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Thus Spoke the Governor

Last Friday, New York’s Governor Hochul[i] delivered the following remarks at the annual meeting of the Business Council of New York State:[ii]

“Someone asked me today, are we going to raise income taxes? I said, ‘I’m not raising income taxes.’ I said I’m not. I stopped a huge income tax increase last year. I don’t think it’s a good strategy for economic development to find more reasons for businesses to leave the State of New York. . . . And maybe they didn’t hear that for a long time with Occupy Wall Street and all this other socialism that was going on, but you need to be reassured that the people who are actually in elected office in the highest positions right here don’t support that.”[iii]

The Budget Gap Beckons

The Governor’s comments were made in the context of discussions regarding New York’s next budget,[iv] including a report on the current 2024-2025 financial plan, released a few weeks ago by Comptroller DiNapoli, that the state “continues to have a structural budget deficit, with a cumulative three-year budget gap of $13.9 billion.”[v] According to DiNapoli, this gap could widen if state spending increases beyond projections or if economic conditions weaken. A slowdown in the economy, the Comptroller stated, would “likely lead to an increase in demand for government services, putting further pressure upon” the estimated budget gap.[vi]

In the event such circumstances materialize – and let’s face it, we’re not out of the woods yet[vii] – we can expect New York’s Democrat-controlled and veto-proof Legislature to reintroduce the tax increases referenced in the Governor’s statement, above.[viii]

Bottom of the Barrell

As a result, how much worse would the state become for businesses and their owners? I guess that depends upon your point of comparison. According to the Tax Foundation’s 2024 State Business Tax Climate Index, New York’s tax system ranks 49th in the country.[ix] Would tax increases on businesses and their owners drive more of them out of the state, a risk acknowledged by the Governor?

Even if one were to set aside, for the moment, the outlook for the state’s legislative agenda with respect to taxes, one cannot overlook a tax collection tool that the state has wielded with great effect in recent years; specifically, its army of tax examiners.

Increased Audit Activity[x]

It has been reported that, between 2013 and 2017, New York conducted about 15,000 audits and collected approximately $1 billion.

By contrast, in the fiscal year 2022 to 2023, the state conducted about 826,000 audits, which generated over $2 billion of tax revenue. The next fiscal year saw about 756,000 audits and collections in excess of $3.2 billion.[xi]

These figures are impressive by almost any measure. What they don’t tell you, however, is that New York has for many years employed an army of auditors[xii] – some of whom are based outside the state – that is dedicated to aggressively pursuing certain individuals who claim to no longer be domiciled in the state. Thus, they examine the nonresident income tax returns filed by individuals who were formerly domiciled in the state, as well as the returns filed by individuals who are not domiciled in the state but who maintain a permanent place of abode therein, or have New York sourced income. Indeed, New York conducts a few thousand such audits every year,[xiii] and in the majority of cases it usually succeeds in collecting a significant amount of tax (together with interest and penalties).[xiv] 

With the pandemic in the rearview mirror, New York has determined to chase down and collect the income taxes it believes are owed by those nonresident taxpayers who worked from home during the pandemic and who have continued to work remotely after it became “safe” to return to the workplace.[xv]

The Exam of a Nonresident Taxpayer

The Division of Tax Appeals recently considered the New York income tax liability[xvi] of an individual who had previously worked for a business located in New York City but who worked remotely from his New Jersey home starting in 2020.[xvii]

Taxpayer filed his New York personal income tax return for the tax year 2020 (the “2020 Return”) as a nonresident of New York,[xviii] on which he reported: (i) his New York adjusted gross income; (ii) an income allocation of 11.59% to New York;[xix] (iii) the New York tax withheld on his wages; and (iv) his total New York income taxes due.

The Division of Taxation (the “Division”) selected Taxpayer’s nonresident return for audit. It began the exam by asking for copies of various federal tax forms, and requesting that Taxpayer complete an income allocation questionnaire, which included the following:

“If you are a nonresident or part-year resident whose assigned primary work location is in New York, days you worked at a location outside New York may be considered New York workdays. In particular, days you telecommuted from a location outside New York are considered days worked in the state, unless your employer has established a bona fide employer office at your telecommuting location.”

The questionnaire also stated that a nonresident taxpayer “must be prepared to provide documentation substantiating [their] day counts upon request.” Furthermore, if the nonresident telecommuted from a location outside New York, the questionnaire asked that the individual specify “whether any such location constituted a bona fide employer office, and provide proof of actions taken by the employer, if any, to establish a bona fide employer office at that location.”

Taxpayer submitted a partially completed questionnaire, together with the following statement: “OFFICE LOCATION IN NYC WAS CLOSED[,] I WAS ORDERED NOT TO COME IN TO NYC[.]”   

On the questionnaire, Taxpayer’s responses indicated that he was employed in 2020 by Employer and listed Wilmington, Delaware as his employer’s address. For the “[a]ssigned primary work location,” Taxpayer indicated “None.”

Taxpayer completed the day count table as follows:

Number of days in the employment period365
Total number of non-working days[xx]115
Total number of working days250
Total days worked at home208

The answers did not disclose either the type of the duties that Taxpayer performed, where he was or what he did for 42 unaccounted workdays.  

The Adjustment Notice

The Division subsequently issued an adjustment notice, the “explanation” section of which stated the Division had recalculated Taxpayer’s tax liability and adjusted the New York column of his return to include all the wages from Employer.

