Clare Porreca, CPA, MT
Working from home has created a host of state and local tax issues that businesses cannot ignore. Pennsylvania’s numerous local tax jurisdictions create an extra layer of complexity. As pandemic-influenced telecommuting remains prevalent, Pennsylvania employers and employees should revisit their policies regarding PA local tax withholding.
PA Act 32 states employers must withhold the greater of the PA local income tax of the location in which the employee works or resides. When an employee temporarily changes work locations (defined as less than 90 days), the employer does not have to change the locality of the employee’s withholding. However, once an employee’s work location changes for 90 days or more, the local withholding must be changed accordingly to reflect the new greater of the PA local income tax of the location in which the employee works or resides.
Because most teleworking due to COVID-19 has exceeded the 90-day threshold, PA employers should revisit the local withholdings for their employees and update, as necessary. This is particularly important for employers located in high-tax areas such as Philadelphia, Chester, Reading, Scranton, and Harrisburg. Employers in these locations would typically withhold at the work-location rate since that rate was higher than the employees’ home location rates. From the employer’s standpoint, withholding was relatively straightforward in these instances. Telecommuting has significantly changed this.
Consider, for example, an employer with one business location in Philadelphia where all employees work in that Philadelphia office. Philadelphia has the highest earned income tax rate of all PA localities at approximately 3.5% for Philadelphia non-residents. Prior to COVID-19, this employer would withhold the Philadelphia wage tax for all its employees. If an employee lived in a PA locality with a 1% earned income tax rate, they would get a credit against that 1% tax for the Philadelphia taxes already withheld by their employer. Thus, if their wages were their only source of earned income, those employees would not owe additional tax when they file their local earned income tax return.
If the employer in our example now requires all employees to work remotely because of COVID-19, the employer should no longer be withholding the Philadelphia wage tax for Philadelphia non-residents. Instead, the employer should be withholding at the rates applicable to the employees’ new work locations (aka their home office). Theoretically, this could end up being a different locality for every single employee. Registering with each locality to get the appropriate withholding accounts set up can be an administrative headache. Unfortunately, employers must make the effort to withhold correctly. Since there are only a handful of tax administrators in PA, there is some streamlining of registration available.
Employees who previously worked in locations with a high earned income tax rate and are now working remotely from a location with a lower rate, should ensure that their employers are withholding the appropriate taxes. Refund petitions may be available if the employer continued to withhold the higher taxes incorrectly once their offices became remote in March 2020.
Philadelphia previously published guidance indicating if employees were required to work outside of the city by their employer, they would no longer be subject to the Philadelphia wage tax. Philadelphia employers should ensure that their work-from-home policy explicitly indicates that the employees cannot work in the Philadelphia office. Further Philadelphia employers may wish to provide a letter, on company letterhead, to their employees with their W2s confirming the dates employees were required to work from home. This documentation will be needed by employees applying for Philadelphia wage tax refunds.
An important issue to note is the differentiation between when employees are required to work from home versus when they have the option to do so. If a Philadelphia employer’s office is officially open, but employees have the option to work from home at their convenience, all employees would be subject to the Philadelphia wage tax as if they were still working in the Philadelphia office.
If you are an individual living and working in Pennsylvania who wants to ensure your withholding is correct, contact your accountant to make the appropriate changes. If you are a Pennsylvania business that needs help adjusting your employees’ local withholdings, call on us to help. Our State and Local Tax experts are ready to assist.