Employers in states with an income tax have state (and sometimes local) payroll tax withholding, payment and reporting obligations. Multistate employment withholding may be governed by reciprocal agreements between states. In addition, several states have mandated disability programs which impose payroll tax responsibilities on employers.
In addition to your numerous employer federal payroll tax responsibilities for your employees, if you do business in a state that imposes a personal income tax, you can add the requirement of withholding state taxes from employees' wages to your payroll tax responsibilities.
The majority of states impose a personal income tax. The states that do not impose a personal income tax are:
- New Hampshire*
- South Dakota
(* New Hampshire and Tennessee do impose a tax, but on dividend and interest income only.)
Every other state has a personal income tax which therefore requires employers to withhold the tax from employees' wages.
How do you fulfill your state payroll tax responsibilities? Most states allow employers to use methods that are similar to those used for federal tax purposes in determining their state income tax withholding amounts. Most states have their own exemption certificate form that, for state withholding purposes, serves the equivalent function of the federal Form W-4.
Tools to Use
In the Business Tools area are state W-4 forms that you can use to collect withholding from your employees.
In some states there are cities, counties, and other local governmental units that impose their own income tax. If you do business in one of these localities, you may very well have an additional income tax withholding obligation. In addition to local income taxes, you may also find yourself paying local taxes measured by your total payroll (payroll expense taxes) or withholding local occupational fees from your employees' wages.
Consult our income tax withholding obligations by state map to learn about your state's requirements for employers.
Payroll tax obligations for multistate employment
If you do business in only one state and all of your employees are residents of that state, your state income tax withholding obligations will be relatively straightforward. Complexities can arise when your operations expand beyond the borders of a single state. You may have to withhold taxes for several states, depending on the employees' states of residence and the location of their workplaces.
Let's assume you have a Utah office where you employ six Utah residents. You also have a second office in New Mexico, where you employ three New Mexico residents. Your employees never leave their state of residence to work in the other, out-of-state office.
You would have to withhold Utah income taxes from the wages of your six Utah employees and New Mexico income taxes from the wages of your three New Mexico employees. You would have separate withholding obligations in each state.
A more difficult situation arises when you send your employees to other states to perform services or employ residents of other states at a single in-state site.
Assume that you have just a Utah office where you employ six Utah residents. You regularly send three of the employees into New Mexico to perform services on your behalf. Must you withhold New Mexico income taxes from any of the wages you pay those three employees?
Or, assume instead that four Utah residents and three New Mexico residents comprise the employees at your Utah office. Must you withhold New Mexico income taxes from any of the wages you pay the three New Mexico residents if they only perform services for you in Utah? How about Utah taxes? What if they're the employees you send when there's work to be done in New Mexico or you allow them to occasionally telecommute from their New Mexico homes?
These are just a sampling of the types of questions you could face. Unfortunately, they also represent the types of questions that even the most experienced tax professionals cannot always easily answer.
Before you can conclude whether you have a state income tax withholding obligation with respect to a given employee, you'll need to understand the rules of both the states where you're doing business and the states whose residents you're employing.
If you have any doubts as to the proper conclusion, seek the advice of your accountant or other tax professional.
If your withholding obligations involve more than one state, the following are some general points to keep in mind:
Some states have reciprocal agreements
Usually under these types of agreements, state A agrees that it won't require state A employers to withhold its income tax from wages paid to residents of state B, and state B reciprocally agrees that it won't require state B employers to withhold its income tax from wages paid to residents of state A.
So, if you do hire employees who are residents of other states, a good first step is to confirm whether your state has any reciprocal agreements in effect with those other states and, if so, whether the agreement relieves you of any withholding obligations. Our state income tax map includes information about the reciprocal agreements in force in each state.
Employees must be subject to state income tax for withholding to apply
Because withheld taxes are taxes the employees personally owe, you won't have to withhold a state's income tax on a given employee's wages unless the employee's income is subject to the state's tax. This usually requires that the employee be a resident of the state, or be a nonresident who derives income from sources in the state.
De Minimus Services May Be Exempt. Generally speaking, merely performing de minimus services in a state as an employee will not alone cause the employee to be subject to the state's income tax if the employee's principal place of employment is outside the state.
Bear in mind that not all states have a de minimus exception and that the time period will vary dramatically from state to state. For example, Connecticut has a 14-day period, but other states permit 30 or more days of work.
Taxing powers reach only as far as state's borders
Unless you and your business establish some kind of physical presence in a state, the state probably can't force you to withhold its income taxes. Common examples of the types of activities that can be considered a physical presence include maintaining an office, store, or other business facility in the state; having employees in the state who regularly perform services, make sales, or otherwise do business on your behalf; and owning or leasing any property that is located in the state.
Withholding for state disability insurance taxes
If you run your business in one of the few states where state-mandated temporary disability insurance programs are operated for the benefit of workers in the state, you most likely will have to add a duty to withhold and/or pay taxes that fund the state's program to your payroll tax obligations.
The jurisdictions where you may have to collect or pay disability insurance taxes are:
- New Jersey
- New York
- Puerto Rico
- Rhode Island
Consult our disability insurance tax withholding by state map to learn about your state's requirements for employers.