With the rise of remote work and online access to professionals across the country and the world, there has been a significant rise in interstate business operations and practices. But how does that affect your taxes and what do you need to know to stay on track? We can help.
What is an Interstate Business?
Since the beginning of the pandemic, nearly 30% of US employees have been working outside the state or country they reside in. Many are doing this to cut expenses (including commuting and rental accommodations) and to reduce taxes.
Living in one state and working in another causes some interesting tax challenges for employers. These interstate business setups often mean confusion, particularly around income taxes – which state and local taxes must be paid? What are the tax rates in these areas?
Interstate Business Taxes: Examples
Each state’s tax code varies, and some are easier to decipher than others. For example, there are 7 states that have various types of the “convenience of employer” rule: Massachusetts, New York, Arkansas, Connecticut, Delaware, Nebraska, and Pennsylvania.
This rule allows a state to continue to tax employees working out-of-state (anyone who lives in one state and works for a business with an address tied to a different state). For example, if someone is employed by a New York company but lives in Illinois, they are still considered a New York-based employee – it doesn’t matter where your home is that you’re working from, it only matters where the business you work for is located.
Because each state is different, you have to be sure your business is compliant with the tax laws in the state that your business is headquartered in, as well as the state each of your employees is living in and working from. It’s not uncommon, especially for fully remote teams and companies, to have a mix of interstate and international employees on their teams.
California, for example, puts the responsibility on the employer to withhold income tax for both states when a California resident is working for a business in another state. It’s important to note here, however, that if the other state in the situation has a withholding amount that is equal to or greater than California’s, California doesn’t require additional withholding.
This is more like a double taxing of that employee’s income, whereas the “convenience of employer” states are saying that your income only gets taxed by the state in which your employer is located.
Another example of how different states handle interstate business taxes differently can be found in these examples for the state of Minnesota and apply mainly to air carriers (airlines, pilots, flight crew, etc.) If you have employees that live in Iowa, but they fly most often to Minnesota (at a rate that is more than 50% of the total scheduled flight time), you would withhold income tax for both Minnesota and Iowa. But if there are no flight times that are more than that 50%, you would only withhold income tax for the state of residence for that employee.
Interstate Business Taxes – Exemptions
There are, however, some activities and employment situations where states exempt certain transactions and business dealings (not employment or payroll items).
Those exemptions include:
- Mail order and telephone sales when it’s the only type of transaction being done within that state
- National advertising campaigns targeted at customers of a specific state
- Independent contractor sales in that state
- Mediation, arbitration, or court appearances for a company in that state
- Holding bank accounts or debt collection in that state
Keep Your Interstate Information Returns Straight with eFile360
If your business employs people that live in another state, keeping their information returns (like their W-2s) correct is going to be much more difficult than if you had a small, local crew.
eFile360 can not only help you with the filing and distribution of these information returns, but you can also store your forms year-over-year, which means you can look back at your historical filings to create next year’s forms – this will save you time and money for every out-of-state employee you have.
Sign up for a free eFile360 account today to keep all your information returns organized and your interstate business taxes error-free.