If your morning commute takes you from kitchen to couch, consider it a win. After all, what could be better than skipping roadway hassles and diving straight into your workday? It took years to convince your employer that you'd make an ideal telecommuter. Now you are enjoying the fruits of your labor, a perfect blend of working at home and traveling to consult with clients in other states.
It's all going according to plan — until tax time arrives. Suddenly, you're faced with paying taxes in your state of residence and the states in which you work. Or are you? The Internet of Everything is abuzz with questionable tax advice for people working in one state and living in another, including a few dubious suggestions that you're pretty sure could land you in hot water.
To make matters more complicated, the rules and regulations covering personal income tax vary from state to state. If you commute across state lines to get the job done, it can have specific and surprising consequences on your personal income taxes. These 10 tax tips can help you navigate the way.
10: Residency, Non-residency and Your State Taxes
If you're living and working in two different states, you'll need a firm understanding of key tax-related definitions. The distinctions between residency and non-residency — and, more importantly, how they affect your taxes — vary from state to state. You'll want to investigate the tax rules and regulations that apply to the states in which you live and work.
It may seem obvious, but it's worth mentioning that the state in which you reside is considered your state of residency. In general, you'll pay state taxes on all the personal income you earn in your home state (unless you live in a state without personal income taxation).
If you work in a state but don't live there, you are considered a non-resident of that state. You will probably be required to pay taxes on any income you earn there, too. Some states have an earned-dollar threshold that must be met; others have a time threshold. In Massachusetts, for example, non-residents are required to file state taxes if the income they earn in the state exceeds $8,000 or reaches a certain portion of their overall income. In Kansas, non-residents are subject to tax withholding from the first day they travel to the state for work [source: Massachusetts Department of Revenue].
9: Know the "First Day" Rule
A blast of chilled air finds its way into the jet bridge, offering a greeting as bracing as it is refreshing. You deplane and check emails on your smartphone while walking through the Denver International Airport. It may not look like you're clocked in, but you are mentally preparing for a business meeting. And even though you don't live in Colorado, today you'll be part of its workforce — if only for about 24 hours.
You may not realize it right now, but you'll soon join Coloradans in paying income tax, too. That's because Colorado, like nearly two dozen other states in America, operates under a "first day" rule. This means non-resident workers will owe Colorado state taxes even if their work there is temporary. Once you set foot on "first day" soil for work, you'll pay the price come April 15.
In addition to Colorado, there are "first day" personal income tax regulations in Alabama, Arkansas, Connecticut, Delaware, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maryland, Massachusetts, Michigan, Minnesota, Mississippi, Missouri, Montana, Nebraska, North Carolina, Ohio, Pennsylvania and Vermont. If you travel for work, it's a good idea to brush up on state tax code or consult a knowledgeable tax professional [source: Povich].
8: Understand the State Waiting Period
There are great variations among states when it comes to requiring non-residents to pay taxes. In addition to the "first day" rule, a tax regulation that requires temporary workers to pay taxes on income earned while in those states, some states have a waiting period. This waiting period allows non-residents to earn income in the state for a specific period of time before subjecting that income to taxation.
For example, in some states, you can be a non-resident who works in-state for 10 to 60 days (it varies by state) before becoming liable for non-resident income tax. Alternatively, a handful of states have earned income thresholds instead of waiting periods. In these states, you could earn anywhere from $300 to $1,800 a year before becoming subject to state income taxes [source: Povich].
There are seven states, as well as Washington, D.C., in which personal income tax is not withheld for residents or non-residents. Despite this lack of income tax, you may still need to file a tax return in those states if you live or temporarily work there. Read the next page to discover which states are tax-free and why you still need to claim income you earn there.
7: Working in a Tax-free State Is Still Taxing
There are seven U.S. states that do not withhold income tax: Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming. Two other states — New Hampshire and Tennessee — tax interest and dividend income, but not earnings [source: Dzombak].
Still, that doesn't mean you won't pay taxes on the income you earn while working in these nine states. If you work in one or more of these income tax-free states — but live in a state that does withhold income tax — you'll still need to pay taxes on the money you earned in the tax-free state. You'll claim these earnings on the tax return you file in your resident state.