The Division recomputed Taxpayer’s tax liability by allocating all of Taxpayer’s income from Employer to New York, which subjected that amount to the state’s personal income tax.

Taxpayer responded to the proposed adjustment by resubmitting certain documents, including another questionnaire. This new submission indicated that Taxpayer was employed in 2020, for the full year, by “Employer,” the offices of which were in New York City.

For the “[a]ssigned primary work location,” Taxpayer indicated his home address in New Jersey. On this questionnaire, Taxpayer provided the following day count table for his work:

Number of days in the employment period366
Total number of non-working days138
Total number of working days228
Total days worked at home188

On the newly submitted questionnaire, Taxpayer explained that during the days worked in New York he attended in-person business meetings and visited clients. During the days worked at home, he conducted investment activities.  

Along with the foregoing, Taxpayer provided the following statement: “My company closed their NY office during 2020, they provided a full home office equipment setup for full time remote work. I have not been into New York City since March [2020].”

Notice of Disallowance

Shortly thereafter, the Division issued a notice of disallowance (the “notice”), which included the following statement:

“We reviewed the information you sent in response to our letter. Your information does not establish your assigned primary work location outside of New York State or show you have met the factors to prove your employer had established a bona fide employer office at your telecommuting location. Therefore, you owe New York State income tax on income earned while telecommuting.”

The notice further stated that the Division had reviewed Taxpayer’s responses and determined that Taxpayer “failed to properly allocate the correct amount of income to New York in tax year 2020 for the days worked in New Jersey as a nonresident employed by a New York employer, assigned to a primary work location in New York, for their convenience rather than necessity of the employer based on the application of the convenience of the employer test” as set forth in the Division’s regulations.[xxi]

Further, the Division determined that Taxpayer failed to show he met the factors set forth in the Division’s memorandum explaining its position concerning the application of the convenience of the employer test,[xxii] to prove their employer set up a bona fide employer office at their telecommuting location in New Jersey at their home.

The ALJ Hearing

Taxpayer petitioned the Division of Tax Appeals for redetermination of the income tax deficiency asserted by New York. A hearing was held before an Administrative Law Judge (“ALJ”), at which Taxpayer testified that Employer was an international investment fund, based in Luxembourg, and elaborated on Taxpayer’s “investing” work. 

Taxpayer stated that, during the first few months of 2020, he worked in Employer’s New York City office. He explained that employees stopped reporting to this office during 2020. Taxpayer and his staff packed up their equipment and worked from remote locations, in his case, his home in New Jersey. Taxpayer testified that apart from a holiday party later that year, the staff “never went back.”

He testified that the closure was due in part to the pandemic but also due to the fact that Employer no longer wanted to directly manage its own investments.[xxiii]

Essential Business

At the hearing, the Division requested that judicial notice[xxiv] be taken that mandatory workforce reductions, in response to the pandemic, did not apply to Employer because it was exempt as an essential business.

The Division submitted a document issued by the New York State Department of Economic Development and entitled “Guidance for Determining Whether a Business Enterprise is Subject to a Workforce Reduction under Recent Executive Orders” (the “Guidance”). This Guidance expounded on then-Governor Cuomo’s 2020 Executive Order,[xxv] which provided, in part, that “any essential business or entity providing essential services or functions shall not be” required to work from home. “This includes… banks and related financial institutions,” such as lending institutions, insurance, payroll, accounting, and services related to financial markets.”

No Office

At the hearing, Taxpayer argued that the amounts reported on his 2020 return reflected the reality that Employer’s New York City office was closed (i.e., not conducting business). Taxpayer also argued that Employer was required to be closed as a result of the pandemic.

Taxpayer, therefore, argued that the reported allocation percentage was correct.

Taxpayer’s Burden

The Division argued that it properly applied the convenience of the employer test.[xxvi] It also contended that notwithstanding the extraordinary nature of the pandemic, Taxpayer still had to establish the elements necessary to meet the convenience of the employer test. The Division argued that Taxpayer did not establish either that Taxpayer worked at his New Jersey home due to Employer’s necessity or that Employer established a bona fide office at that location.

Accordingly, the stated requested that the notice be sustained, and Taxpayer’s petition denied.  

ALJ’s Decision

Based on the foregoing, the ALJ agreed with the Division that the mandatory workforce reductions did not apply to Employer because it constituted an essential business.

The remaining issue before the ALJ was whether Taxpayer established that the Division improperly allocated all of Taxpayer’s income derived from his employment with Employer to New York.

Allocation of Income

New York imposes a tax on “income which is derived from sources in this state of every nonresident.”[xxvii] The “New York source income of a nonresident individual” is defined as including “[t]he net amount of items of income, gain, loss and deduction entering into his federal adjusted gross income, as defined in the laws of the United States for the taxable year, derived from or connected with New York sources.”[xxviii] The statute provides further that “[i]tems of income, gain, loss and deduction derived from or connected with New York sources shall be those items attributable to: . . . (B) a business, trade, profession or occupation carried on in this state.”[xxix]

The statute goes on to state, “[i]f a business, trade, profession or occupation is carried on partly within and partly without this state, as determined under regulations of the [Commissioner], the items of income, gain, loss and deduction derived from or connected with New York sources shall be determined by apportionment and allocation under such regulations”[xxx]

According to the Division’s regulations for the apportionment and allocation of nonresident income:

“If a nonresident employee (including corporate officers, . . . ) performs services for his employer both within and without New York State, his income derived from New York State sources includes that proportion of his total compensation for services rendered as an employee which the total number of working days employed within New York State bears to the total number of working days employed both within and without New York State . . .

