If your business has more than one employee, you must comply with federal, state, and local employer payroll tax laws.
Local payroll taxes 101
This article focuses on local payroll taxes, including the types of taxes that can be considered local payroll taxes and which states contain localities that impose local payroll tax requirements on businesses and employees.
What are employer payroll taxes?
Payroll taxes are the taxes that employers and employees pay on salaries, wages, and tips. Most employees have payroll taxes withheld on their paychecks. The taxes are then deducted and paid to the government by their employer.
Employer payroll taxes include federal and state and local income taxes and Social Security and Medicare taxes (including unemployment taxes).
What’s the difference between federal payroll taxes vs. state and local payroll taxes?
- Federal payroll tax: Covers Social Security and Medicare contributions (required by the Federal Insurance Contributions Act or FICA) based on a percentage of the employee’s pay. These taxes are marked on pay stubs as MedFICA and FICA. Federal income tax is also withheld on employee paychecks and paid to the U.S. Treasury. Employers must also pay Federal Unemployment Tax to the government.
- State and local payroll tax: State payroll tax includes state income tax (paid by the employee) and unemployment taxes paid by the employer (although some states require employees to also contribute). Local payroll taxes depend on where your employees live and/or work (although most local governments don’t use the term “payroll taxes” for these deductions).
What is a local payroll tax?
Payroll taxes refer to taxes that are withheld from an employee’s wages by an employer. (In some cases, local payroll taxes directly apply to the employers themselves.) Generally, an employer must register with a local jurisdiction where they are doing business and withhold taxes from any employees that are working there then remit the withheld wages to the jurisdiction via tax returns or license renewals. In some states, employers must withhold taxes from employees living and/or working in a local jurisdiction even if the business itself has no other presence there.
How are local payroll taxes levied?
Local payroll taxes are levied by cities and counties, with the tax jurisdiction coinciding with the borders of that municipality or county. In some cases, however, a tax jurisdiction might be a school district or a district created specifically for taxation purposes. In these situations, the taxing jurisdiction might extend past local governmental borders to encompass multiple cities, towns, counties, etc.
It is also worth noting that while local tax jurisdictions are usually the determining factor of who owes a tax and what the rate of the tax owed is, they are not always the entities that collect the tax or register a business for tax purposes. Many local payroll taxes are managed and collected by third-party tax collection organizations (like Berkheimer and Keystone Collections in Pennsylvania and RITA in Ohio), or handled through a central online tax portal (like FileLocal in Washington) or even by the states themselves (typically through the state’s Revenue Department).
Types of local payroll taxes
As an employer, you must comply with many different types of local payroll taxes. These vary based on where your employees work and/or live.
- Earned income tax (EIT): Earned income tax (EIT) is a tax imposed by a jurisdiction on the gross (pre-tax) income earned by a business and/or any of its employees who are residents of the jurisdiction. A percentage of wages are withheld from resident employees’ paychecks and remitted to the jurisdiction via tax returns which are usually monthly or quarterly. This tax is sometimes referred to as residence tax.
States with localities levying EIT: Delaware, Indiana, Michigan, Missouri, New Jersey, Ohio, Pennsylvania, Virginia
- Occupational tax: Like earned income tax, occupational tax (or business and occupational tax – B&O) is a tax imposed by a jurisdiction on an employee's wages earned within the jurisdiction. Unlike earned income tax, B&O taxes are typically levied on wages from employees who are performing sales or services within the jurisdiction, not simply residing there. This tax can sometimes be called occupational privilege tax or workplace tax.
States with localities levying B&O tax: Colorado, Kentucky, Louisiana, Ohio, West Virginia
- Local services tax: Also known as LST, a local services tax is owed by all individuals who hold a job or profession within a taxing jurisdiction imposing the tax. Employers are often required to register, withhold, and remit the tax on behalf of their employees. Unlike wage taxes, local services taxes are typically a flat dollar amount tax determined by the taxing jurisdiction, often due on a quarterly basis.
States with localities levying LST: Pennsylvania
- School district tax: Local school district (LSD or SD) taxes are in most ways like earned income taxes. They are imposed on residents of a jurisdiction and are based on income — but they are specifically earmarked for the benefit of school districts, and these districts make up the taxing jurisdiction. While many states require taxes for school districts in general, the chart included in this article only references those with localities that require a business to withhold SD taxes on an employee’s behalf.
States with localities levying LSD Tax: Ohio, Pennsylvania
- Transit/metro/commuter tax: Certain jurisdictions, usually larger cities, might impose taxes that benefit the commuter infrastructure of their city. Again, similar to EIT, these taxes are usually imposed on the wages of residents of the cities and their surrounding areas and are often withheld by employers.
States with localities levying transit/metro/commuter tax: New York, Oregon
- Other payroll taxes: There may be instances in which a payroll tax is imposed by a jurisdiction for purposes specific to their area or municipality. One example is the Eugene (Oregon) Community Safety Payroll Tax.
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