For example, Lois lives in New Mexico but earned an income of $25,000 while working in Texas. Lois won't owe any personal income taxes in Texas, because Texas is one of the nine states in the U.S. that doesn't require its workers to pay personal income tax. However, because Lois lives in New Mexico — and New Mexico is a state that withholds personal income tax — she will need to report her Texas income on the taxes she files in New Mexico [source: IRS].
6: State Income Tax Isn't the Same as Federal
When it comes to paying personal income tax, it's rarely as simple as "one and done." Especially for people who live in one state and work in another.
Don't fall into the trap of thinking that if you file federal taxes, you've covered all the bases. State income taxes follow entirely different rules and regulations. What's more, these rules and regulations vary by state. People who live in one state and work in another could find themselves filing tax returns in multiple states. In fact, there are accounts of road warriors who work in as many as 20 or 30 states, each with different rules for reporting income for taxes [sources: U.S. Tax Center, Povich].
This presents a significant record-keeping problem ... not only for workers, but also for the companies that employ them. As a result, some multi-state companies, as well as tax professionals, are turning to software developers for programs that can track interstate taxation among employees. However, the complexities — and ever-changing nature of the tax code — make it a monumental task.
For example, some regulations tax non-resident workers who enter the state for one day, which poses issues for workers who might do business on a smartphone during a lengthy layover or attend a conference at which work is discussed [source: Povich].
More Tax Tips for People Living and Working in Different States
5: Research Reciprocal Agreements
Although tax rules and regulations vary from state to state, some states have attempted to ease the burden on people who live in one state and work in other states. This is particularly true of states that border one another, such as Iowa and Illinois. In these states, for example, someone who works in Iowa but lives in Illinois does not have to pay Iowa income tax. Instead, the worker will only pay income tax in the state in which he or she lives — in this case, Illinois. This is known as a reciprocal agreement.
Not only do reciprocal agreements simplify the tax process (you'll only file in one state instead of two), some reciprocal agreements actually exempt workers from paying income taxes on wages earned in a nonresident state. States with reciprocal agreements include Illinois, Indiana, Iowa, Kentucky, Maryland, Michigan, Minnesota, Montana, New Jersey, North Dakota, Ohio, Pennsylvania, Virginia, West Virginia and Wisconsin. Most reciprocal agreements apply only to neighboring states.
There are a couple of important exceptions worth noting. The District of Columbia allows residents of any U.S. state an exemption from D.C. income taxes, although they still must file in their home states. Other multi-state regions aren't quite as accommodating. In fact, some would even argue that three states in particular are overtaxing workers. Find out which ones on the next page [source: Moreno].
4: Taxation in the New York Tri-state Area
There are a number of states with reciprocal agreements that make exceptions for people who work in one state and live in a neighboring state. In short, these workers only pay taxes in their home state rather than having to file and pay taxes in both states.
New York, Connecticut and New Jersey, however, are a clear exception to the reciprocity rule. These three states do not have a reciprocal agreement, despite the fact that many workers commute from one of the three states to another. This means that if you live in Connecticut and commute to New York for work, you'll need to pay taxes in Connecticut and then pay them again in New York.
There is a bit of silver lining, though. Most residents who live and work in states where there are not reciprocal agreements, and where they have to pay taxes as a resident and a non-resident, can take advantage of a tax credit on one return for taxes paid on another. For more specific information about how to file dual state tax returns, continue reading on the next page [source: Pinho].
3: File in the Right Order
Most people filing a state tax return only need to do so in a single state. For those who live in one state and work in another, the process is a bit more complicated.
There's a specific order in which you'll need to file multiple state tax returns. First, you'll file in the non-resident state or states in which you've earned income. For example, if you were not a resident of Missouri, but worked there for three months as a contractor, you'll need to submit your tax return to Missouri before submitting one to your home state. Keep in mind, you'll only need to do a tax return in your home state if it levies income tax against its residents.
The reason for filing in the non-resident state first is to determine the amount of credit or deduction you can claim for taxes already paid in other states before completing your resident or "home" state taxes. Even if you don't owe taxes in your home state — perhaps your only income for the tax year was earned in another state — you may still need to file a state tax return to get a refund [source: Caplinger].
