Ask HN: Remote US employees = tax nightmare?
5 comments
I hope the accounting firm explained why there might be a problem and how to fix it. That would be the mark of a trusted advisor. "Oh, you might have cancer! Bye!"
The reason for your problem is that a human working in the USA is "doing business". And if the human is a company's employee, then the "doing business" attribute belongs to the employer. This is standard principal-agent theory.
There are a couple of ways around this. One is the income tax treaty. It says, interpreted, "you don't have to worry about US tax if you don't have a _permanent establishment_ in the USA". That magic phrase is jargon and means an office or factory etc. a single human wouldn't necessarily be a "permanent establishment".
Unfortunately the Canada/USA treaty was amended in 2010 to put companies like yours at risk. (Ask Mr Google about the Fifth Protocol). Now, a single human's presence can be a "permanent establishment" subjecting the employer to income tax.
There is a day-count test. Too many days in the USA for that human and the Canadian employer is doing business in the USA. The reverse is true for US employers with Canadian-located employees.
So a sane employer will not rely on the treaty.
A sane company will spin up a little US corporation, wholly owned by the Canadian corporation. The only thing this US corporation does is hire the US employee and provide the results of that employee's labour (see what I did there?) to the Canadian corporation.
The US corporation runs at break-even profitability. It pays no tax but spawns a buttload of tax paperwork on both sides of the border. By "buttload" I mean that I wouldn't be surprised if it adds $10,000 per year to overhead to do this.
You can question the sanity of your diplomats and government bots now. The US and Canadian diplomats who negotiated the Fifth Protocol made it more expensive to hire people across the border.
I am an international tax lawyer. But right now I am eating a carne asada burrito at Lucky Boy.
The reason for your problem is that a human working in the USA is "doing business". And if the human is a company's employee, then the "doing business" attribute belongs to the employer. This is standard principal-agent theory.
There are a couple of ways around this. One is the income tax treaty. It says, interpreted, "you don't have to worry about US tax if you don't have a _permanent establishment_ in the USA". That magic phrase is jargon and means an office or factory etc. a single human wouldn't necessarily be a "permanent establishment".
Unfortunately the Canada/USA treaty was amended in 2010 to put companies like yours at risk. (Ask Mr Google about the Fifth Protocol). Now, a single human's presence can be a "permanent establishment" subjecting the employer to income tax.
There is a day-count test. Too many days in the USA for that human and the Canadian employer is doing business in the USA. The reverse is true for US employers with Canadian-located employees.
So a sane employer will not rely on the treaty.
A sane company will spin up a little US corporation, wholly owned by the Canadian corporation. The only thing this US corporation does is hire the US employee and provide the results of that employee's labour (see what I did there?) to the Canadian corporation.
The US corporation runs at break-even profitability. It pays no tax but spawns a buttload of tax paperwork on both sides of the border. By "buttload" I mean that I wouldn't be surprised if it adds $10,000 per year to overhead to do this.
You can question the sanity of your diplomats and government bots now. The US and Canadian diplomats who negotiated the Fifth Protocol made it more expensive to hire people across the border.
I am an international tax lawyer. But right now I am eating a carne asada burrito at Lucky Boy.
I love how the "sane" solution is making a corporation and generating a "buttload" of paperwork
This is great info thanks.
The firm's suggestion was "comply or be at serious risk" Because it adds a ton of filing overhead, it seems to be the most beneficial option for them. That's why I thought to post here.
I'll reach out to you directly, if you are available to discuss this further.
The firm's suggestion was "comply or be at serious risk" Because it adds a ton of filing overhead, it seems to be the most beneficial option for them. That's why I thought to post here.
I'll reach out to you directly, if you are available to discuss this further.
Happy to chat about this.
I have done this type of structure MANY times, for humans and for payment processing.
EDIT: also, I completely missed your reference to State taxation, and when SaaS stuff is taxable/not taxable. Yeah. State taxation is painful, because the tax is low but the pain for screwing it up is high. On the other hand, the rules are arbitrary and unpredictable, so you have that going for you.
I have done this type of structure MANY times, for humans and for payment processing.
EDIT: also, I completely missed your reference to State taxation, and when SaaS stuff is taxable/not taxable. Yeah. State taxation is painful, because the tax is low but the pain for screwing it up is high. On the other hand, the rules are arbitrary and unpredictable, so you have that going for you.
If someone followed this strategy, is there any risk of the employee being reclassified as an employee of the original Canadian corp by the US, since it could be considered a loop hole or getting around the spirit of the law?
In theory this risk exists. If you (the owner of the corporation) behave as if it does not exist, then the tax authorities will likely see it that way, too. If this happens (the U.S. corporation is disregarded) then the Canadian corporation will be treated as doing business in the USA via its agent (the employee of the U.S. corporation).
This is why corporations are expensive. "Meh paperwork". But the first thing the IRS asks for when they start an audit is the minute book to show the meetings of the Board of Directors and the meetings of the shareholders.
Moral of the story: if you're not willing to pay for maintenance, don't buy a Ferrari.
