economic Nexus” concept, states can impose income tax upon non-resident businesses based solely upon their having significant amounts of customers in the state and not necessarily having any physical presence in the state.  Under such a theory, you could find your business facing multiple state income/franchise tax filing obligations.

With respect to income taxes, states have also taken aggressive positions regarding who qualifies as a “resident” of the state.  The idea is that if the state can claim you as a resident, they may tax your worldwide income and not just the income derived in their state as a non-resident.

For example, New York claims that individuals who live outside the state and own no residence within New York but who commute to New York for work, may be taxed as a resident of New York on 100% of their worldwide income if the individual lives outside of the state for their convenience and not required to do so by their employer.

This position is being aggressively taken in states that impose personal income tax but neighboring states do not.  Obviously, this creates the potential for double taxation on the individual income.

In 1992, the U.S. Supreme court held that no state may impose a sales/use tax on a non-resident absent a non-de minimus physical presence in the state by the non-resident.  To circumvent this standard, states are increasingly applying the “agency” or “attributional” nexus theory.  States are asserting that the non-resident is subject to the sales/use tax regardless of having any tangible property or employees in the state if the non-resident has relationships with in-state independent contractors or agents that help the non-resident to create and maintain a market in the state. 

Some states courts have even gone as far as to hold that this type of relationship does not have to have a formal agent-principal arrangement.  For example, New York law requires non-resident companies that sell goods to New York residents over the Internet to pay New York sales/use taxes if the non-resident pays an in-state company for an Internet link on the in-state company’s website to the non-resident’s website.
Also it is important to note that states claim that no statute of limitations exists to limit prior period exposure when non-residents fail to file state tax returns.

State and local taxation is becoming an increasingly challenging area for businesses.  If you are concerned that you may be exposed or need some tax advice, give us a call.  Don’t wait until a state catches up to you and you face a daunting tax obligation.