2: Telecommuting Complications
For many years, Sarah worked and lived in New Mexico, the same state in which her employer was located. Then she and her family moved to Colorado, where she continued to work for her employer.
So what's the problem? The solution is simple enough, right? Sarah will need to file taxes in the state in which she lives and works: Colorado. Of the 41 states that tax personal income, 36 of those states have a physical presence rule, and Colorado is one of them. In short, this means Sarah's wages will be taxed where the work is done.
If Sarah lived in one of the five states that does not follow the physical presence rule, she'd have different rules to follow. The wages she earned would be taxable in the state where she lives and the state where her employer is located.
There are a couple of exemptions, including an exemption for work that could only be performed out of state. An employee who works in sales and covers an out-of-state sales territory is a good example of this exemption. However, because Sarah works in data entry, she telecommutes for convenience, not necessity. She'll pay taxes in both states [source: Kreisman].
1: Corporate Tax Implications
Telecommuting from another state may not pose a problem for you, but it could for your employer. When a telecommuter works for an employer in another state, the employer establishes nexus, or a business presence, in the telecommuter's state. And this can have tax consequences. The employer may need to file a corporate income tax return in the state in which their employee is working [source: Kreisman].
In general, these corporate tax implications have little to do with your personal income tax. Although you could get some blowback from an employer who is reticent to spread its corporate reach to another state for just one employee, there's not much to worry about from an individual standpoint, aside from being phased out. The truth is, the location of your employer's corporate offices has nothing to do with your tax responsibility. You'll pay taxes in the state or states where you work, as long as they tax personal income.
If, however, your employer mistakenly withholds tax in the state in which it is headquartered, you'll want to voluntarily file a return in that state. That way, you can get any refund you are due [source: Moreno].
Last editorial update on Jan 15, 2019 12:11:04 pm.
Many Americans don't think about their tax bills until the new year. But there are things you need to do before Dec. 31 if you want to pay less later.
Author's Note: 10 Tax Tips for People Working and Living in Different States
On one hand, it seems pretty simple. If you work in a state that taxes personal earnings, you'll need to file a return in that state. On the other hand, the specifics can seem contradictory and confusing -- a patchwork of regulations and rules. And, like most tax regulations, the rules are different for employees than they are for contractors. Consulting a tax professional may be your best bet.
Related Articles and Resources
- Caplinger, Dan. "Three Reasons You May Have to File Tax Returns in Multiple States." Daily Finance. April 8, 2014. (Nov. 13, 2014) http://www.dailyfinance.com/2014/04/08/filing-tax-returns-multiple-states/
- Dzombak, Dan. "These States Have No Income Tax." USA Today. April 26, 2014. (Nov. 6, 2014) http://www.usatoday.com/story/money/personalfinance/2014/04/26/these-states-have-no-income-tax/8116161/
- IRS. "Five Misconceptions About Your State Tax Refund Status." March 3, 2014. (Nov. 6, 2014) http://www.irs.com/articles/misconceptions-about-state-tax-refund-status
- Kreisman, Bruce. "State Tax Consequences of Telecommuting." KOS. Jan. 4, 2014. (Nov. 6, 2014) http://www.koscpa.com/newsletter-article/state-tax-consequences-telecommuting/
- Massachusetts Department of Revenue. "Frequently Asked Questions Nonresidents and Part-Year Residents." (Nov. 6, 2014) http://www.mass.gov/dor/individuals/filing-and-payment-information/personal-income-tax-faqs/nonresidents-and-part-year-residents-faqs.html
- Moreno, Tonya. "Reciprocal Agreements: States that Do Not Tax Certain Out of State Workers." (Nov. 6, 2014) http://taxes.about.com/od/statetaxes/a/reciprocal-agreements.htm
- Pinho, Rute. "State Income Taxes on Income Sourced to Other Jurisdictions." OLR. Aug. 30, 2012. (Nov. 6, 2014) http://www.cga.ct.gov/2012/rpt/2012-R-0397.htm
- Povich, Elaine. "'Road Warrior' State Income Tax Laws Vary Widely." The Pew Charitable Trusts. Dec. 12, 2013. (Nov. 6, 2014) http://www.pewtrusts.org/en/research-and-analysis/blogs/stateline/2013/12/12/road-warrior-state-income-tax-laws-vary-widely