Remote work has created a new layer of state tax complexity for small businesses. When you hire an employee who works from another state, that state typically claims the right to tax the income earned there—and may require your business to register, withhold state income taxes, and pay state unemployment taxes in that state.
Payroll Withholding
If your employee works from their home state, you generally must register for payroll tax withholding in that state and withhold the applicable state income tax from their wages. This means registering as a foreign entity doing business in that state, obtaining an employer ID, and remitting withholding on the state's schedule.
Income Tax Nexus
Having an employee work from another state typically creates income tax nexus in that state for your business—meaning your business may now owe income or franchise taxes in that state based on the portion of its activities there. The rules vary by state; some are aggressive and others are more permissive about "doing business" definitions.
Key Takeaways
- Each remote employee in a new state typically creates payroll withholding and potentially income tax nexus obligations.
- Register in each state where you have employees before the first payroll in that state.
- Some states have "convenience of the employer" rules that are particularly aggressive about out-of-state income—consult a multi-state tax specialist.