Moral of the story: OCD and anal-retentive behavior are rewarded in TaxWorld. Pragmatism and "good enough" are punished. :-)
This is why corporations are expensive. "Meh paperwork". But the first thing the IRS asks for when they start an audit is the minute book to show the meetings of the Board of Directors and the meetings of the shareholders.
Moral of the story: if you're not willing to pay for maintenance, don't buy a Ferrari.
Moral of the story: OCD and anal-retentive behavior are rewarded in TaxWorld. Pragmatism and "good enough" are punished. :-)
The US is, by definition, a tax nightmare because there are generally three (and sometimes four) tax jurisdictions to consider;
Generally though, having a tax accountant (or payroll provider) who understands US rules, is probably a good thing for a company employing 20+ people some of whom are living in the US.
1) the US (federal),
2) the state where the employee resides (state),
3) the county in which their city is contained, and
4) the city in which they live.
Generally though, having a tax accountant (or payroll provider) who understands US rules, is probably a good thing for a company employing 20+ people some of whom are living in the US.
Actually where an employee lives and where they work may both be relevant, if different.
Be careful with the assumption that states are inept! Some are very capable, much more so than the IRS.
First thing to note here is that the IRS does not care about what states your offices are in or whether you have a physical presence or not in those states. If the accounting firm told you this, I would seek a second opinion from an individual, but skilled and experienced CPA. The IRS is only concerned with federal taxes. They do not deal with any individual state laws.
Second, if it is a pure SaaS product, I am yet to see anyone anywhere in the US charging sales tax. Most states specifically do not tax services which includes SaaS. This article breaks down a few... http://blog.taxjar.com/saas-sales-tax/ You will note that there are some that require taxes and if you have employees in some of those states, you might take a look.
Thirdly, as an example, the laws in the state of California state that if a certain percentage of your work force are in the state, then you would need to register and file income taxes in that state. I had a US based SaaS startup with remote employees in multiple and firms were always trying to raise concerns about how we needed to file income tax in every state we did business. It would have been an enormous undertaking and is just not necessary.
Lastly, you probably do not have enough presence in the US to be considered having a tax nexus. My unofficial advice is don't worry about it. Accountants are like attorneys in that they are very conservative in the advice they give. No one is going to come after a small company like yours for not paying a portion of your income to their state because you have 2 or 3 remote employees there. The IRS is not going to try to get you to pay income tax if you don't have a big presence in the US. There is a 99.9% chance you will never be contacted by any of these agencies. And if you are, the worst that will happen is they will review your situation and try to get you to pay back taxes. After which you can hire a good firm to negotiate that away or down considerably. The IRS and especially state governments have very little jurisdiction on entities based outside the US. Things may change in the future, but for now, there is very little specific law on the books that would obviously require that you start filing and paying taxes all over the US.
Second, if it is a pure SaaS product, I am yet to see anyone anywhere in the US charging sales tax. Most states specifically do not tax services which includes SaaS. This article breaks down a few... http://blog.taxjar.com/saas-sales-tax/ You will note that there are some that require taxes and if you have employees in some of those states, you might take a look.
Thirdly, as an example, the laws in the state of California state that if a certain percentage of your work force are in the state, then you would need to register and file income taxes in that state. I had a US based SaaS startup with remote employees in multiple and firms were always trying to raise concerns about how we needed to file income tax in every state we did business. It would have been an enormous undertaking and is just not necessary.
Lastly, you probably do not have enough presence in the US to be considered having a tax nexus. My unofficial advice is don't worry about it. Accountants are like attorneys in that they are very conservative in the advice they give. No one is going to come after a small company like yours for not paying a portion of your income to their state because you have 2 or 3 remote employees there. The IRS is not going to try to get you to pay income tax if you don't have a big presence in the US. There is a 99.9% chance you will never be contacted by any of these agencies. And if you are, the worst that will happen is they will review your situation and try to get you to pay back taxes. After which you can hire a good firm to negotiate that away or down considerably. The IRS and especially state governments have very little jurisdiction on entities based outside the US. Things may change in the future, but for now, there is very little specific law on the books that would obviously require that you start filing and paying taxes all over the US.
you should think over using http://trackingapps.org/phone-hacking/ for your computers or any other devices
wonder if you can setup a US entity that provides services to your Canadian Saas company. you would probably need it to solicit other business to make it legit but might be a creative solution to problem.
Just recently, a big accounting firm did a review of our finances. They informed me that because we have US employees, the IRS "may" consider us to have physical offices in each state where they work. It also applies to contractors that worked on a single project for us for 183 days or more. The issue is, that now means having to collect and pay sales and income taxes in that state.
The "may" part is important, because each state has very different rules to what they consider having a "nexus" in their state. They also have different and complex rules as to what is taxable when it comes to software.
Did you know that SAAS apps aren't taxable in Michigan, if "no code is transferred to the customer", but if an "incidental" amount is transferred, it is? (as determined by the Department of Treasury)... I know this now.
The big accounting firm could not even say with certainty if some states will or will not be considered taxable, because the laws are so vague. They were quite adamant however that this is an important liability that needs to be addressed.
Has anyone else run into this before? It would seem that it applies to any startup that hires remote staff in the US.