Convenience Test

Unfortunately for many nonresident employees, the regulations then go on to provide:

“However, any allowance claimed for days worked outside New York State must be based upon the performance of services which of necessity, as distinguished from convenience, obligate the employee to out-of-state duties in the service of his employer.”[xxxi]

The ALJ observed that the convenience of the employer test would “more aptly be called the necessity of the employer test.” The regulation provides that any allowance claimed for days worked outside New York State must be based on performance of services that necessarily obligate the employee to out-of-state duties in service of his employer.[xxxii] “[T]he burden,” the ALJ added, “remains upon the taxpayer to establish that the work being done by him at his home was also for his employer’s necessity.” 

According to the ALJ, the regulation does not apply, and a nonresident employed by a New York employer is not subject to the convenience of the employer test, when the nonresident employee (i) works outside of New York, (ii) performs no work within New York, and (iii) has no office or place of business in New York (i.e., where suitable facilities to carry out employee’s duties are not maintained for, or available to, the employee in New York).  

Therefore, a nonresident employee must prove each of the forgoing factors to establish that income from a New York employer is not subject to the convenience of the employer test.     

The ALJ found that Taxpayer failed to establish any of these factors because he worked in New York City during the beginning of 2020. Accordingly, the convenience of the employer test applied to Taxpayer’s income.[xxxiii]

Accordingly, the ALJ concluded that Taxpayer failed to establish that the Division improperly allocated all of his income from Employer to New York State. [xxxiv]

Should the Rule Apply?

Under New York’s convenience of the employer rule, a nonresident employee (say, a resident of New Jersey) whose assigned or primary office is in New York, but who spends a “normal workday” at their home office outside New York (in New Jersey), will nevertheless be treated as having worked in New York on that day; that is, unless the nonresident employee can demonstrate that their home office is a bona fide employer office.

What does that mean for the state’s fiscal situation?

According to a survey[xxxv] conducted earlier this year by The Partnership for New York City, 56% of Manhattan office workers are at their workplace on an average weekday, which is not significantly different from the Partnership’s 2023 survey findings, which found 58% of employees were in the office on the average weekday. Thus, it appears some form of hybrid schedule is here to stay.[xxxvi]

The study breaks this down further as follows:

  • 11% of Manhattan office workers are currently in the office full time (five days a week)
  • 17% are in four days per week
  • 38% are in three days per week
  • 17% are in two days per week
  • 9% are in one day per week
  • 7% of Manhattan office workers are fully remote

A fair number of these individuals reside outside New York State.

Rest assured, if New York has not yet contacted these nonresident employees about the allocation of their compensation income to the state, it will in the near future, especially given the expected budget gap described earlier.[xxxvii]

Sign up to receive my blog at www.TaxSlaw.com.The opinions expressed herein are solely those of the author(s) and do not necessarily represent the views of the Firm.

[i] A Democrat.

[ii] In beautiful Bolton Landing, on Lake George. It truly is. https://www.boltonchamber.com/.

[iii] https://www.governor.ny.gov/news/video-audio-photos-rush-transcript-governor-hochul-delivers-remarks-business-council-nys.

[iv] For the FY April 1, 2025 to March 31, 2026.

[v] https://www.osc.ny.gov/press/releases/2024/07/dinapoli-releases-report-sfy-2024-25-financial-plan.

[vi] DiNapoli added that “spending in recent years has been driven by school aid and Medicaid; the two are forecasted to account for over 50% of all General Fund disbursements.”

[vii] Especially when we consider the size of the federal debt (over $35 trillion), the uncertainty surrounding the November elections, and the state of the world generally.

[viii] You don’t seriously believe they would cut spending instead?

[ix] At least we beat New Jersey! https://taxfoundation.org/research/all/state/2024-state-business-tax-climate-index/.

“New York has a graduated state individual income tax, with rates ranging from 4.00 percent to 10.90 percent. There are also jurisdictions that collect local income taxes. New York has a graduated corporate income tax, with rates ranging from 6.5 percent to 7.25 percent. New York also has a 4.00 percent state sales tax rate and an average combined state and local sales tax rate of 8.53 percent. New York has a 1.54 percent effective property tax rate on owner-occupied housing value.

“New York has an estate tax. New York has a 25.68 cents per gallon gas tax rate and a $5.35 cigarette excise tax rate. The State of New York collects $10,380 in state and local tax collections per capita. New York has $19,407 in state and local debt per capita and has a 92 percent funded ratio of public pension plans.” 

[x] I used to argue – and to some degree, still do – that tax increases aren’t a panacea for what ails government. Instead, the focus should be on enforcing the tax laws already in place. Upon further reflection, I realized that the full-bore adoption of such a policy would inexorably lead to the creation of a self-sustaining army of bureaucrats dedicated to wringing as much out of taxpayers as was practicable – as distinguished from legally – possible. It would also lead to an expansion of the whistleblower program.

[xi] https://nypost.com/2024/04/19/business/new-york-auditors-crack-down-on-out-of-state-residents-avoiding-tax/#:~:text=Between%202013%20and%202017%2C%20New,Department%20of%20Taxation%20and%20Finance

[xii] https://www.fa-mag.com/news/new-york-s-rich-get-creative-to-flee-state-taxes–auditors-are-on-to-them-77759.html.

