Implications of having out-of-state employees
Posted On: 1-8-2016 | Posted By: Katie Barthel, CPA
What business obligations do you have as an employer when one of the following occurs?
- An employee moves out of state.
- An employee works remotely at an out-of-state location.
- You send employees into another state to perform business duties.
These situations are getting increasingly more common in today’s global environment, and you may have more filing obligations than you first thought. This article will provide a basic overview of what items you should consider when you have employees who live or work in more than one state.
Income tax withholding. An employer is expected to withhold state income tax from an employee’s wages any time that employee is subject to an out-of-state income tax. An employee will be subject to an out-of-state income tax if he or she resides within the state or if he or she works within the state on more than just a transient project or contract.
Employment Taxes. Some other payroll taxes include Social Security, Medicare, and unemployment taxes. A business may be required to remit these taxes when (1) an employee is working in that state for more than just a temporary work project, (2) an employee resides in that state, or, (3) an employee travels into that state to solicit business or perform other business duties.
Some states are stricter with what constitutes a “temporary” work project and will impose a withholding requirement on an entity whose employee performs work inside the state for even one day. Other states hold reciprocal agreements where both states agree not to impose a withholding requirement on any employee who works in their state. Missouri, Kansas, Nebraska, and Oklahoma do not hold a standing reciprocal agreement with any other states, but Iowa and Illinois hold reciprocal agreements with each other. As these rules vary wildly, more research will be required when looking into any one state’s requirements.
Income Tax Considerations
A business is liable for any state’s income taxes if it is determined to have nexus in that state. For more information on the concept of nexus, please see the article, Does your business owe taxes in other states?.
But how do the actions of a company’s employees factor into income tax nexus?
Any entity will be subject to another state’s income taxes if its employees or independent contractors work in that state for a longer duration than would be considered de minimis. A de minimis activity is one deemed to be trivial or inconsequential. Employees working remotely typically exceed the de minimis threshold, even if there are no other business connections with the state in which the employee resides.
Most states choose to comply with Public Law 86-272 that restricts a state from imposing income tax if the only business activity is soliciting the sales of tangible personal property under certain circumstances. While this is a loophole for some industries, there are many entities whose activities do not fall under this specific set of circumstances and are therefore subject to income tax merely due to the actions of their employees.
Keep in mind that it is possible for an entity to have a withholding or employment tax filing obligation, but not have an income tax filing obligation in any one state.
Plan of Action
Hire a payroll provider and register with the Department of Labor. If you do not already have a payroll provider, hiring one will ease many of your burdens when you have employees located in more than one state. Payroll providers can ensure your company is compliant with all payroll tax laws, and can even file withholding tax returns on your behalf. The payroll provider will have you register with the Department of Labor to secure your employment tax ID so that they can begin withholding and remitting taxes as your representative.
Hire a registered agent. When you determine that you have a filing obligation but do not have a physical location in another state, you must hire a Registered Agent. Registered Agents are third parties located within the state that you designate to receive correspondence on your behalf. Many states and localities will only send correspondence to an in-state, physical location (P.O. boxes are not accepted), and Registered Agents can handle these notices for your company for a low annual fee.
Register with the Secretary of State. If your employees’ actions create income tax nexus in another state, you must register your business with the Secretary of State. By doing this, you are stating your plans to perform business within that state and agree to comply with all applicable laws and regulations.
Consider entering into Voluntary Disclosure Agreements. If you have had employees working in other states for years and have not been compliant with the state’s tax laws, you may want to consider entering into a Voluntary Disclosure Agreement (VDA) with that taxing jurisdiction. Many states offer VDAs to bring companies into compliance by affording them some sort of incentive in exchange for paying back taxes. These incentives can be a reduction or elimination of non-filing penalties, a limit to the look-back period, or a promise to limit audits to only subsequent tax years.
If you think the actions of your employees place your business at risk for other states’ taxes, contact your WK advisor at (573) 442-6171 or (573) 635-6196.