Tax implications of working from home
This article was written in a Bermuda bedroom. It will be proofread in Paget, spellchecked in Sandys, and posted online from Pembroke. Home working has changed the way we work, and it is now changing how we pay our taxes.
For those of us based on island right now, tax won't be top of our worry list. But for US and UK expat workers who are now spending a prolonged period back in their home country, or even at a new location they were expecting to have left long ago, tax is an issue that must be thought through.
Americans back home — the key issues
US citizens don't wave goodbye to Uncle Sam when they start an overseas assignment. They must file a tax return each year, and the IRS expects them to pay Federal tax (top rate 37 per cent) much the same as if they were still at home. With US tax returns due on April 15 each year, the IRS was swift to grant a 3-month extension to July 15, 2020, giving Americans extra time to submit their returns and pay their 2019 taxes.
Whilst Americans abroad must still pay US tax, they do get one big tax break; they don't pay US tax on foreign-earned salary up to a cap of just over $100,000 (an additional tax deduction is allowed for some foreign housing costs). This tax relief is worth tens of thousands of dollars each year to Bermuda-based Americans, but those seeing out the Covid-19 emergency in the US may start to worry that they will lose this relief for 2020.
Fortunately, the IRS has already announced that taxpayers will not be impacted as a result of days spent away from Bermuda based on certain departure dates: Americans who left Bermuda between February 1 and July 15, 2020 will be treated as being present in Bermuda during that period, for the purposes of the relief.
That's good news on first glance, but the devil is in the detail. First, the small print reveals that Americans might still have to pro-rate the relief for their time the US so the maximum annual benefit might not be available for all. Second, Americans must figure out whether every dollar of income was earned in the US, or overseas. This is typically done by tallying up workdays spent inside and outside the US for the whole year, and apportioning wages appropriately.
Wages earned on US soil will be taxable in the US and won't be eligible for the exclusion; only overseas earnings qualify. So, an American earning $100,000 in 2020, who performs 60 workdays in the US (representing three months' work) would have $25,000 earned in the US and $75,000 earned abroad. Only the $75,000 would be eligible for the exclusion, with the US workdays likely creating a tax charge for the individual. The more time spent in the US, the greater the tax charge. And the impact could be felt for many years — individuals fortunate enough to receive a bonus next year, as reward for work performance in 2020, will have to allocate it the same way.
Taxpayers also need to think about state taxes. Some states, like Florida and Texas, don't charge an income tax on individuals, but most do. New York and California tax rates can exceed 10 per cent for high earners, and at the time of writing there is little to cheer in terms of tax breaks for stranded individuals.
On the bright side, US citizens may have benefited from a $1,200 stimulus payment from the US government, with additional amounts payable to parents of qualifying children. Those with annual income below $75,000 receive the full payment, with phase-outs applying for those earning more.
The good news for Americans in Bermuda is that being abroad doesn't prohibit you from the payout, and, even better, income levels are tested after taking the deduction for foreign earnings discussed above.
Other nationalities temporarily in the US
It's not just Americans that may find themselves filling out a US tax return. If a non-resident alien visits the US, they must keep a close eye on the amount of time they spend there, and they may become a US resident, and be taxed there on worldwide income, if they spend enough time there.
Generally, a non-American may spend up to 183 days in the US before triggering US residency — this is looked at on a three-year basis, and it pays to speak to someone with an in-depth knowledge of the rules. So non-residents who are seeing out the pandemic in the US could become US tax resident for 2020.
Again, the IRS has confirmed that relief is available for people who, were it not for Covid-19, would not have become tax residents. The relief allows non-residents to exclude a single period of up to 60 consecutive calendar days starting between February 1 and April 1, 2020, during which they were in the US on each day, from the US residence test. As a result, a non-resident who arrived in the US in February or March, and who can't currently leave, will be able to exclude up to two months' presence when they figure their residence status at year-end.
Although good news at first, it's not a free pass. Non-residents must also tally up their workdays each year and apportion their wages appropriately. Money earned on US soil by non-resident aliens is generally taxable in the US, and the de-minimis exemption ($3,000 of US sourced wages) won't be sufficient for most. A non-resident earning $100,000 in 2020 with 60 US workdays (roughly three months' work) must pay tax on $25,000. Non residents need to think about State taxation too, they're not exempt from that either.
What about the UK?
The UK, like most countries, does not tax Brits on earnings they make while abroad, if they have become non-resident under the UK's Statutory Residence Test (SRT). For Bermuda's British workforce, that usually means working full-time outside the UK for at least one complete UK tax year. Return visits are permitted, but time in the UK is limited: a maximum of 90 days, and 30 workdays, per tax year. Those who have lived away from the UK for many years can potentially visit for up to 182 days, but again, it's best to seek advice.
Workers stranded in the UK may be worrying as much as their American colleagues. A UK-resident British citizen is generally taxed on worldwide income, with a top rate of 45 per cent (46 per cent in Scotland).
The UK has issued similar relief to the US and has confirmed that up to 60 days of UK presence may be disregarded for the purposes of SRT as a result of Covid-19. But the UK rules are more restrictive than the US equivalent. Here, the exemption only applies if the person is quarantined or advised by a health professional to self-isolate, if they find themselves in a ‘lockdown' situation, if they are unable to leave the UK due to the closure of international borders; or if they are asked by their employer to return to the UK temporarily as a result of the virus.
Two other key points should be noted: first, workdays spent in the UK still count towards the 30-day limit — so if an individual exceeds 30 UK workdays during a UK tax year, they cannot satisfy the “working full-time abroad” test, and must look more closely at the SRT to establish their residence position. Second, even if a person does establish non-residence, income relating to UK workdays is taxable. This matches the approach taken by the IRS to non-resident visitors to the US. A working visitor will need to tally up their UK and foreign workdays and pay UK tax on the UK portion.
How are employers impacted?
Employers cannot allow their employees to figure this one out for themselves. The implications for companies are significant, and they need to take action to remain compliant.
Employees working remotely from a new location, where their employer doesn't currently operate, can create a tax footprint for the company, which can lead to corporation tax being due in that location.
Employers also need to consider their withholding tax obligations in these scenarios. UK and US authorities expect companies to operate withholding tax when non-resident workers come to their shores, and the exemptions are narrow. Those exemptions evaporate to almost zero in the case of a person who ordinarily resides in Bermuda, because the island does not have “double tax treaties” with either the UK or the US. And it's not just income tax, National Insurance (in the UK) or Social Security (in the US) may also be payable, plus there may also be state withholding tax for employees temporarily in the US.
What should you take away?
The world continues to react to the challenges of Covid-19, and we may reasonably expect to see further guidance from the UK and US governments throughout 2020. It's certainly true that tax revenue will never be far from governments' minds and it pays to be well informed when it comes to tax planning.
• Tom Neill is a Director with KPMG in Bermuda's Tax Practice. He joined the firm in November 2019, providing US and UK income tax support for expats based in Bermuda. Before moving to Bermuda with his wife and three children, Tom worked in London.