[xiii] https://www.cnbc.com/2019/03/08/tax-collectors-chase-rich-new-yorkers-moving-to-low-tax-states.html

[xiv] https://news.bloombergtax.com/daily-tax-report-state/the-tax-auditors-are-coming-for-ex-new-yorkers.

[xv] Don’t get me started.

[xvi] Tax Law, Art. 22.

[xvii] State of New York Division of Tax Appeals

In the Matter of the Petition of Scott and Elizabeth Bryant DETERMINATION DTA NO. 830818.

[xviii] Form IT-203, New York State Nonresident And Part-Year Resident Income Tax Return.

[xix] Based upon the ratio of the number of working days he was in New York to the total number of working days.

[xx] Weekends, holidays, vacation, sick leave, etc.

[xxi] 20 NYCRR 132.18(a).

[xxii] TSB-M-06(5)I – New York Tax Treatment of Nonresidents and Part-Year Residents Application of the Convenience of the Employer Test to Telecommuters and Others.

Employees are instructed to use the factors provided in the memorandum to assist them in determining if their home office constitutes a bona fide employer office. The factors are divided into three categories: the primary factor, secondary factors, and other factors. In order for an office to be considered a bona fide employer office, the office must meet either: a) the primary factor, or b) at least 4 of the secondary factors and 3 of the other factors.

[xxiii] Taxpayer explained that this office was permanently closed in December 2022 because the parent company sold Employer to Goldman Sachs.

[xxiv] Judicial notice may only be taken of particular facts, if the items are of common knowledge or are determinable by referring to a source of indisputable accuracy.

[xxv] Executive Order 202.6.

[xxvi] The Division also noted that the New York courts have repeatedly upheld the validity of the convenience of the employer test and rejected constitutional challenges.

[xxvii] Tax Law Sec. 601 (e)(1).

[xxviii] Tax Law Sec. 631(a)(1).

[xxix] Tax Law Sec. 631(b)(1)

[xxx] Tax Law Sec. 631[c]

[xxxi] 20 NYCRR 132.18(a). This regulation has become known as the “convenience of the employer test.”

[xxxii] The ALJ explained, “The policy justification . . . [is] that since a New York State resident would not be entitled to special tax benefits for work done at home, neither should a nonresident who performs services or maintains an office in New York State.”

[xxxiii] Employer was under no legal mandate to close Taxpayer’s New York office during the pandemic. That said, it could have ordered its employees to report from specific locations for Employer’s own necessity. Despite Taxpayer’s testimony that such an order was given, the record contained no proof supporting these assertions.

[xxxiv] Taxpayer did not carry the burden of proof. Tax Law Sec. 689[e].

[xxxv] https://pfnyc.org/research/return-to-office-survey-results-may-2024/

[xxxvi] Like I said earlier, don’t get me started.

[xxxvii] These employees may be entitled to a credit against the tax owing to their state of domicile for the income tax paid to New York – thereby avoiding double taxation of such wages. Such a credit has the effect, however, of removing tax dollars from the employee’s state of domicile and moving them to New York.

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Raking It In

You may recall that earlier this year the IRS launched an initiative to pursue 125,000 “high-income, high-wealth” taxpayers who have not filed taxes since 2017. These were cases where the IRS received third party information[i] indicating these individuals had received income in excess of $400,000 but had failed to file a tax return. 

Last week, the IRS announced that during the first six months of this initiative, nearly 21,000 of these taxpayers filed returns and paid approximately $172 million in taxes.

Continue Reading Unconstitutionally Excessive FBAR Penalties? It Depends
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August is Like Sunday

As far back as I can remember, the end of August has always elicited a sense of dread comparable to what many schoolchildren, and a fair number of adults, experience every Sunday afternoon.

In retrospect, I cannot say that this feeling of doom was ever fully warranted.[i] Still, its presence has been undeniable, and it is especially palpable this year, and for good reason.  

In the last few weeks, in addition to some disturbing developments in conflicts overseas, European censors threatened to arrest ordinary citizens who post “offensive” content online; Mark Zuckerberg admitted publicly that the Biden administration compelled Facebook to censor the news and other information made available to the American public;[ii] many European governments (even Switzerland) announced they are considering some serious tax hikes;[iii] the Bureau of Labor Statistics reported that the U.S. created 818,000 fewer jobs during the last 12 months than had been reported (and touted) earlier;[iv] interest paid[v] on the U.S. national debt surpassed defense spending; Bigfoot was spotted in the Adirondacks;[vi] the power brokers of the Democratic Party effectively removed the President of the United States from office[vii] and selected Kamala Harris as their candidate for the Presidential election this November;[viii] the same Ms. Harris endorsed increased income taxes on both individuals and corporations, as well as higher estate taxes.[ix]

NY Tax as a Constant

I have read that consistency provides stability and reduces uncertainty.

Assuming the truth of this statement, it is comforting to know, in the midst of the uncertainty and anxiety created by the events enumerated above, not to mention the inordinate mistrust of the federal government felt by at least half the country, that New York’s Department of Taxation (the “Dept.”) is steadfastly working round the clock,[x] as it has always done, to ensure that both residents and nonresidents pay their “fair share” of the State’s almost $240 billion budget.[xi]

The fruit of the Dept.’s efforts was on display in a recent decision from the Division of Tax Appeals.[xii]

Yet Another Audit

The Dept. audited Taxpayer’s returns for the taxable years 2011 through 2015. During these audits, the Dept. determined that Taxpayer had changed his domicile from New York to Connecticut during 2013.

