Employer State Income Tax Withholding with Today’s Mobile Workforce
Even in the day of teleconferences and electronic interaction, face-to-face communication with business contacts is inevitable. This in-person touch often requires employees to venture outside their home state, thereby earning a portion of their salary/wages in the state where they are present. For example, sending a sales rep to visit an out-of-state customer, or a technician to repair a defective product in another state, or executives to investigate a new partnership could all result in your employees earning income outside their home state. Yet, many employers fail to understand their obligation to withhold the other state’s income tax from the employee’s income earned outside their home state. Additionally, traveling employees may raise municipal income tax withholding obligations, even if merely traveling to different cities within the employee’s home state.
Generally, an employee will earn out-of-state income from working even one day in another state and this may trigger an obligation for the employer to withhold that state’s income tax. However, there are two safe harbors that employers must be aware of. First, several states have entered into reciprocal agreements exempting employers in neighboring states from withholding taxes of its employees earning income in the neighboring state. For instance, Ohio has entered into reciprocal agreements with its five border states – Indiana, Kentucky, Michigan, Pennsylvania and West Virginia. These agreements provide that Ohio businesses sending employees into the border state are not required to withhold the other state’s income tax on the compensation paid therefor, and vice versa. See Ohio Department of Taxation, FAQs – Employer Withholding. (Click here to view Ohio’s Reciprocal Agreements). However, this does not protect an Ohio business that sends an employee into a non-border state.
Second, several states have a de minimis exception providing a minimum threshold before the state’s income taxes must be withheld from non-residents working in the state. These exceptions can be in terms of a minimum amount of income earned in the state or a minimum number of days spent working in the state. Recognizing the benefits of a uniform standard, the Multistate Tax Commission (MTC) recently approved a Model Mobile Workforce Statute which exempts an employer from withholding state income taxes if the employee works less than 20 days in the state, subject to certain exceptions (including requiring withholding from “key employees” in all cases). It is expected that more states will take the MTC’s lead and provide a safe harbor for employer withholding taxes. Additionally, The Mobile Workforce State Income Tax Simplification Act of 2011 (H.R. 1864), currently pending before Congress, would provide a national standard that would limit state and local taxation of compensation to (1) the employee’s residence and (2) any state or locality in which the employee physically worked for more than 30 days during the year. The AICPA is supporting this effort to establish a uniform national standard.
Such laws cwill ertainly ease the employers compliance issues of withholding income taxes from traveling employees. Whether a large contingent of states adopt a minimum threshold like that contained in the MTC’s model statute or Congress sets a minimum national standard for state income tax withholding, employers will certainly welcome the uniformity and administrative convenience. Nonetheless, as states have differing standards, and several do not have any safe harbor, employers must be cognizant of where their employees are earning income and properly withhold taxes when income is earned outside the employees home state, as well as what exemptions are available.
Additionally, an employee’s physical presence, depending on the extent and frequency, will likely create other state tax obligations, such as sales tax collection obligations or corporate income/franchise tax liability. Please contact us if you need help determining your state employer withholding tax requirements and whether the temporary presence of employees creates additional state tax obligations that can be minimized or even avoided.