In 2018, Taxpayer moved to Tennessee.[xiii]

In 2020, Taxpayer – who by that time was retired – was again selected for audit by the Dept., this time as a nonresident, for the years 2016 through 2018 (the “audit period”).[xiv]

The Income At Issue

During the audit period, Taxpayer was employed by Corp, and filed New York State nonresident income tax returns[xv] for each of the audited years on which he reported wage income, bonus income, dividend income, and income from the vesting of restricted stock units (“RSUs”) granted by Corp.

The following is a breakdown of Taxpayer’s W-2 income from Corp[xvi] for each of the audit years:

WagesBonusRS UnitsDividends
2016$900,000$4,000,000$2,187,568$636,760
2017$900,000$2,000,000$2,692,066$626,230
2018$900,000$2,000,000$1,750,031$669,360

Taxpayer’s Allocation

On his nonresident income tax returns for the audit period, Taxpayer allocated wages to New York by comparing his number of days worked in New York to his total days worked (a workday allocation).

Taxpayer allocated his bonus income for each audit year based upon the workday allocation for the year in which the bonus was paid.

Corp granted Taxpayer a number of RSUs of its common stock, the terms of which were set forth in a Restricted Stock Unit Plan.

Vesting

According to this Plan, each RSU entitled Taxpayer to one share of Corp common stock upon vesting;[xvii] 20% of the RSUs vested on the first anniversary date of the grant, and 20% each year thereafter.[xviii]

Under the RSU Plan, Taxpayer was not entitled to dividends in respect of Corp’s common stock, or any other rights or privileges of a stockholder of Corp stock, until the RSUs were fully vested.

Furthermore, if Taxpayer was no longer employed with Corp, Taxpayer’s unvested RSUs were forfeited.

However, if Taxpayer died while employed, the unvested RSUs would automatically vest and become nonforfeitable. If Taxpayer became permanently disabled, the unvested RSUs would vest and become nonforfeitable on a pro rata basis, depending upon the number of days that had lapsed in the period.

Taxpayer sourced his income from the vesting of the RSUs, and the resulting receipt of Corp common stock, to New York based upon a workday allocation – the ratio of New York workdays to all workdays – in the year the RSUs vested.

The Dividends

After the RSUs became fully vested and no longer subject to forfeiture (as described above), Taxpayer received dividends in respect of his shares of Corp common stock.

Taxpayer did not treat any of this dividend income as New York source income subject to tax by the State.

NY Disagrees

Taxpayer provided calendars and schedules, along with other supporting documentation, detailing his total working days during each year of the audit period and his total days spent working in New York during each year.[xix]

The Dept. determined that the bonus income paid by Corp to Taxpayer during the years in question should have been sourced to New York based upon the workday allocation in the year prior to the year of receipt of the bonus. The Dept.’s auditors relied on their understanding that the bonus was paid based on the immediately preceding year’s performance and approved in March of the following year.

The Dept. also made adjustments to the sourcing of Taxpayer’s income from Corp’s RSUs that vested in 2016, 2017 and 2018, using a date-of-grant to date-of-vesting allocation methodology.[xx]

Finally, the Dept. also asserted tax on dividend income reported on Taxpayer’s W-2[xxi] on the basis that this was part of Taxpayer’s compensation package and should be properly allocated to New York and subject to tax based upon the workday allocation in the year of receipt.

In 2021, the Dept. issued a notice of deficiency reflecting these adjustments for each of the audit years and asserting additional tax and interest against Taxpayer.

Taxpayer filed a petition for the redetermination of these alleged deficiencies with the Division of Tax Appeals.

The ALJ Hearing

At the subsequent hearing before an Administrative Law Judge (“ALJ”), Taxpayer explained that he was retired from Corp, but during the audit period he was the CEO of one of Corp’s divisions. Taxpayer indicated that he did not have an employment contract with Corp and that the bonus payments received from Corp were 100% discretionary and not guaranteed.

Taxpayer also explained that, pursuant to the terms of the RSU Plan, a grantee of Corp RSUs could elect to defer receipt of their RSUs, which would then be administered by the Plan. Taxpayer testified that the dividends, as reported on his forms W-2 during the years in issue, were paid out of this plan and the RSUs from which the dividends had emanated were vested. It was Taxpayer’s position that this dividend income was not attributable to a business, trade or profession carried on in New York because the Corp common stock on which the dividends were paid had long since vested.

In support of his testimony, Taxpayer submitted a letter from Corp’s then General Counsel[xxii] stating that the bonus income paid to Taxpayer by Corp was purely discretionary on the part of Corp, and that Taxpayer did not have a contractually guaranteed bonus. Taxpayer also presented the testimony of Corp’s current General Counsel who corroborated that the dividend income at issue stemmed from RSUs that had vested.

ALJ’s Determination

The issues before the ALJ were as follows:  

I. Whether Taxpayer’s income from the vesting of the RSUs should have been sourced to New York using the grant-to-vesting allocation methodology employed by the Dept.; and  

II. Whether dividend income earned by a nonresident New York taxpayer from a deferred compensation plan (like the RSU Plan) and reported on federal form W-2, wage and tax statement, was subject to taxation by the State.[xxiii]

The ALJ explained that New York generally imposes income tax upon the taxable income of a nonresident individual[xxiv] to the extent such income is derived from or connected to New York sources.[xxv] The amount of tax imposed upon such a nonresident is equal to their “tax base” – i.e., the tax computed if the nonresident were a resident, reduced by certain credits – multiplied by the “New York source fraction.”[xxvi] The New York source fraction is a fraction the numerator of which is the nonresident’s New York source income, and the denominator of which is the individual’s New York adjusted gross income.[xxvii] 

The taxpayer’s total income is derived from “New York adjusted gross income.”[xxviii] The New York source fraction, in turn, is equal to the individual’s “New York source income” divided by the individual’s New York adjusted gross income from all sources for the entire year.[xxix]

A nonresident individual’s New York source income is defined as “the net amount of items of income, gain, loss, and deduction entering into his federal adjusted gross income, . . . derived from or connected with New York sources,”[xxx] which is determined by reference to the taxpayer’s “federal adjusted gross income.”[xxxi]

After the Dept. conceded that the total amount of income designated as bonus income was properly allocated to New York by Taxpayer using his workday allocation in the year of receipt, the ALJ turned to the only income amounts that remained in dispute; specifically, the income from the vesting of the RSUs and the dividend payments for the audit years.

The RSUs

With respect to restricted stock units granted to nonresidents, the ALJ stated that, according to the Tax Law, “A nonresident taxpayer who has been granted statutory stock options, restricted stock, nonstatutory stock options or stock appreciation rights and who, during such grant period, performs services within New York for, or is employed within New York by, the corporation granting such option, stock or right, shall compute his or her New York source income as determined under rules and regulations prescribed by the commissioner.”[xxxii]

The Dept.’s regulations provide that a “nonresident individual has New York source income from compensation received from stock options, stock appreciation rights or restricted stock if at any time during the allocation period the nonresident individual performed services in New York State for the corporation granting such options.”[xxxiii]

The ALJ explained that “allocation period” means: “in the case of restricted stock . . . , the period of time from the date that the stock was received to the earliest of the date that the stock is substantially vested (transferable or not subject to substantial risk of forfeiture), the date that the individual’s services terminate, or the date that the stock is sold, except that, with respect to the portion of the compensation related to the stock that is attributable to dividends paid on the stock, the same period of time that applies to regular, non-stock-based remuneration from the grantor during the taxable year that such dividends were received.”[xxxiv] Such stock option compensation is reportable to New York in the tax year that the income is included in federal adjusted gross income.[xxxv]

The ALJ then observed that restricted stock units, like those at issue in Taxpayer’s case, are not specifically mentioned in the Tax Law or the regulations promulgated thereunder. Still, the ALJ continued, Taxpayer’s RSUs fell within the ambit of the regulations. “Like stock options, stock appreciation rights and restricted stock, restricted stock units are a form of equity-based compensation,” the ALJ stated, and “[t]here is no clear distinction that justifies sourcing income from the vesting of restricted stock units differently than income from the vesting of restricted stock.”

Although Taxpayer advocated for use of the workday allocation in the year of receipt as a more equitable allocation method, the ALJ found that the justification for this position was lacking, other than it would result in less tax due in Taxpayer’s specific case. Accordingly, the ALJ rejected Taxpayer’s argument.  

The Dividends

With respect to the dividend income, the ALJ noted that both Taxpayer and Corp’s general counsel provided credible and uncontroverted testimony that the stock that generated such dividends had vested at the time the dividends were issued.

The ALJ, however, found that the Dept. failed to provide any witness testimony or citations to the hearing record to support its conclusion that the dividend income was earned as a result of a business, trade or profession carried on in New York.

That being the case, the ALJ determined that the dividend income was not taxable to a nonresident, such as Taxpayer.

Remember

In general, a New York resident taxpayer is responsible for reporting and paying New York personal income tax on income from all sources regardless of the nature of the income or where it was generated.

A nonresident taxpayer, however, is given the opportunity to allocate income, reporting to New York only that income actually generated in New York. In addition, the nonresident need only report to New York the income from intangibles which are attributable to a business, trade or profession carried on in the State.

Thus, significant benefits may be derived from establishing one’s nonresident status as to New York.

However, because a nonresident taxpayer’s New York source income will remain subject to New York’s tax jurisdiction, it behooves the nonresident taxpayer to become familiar with the State’s sourcing rules and, to the extent possible, to plan accordingly. For example, a nonresident may want to use a like kind exchange[xxxvi] to remove real property from New York to another jurisdiction. They may also want to structure their New York investment so it generates interest or dividends, or gains from the sale of intangible personal property. In the case of compensation for services performed in New York, the nonresident employee may consider planning in advance with their employer to minimize the days worked in the State, to the extent feasible.

Depending on the circumstances, some of New York’s source rules may be more easily applied than others. In cases where facts may be disputed, the taxpayer can almost always rely upon the State to discern and assert the requisite nexus. The nonresident taxpayer should prepare on a contemporaneous basis – i.e., before filing their income tax return – the record on which they will rely to support their reporting position and refute any challenge by the Dept.

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[i] For which I am thankful.

[ii][ii] Twitter’s collusion was uncovered last year.

[iii] The U.K.’s recently installed Labour Party is considering tax increases for capital gains, profits interests, and inheritances, among other items.

[iv] A mere “revision”? At some point, fiction becomes a lie (it’s a matter of intent), and if the intended effect of the lie is sufficiently widespread it becomes a crime.

[v] Approximately $787 billion.

[vi] Just checking that you’re awake. However, there have been several reported sightings of “something” in the area of Whitehall, NY.

[vii] I’ve never respected the man. He is one of the most selfish, dishonest and deceitful individuals to be elected to public office, and that’s saying a lot.

The Constitution, on the other hand, is sacred and any efforts to circumvent it represent a challenge to the principles and theory of government it embodies and should not be taken lightly. Just focus on the Preamble, which established the framework for the entire document:

“We the People of the United States, in Order to form a more perfect Union, establish Justice, insure domestic Tranquility, provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity, do ordain and establish this Constitution for the United States of America.”

For an interesting, and colorful, take on the Preamble and its meaning, I recommend Kid Rock’s We the People. 

[viii] Someone please tell me who the Commander in Chief is.

Article Two of the Constitution provides “The President shall be Commander in Chief of the Army and Navy of the United States, and of the Militia of the several States, when called into the actual Service of the United States.”

[ix] Among other measures, Harris mentioned the taxation of unrealized gain in certain cases, though the NYT reported that her donors were urging her to drop the latter. https://www.nytimes.com/2024/08/29/us/politics/donors-harris-tax-ultrawealthy.html .

[x] Desperate times . . .

[xi]  So much of which is wasted on unnecessary projects, including the $4.3 billion to be spent for illegal aliens through the State Fiscal Year 2025-2026. https://www.osc.ny.gov/reports/asylum-seeker-spending-report#:~:text=The%202024%2D25%20Enacted%20Budget,billion%20through%20July%2031%2C%202024.

[xii] In the Matter of the Petition of Dale A. Adams: Determination DTA NO. 850026 (August 8, 2024).

[xiii] Tennessee became a true “no individual income tax” state in 2021.

[xiv] Think about it. 2011 through 2018. Eight consecutive years, during most of which Taxpayer was a nonresident. “Poor” bastard. Obviously, New York decided the potential return was worth the investment.

[xv] Form IT-203.

[xvi] We’re not feeling sorry for Taxpayer, but the fact remains that he changed his domicile from NY to CT (a top rate of almost 7%) and, five years later, to TN. Adapting some of the lyrics from Johhny Cash’s “God’s Gonna Cut You Down”: you can run on for a long time, sooner or later NY will cut you down.

[xvii] Property is substantially nonvested when it is subject to a substantial risk of forfeiture, and is nontransferable. Property is substantially vested for such purposes when it is either transferable or not subject to a substantial risk of forfeiture. A substantial risk of forfeiture exists only if rights in property that are transferred are conditioned, directly or indirectly, upon the future performance of substantial services by any person, or upon the occurrence of a condition related to a purpose of the transfer if the possibility of forfeiture is substantial. Treas. Reg. Sec. 1.83-3(b), (c).

[xviii] In general, property that is transferred to an employe in connection with their performance of services is not taxable (under IRC Sec. 83(a)) until it has been transferred to the employee and become substantially vested in such employee. In that case, the excess of the fair market value of such property at the time that the property becomes substantially vested, over the amount (if any) paid for such property shall be included as compensation in the gross income of such employee for the taxable year in which the property becomes substantially vested. Until such property becomes substantially vested, the employer shall be regarded as the owner of such property, and any income from such property received by the employee (such as a dividend paid on stock) constitutes additional compensation and shall be included in the gross income of such employee for the taxable year in which such income is received. Treas. Reg. Sec. 1.83-1.

[xix] The parties agreed that Taxpayer’s New York wage allocation was 38.70%, 34.53% and 18.14%, during 2016, 2017 and 2018, respectively.

It should be noted that New York’s “convenience of the employer” rule was not implicated in this case. Although Taxpayer performed services for Corp both within and without New York, Taxpayer’s “assigned or primary office” was not in New York. https://www.taxslaw.com/2023/02/new-yorks-convenience-of-the-employer-rule-new-jersey-and-connecticut-respond/

[xx] As set forth in the Dept.’s regulations at 20 NYCRR 132.24.

[xxi] Query why these dividends were reported on a W-2 when the shares of stock on which they were paid had already vested in the hands of the Taxpayer.

[xxii] During the audit years.

[xxiii] The federal “Pension Source Law” (4 USC Sec. 114) was not implicated in this case. It provides that no state may impose an income tax on any retirement income of an individual who is not a resident or domiciliary of such state. For purposes of the Pension Source Law, the term “retirement income” means any income from qualified plans. However, it also includes income from any nonqualified plan if such income (i) is part of a series of substantially equal periodic payments, not less frequently than annually, made for the life or life expectancy of the recipient, or the joint lives or joint life expectancies of the recipient and the designated beneficiary of the recipient, or a period of not less than 10 years, or (ii) is a payment received after termination of employment and under a plan, program, or arrangement (to which such employment relates) maintained solely for the purpose of providing retirement benefits for employees in excess of the limitations on contributions or benefits imposed by the Code with respect to qualified plans. The term “nonqualified deferred compensation plan” means any plan or other arrangement for deferral of compensation other than a qualified plan. IRC Sec. 3121(v)(2)(C). Neither the bonuses nor the RSUs were covered by this federal law.

[xxiv] NY Tax Law Sec. 605(b)(2).

[xxv] NY Tax Law Sec. 601(e)(1).

[xxvi] NY Tax Law Sec. 601(e)(2), (3).

[xxvii] NY Tax Law Sec. 601(e)(3).

The tax is determined by applying the appropriate graduated rate to the taxpayer’s total income from all sources less any statutory deductions, exemptions or credits. 606; 611(a).

[xxviii] NY Tax Law Sec. 611.

[xxix] NY Tax Law Sec. 601(e)(3).

[xxx] NY Tax Law Sec. 631(a)(1) and (2).

For example, a nonresident’s New York income will include the taxpayer’s income from:

• real or tangible personal property located in New York, including certain gains from the sale or exchange of an interest in an entity that owns real property in New York;
• services performed in New York;
• a business, trade, profession, or occupation carried on in New York;
• their distributive share of New York partnership income or gain;
• their share of New York estate or trust income or gain;
• income they receive related to a business, trade, profession, or occupation previously carried on in New York, including but not limited to covenants not to compete and termination agreements; and
• their pro rata share of New York S corporation income.

[xxxi] NY Tax Law Sec. 612.

[xxxii] NY Tax Law Sec. 631(g).

[xxxiii] 20 NYCRR 132.24(a).

[xxxiv] 20 NYCRR 132.24(c)(3)(iii). The allocation period may span multiple years.

[xxxv] 20 NYCRR 132.24(a).

[xxxvi] IRC Sec. 1031. I’m assuming the like kind exchange will not be removed from the Code. Mr. Biden sought to limit its application to the point it became meaningless. There is no reason to believe a Harris administration would not pick up where its predecessor left off.

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Not So Happy Law

If given their druthers, most transactional corporate attorneys would prefer to spend their day practicing “happy law,” by which they typically mean transactions that involve capital formation, mergers and acquisitions, joint ventures, business restructurings, and other collaborative-type projects in which the parties have clearly delineated goals, there are definite beginning and end points to the project, and the project is expected to be completed within a relatively short time frame.

The odds are pretty good, however, that a transactional lawyer in the so-called “middle market” will, over the course of their career, become involved in several disputes among the shareholders of a closely held corporation.

Continue Reading When A Shareholder Loses Control of Their S Corporation
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Match Made in Heaven

There is no denying that many parts of the Code are complex and, in some cases, too obscure for many “laypersons” to comprehend.[ii] Over time, this reality spawned the need for advisers who are both knowledgeable and experienced in the ways of the Code.[iii]

Yet, even within this group of learned individuals,[iv] there are many for whom certain chapters and subchapters of the Code recall the opening of Dante’s Inferno: “I found myself within a forest dark, For the straightforward pathway had been lost.”[v]

Continue Reading Taxing A Foreigner’s Sale of a Partnership Interest – Déjà Vu All Over Again[i]
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Bon Voyage?

Over the last couple of years, several of my friends have become citizens of the country from which their parents emigrated to the U.S.[i]

Also during that period, some acquaintances took advantage of the so-called “golden visa” programs still being offered by a handful of European Union members.[ii]

A few clients gave up their U.S. citizenship, or their status as permanent residents of the U.S. (green card holders), and paid the resulting exit tax.[iii]

Continue Reading Swapping Foreign Real Properties On a Tax Deferred Basis
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Help Us Forget

Having been swept along for nine days “by the force of the hostile winds on the fishy sea,” Odysseus and his crew came to a strange land. After securing their ships, Odysseus sent some of his “companions ahead, telling them to find out what men . . . might live here in this country.” They came upon the Lotus Eaters, a people “who live upon . . . the honey-sweet fruit of the lotus.”[i] Those crew members who ate of the fruit were left in a state of bliss, forgetting all else, including an urgency to return home to Ithaca.[ii]

Continue Reading Tax Considerations and the Reclassification of Marijuana – We’re Not There Yet
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Almost That Time

In less than four months, the citizens of the United States[i] will be electing their next President to a four-year term.[ii] They will also be deciding which of the two major political parties will “control” the Senate, the House, or both, for at least the next two years.[iii]

In other words, the composition of two of the three branches of the federal government – specifically, those responsible for determining the direction of the country, and perhaps the world – will soon be up for grabs.

Continue Reading The Supreme Court’s Non-Opinion On The “Realization” of Income – A Lost Opportunity?
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Anticipation

You may have heard or even read about the U.S. Supreme Court’s recent decision regarding the date of death value[i] of a deceased shareholder’s shares in a closely held corporation that owned a life insurance policy on the decedent’s life, the proceeds of which the corporation used to redeem the decedent’s shares from their estate.[ii]   

The significance of the decision for the shareholders of many closely held corporations is belied by the brevity of the Court’s opinion and the relative absence of any “technical” analysis.[iii]

Continue Reading Funding the Buyout of a Deceased Shareholder With Corporate-Owned Life Insurance – Did the Court Decide Connelly Correctly?
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Mere Change in Form

It is a basic principle of the income tax that the gain or loss realized by a taxpayer from the conversion of property into cash, or from the exchange of property for other property that differs materially in kind from the exchanged property, is treated as realized income or loss.

Moreover, the general rule with respect to such realized gain or loss is that the entire amount thereof is recognized for purposes of determining the taxpayer’s income tax liability,[i] except in cases where the Code specifically provides otherwise.[ii]

Continue Reading Trust Beneficiary Engages In Like Kind Exchange Using Trust Property