Handling Multistate Withholding for Telecommuting Employees

Quick overview

Remote and hybrid work mean employees can earn wages in a state different from the employer’s home office. That raises multistate withholding obligations: employers may need to register for withholding in one or more states, withhold the correct state (and local) amounts, make timely deposits, and report via state and federal forms.

In my practice as a CPA with 15+ years advising payroll and small-business clients, the most common problems I see are (1) failure to register with the state where an employee lives and works, (2) misunderstanding reciprocity or convenience-of-employer rules, and (3) relying on legacy payroll settings that assume a single withholding state. Addressing these prevents audits, interest, and penalties.

(Author note: This article is educational and not personalized tax advice. Consult a tax professional or the relevant state agency for specific cases.)

Why this matters now

• Remote work permanently expanded the geographic footprint of many employers. States are actively enforcing withholding where wages are sourced.
• Incorrect withholding can produce employer liabilities (unpaid withholding, deposit penalties) and unexpected employee tax bills.
• Some states pursue employers directly for unpaid withheld taxes, even when the employer thought the employee’s resident state applied.

Authoritative resources: see IRS Publication 15 for employer withholding guidance and your state tax agency pages for state-specific rules (IRS, Publication 15: Employer’s Tax Guide, 2025 edition).

Step-by-step employer checklist

1. Capture accurate location data at hire and continuously

• Have employees confirm their work state and home address on onboarding forms and update whenever they move or change work location. Time-stamp changes for audit trails.

1. Determine state withholding requirements

• Check the employee’s work location, residency, and the employer’s nexus in that state. Some states tax where services are performed; others tax based on residence or employer location.
• Verify whether the state has a reciprocity agreement with the employee’s residence state (see our explainer on How State Reciprocal Agreements Affect Multistate Employees).

1. Register before you pay

• If withholding is required, register for a withholding account with that state’s department of revenue or taxation and obtain withholding account IDs.

1. Configure payroll software correctly

• Map employee records to the right state withholding codes. Test pay runs when an employee’s state changes.

1. Withhold, deposit, and report on schedule

• Follow deposit schedules and quarterly/annual filing rules in each state. See IRS Publication 15 for federal deposit timing and your state guidance for state deposit schedules.

1. Maintain documentation

• Keep W-4s (or state equivalents), signed remote-work policies, and logs showing days worked in each state.

Common rules and sticky points

• Reciprocity agreements: Several states (notably PA, MD, DC, etc.) allow residents to request exemption from nonresident withholding when the employer is in a reciprocal state. Always get a signed reciprocity exemption form from the employee and keep it on file.
• Convenience-of-employer rules: A handful of states (e.g., New York and a few others) apply a “convenience of the employer” sourcing test, where income for remote work remains taxable to the employer’s state unless the out-of-state work is required by the employer. This rule can make an employee’s wages taxable to the employer’s state even if the employee never sets foot there—so verify state guidance carefully.
• Nexus vs. withholding: Even without corporate income tax nexus, payroll withholding obligations can arise once you have employees working in the state.

Practical examples

Example 1 — Employee moves from NY office to Texas (remote)

• Texas has no personal income tax. But if the employee continues to perform duties for a New York employer and New York’s sourcing rules (including convenience-of-employer) apply, New York withholding may still be required. Confirm with NY guidance and consider whether the employer’s state sees the work as New York sourced.

Example 2 — Reciprocal states

• A resident of Pennsylvania who works remotely for an employer located in neighboring Maryland may be able to avoid Maryland withholding by completing the appropriate reciprocity exemption form (employee keeps Pennsylvania tax withheld instead). Keep the exemption form in the payroll file.

How to fix withholding mistakes

• Stop-gap: If you discover you failed to register or withhold for a state, register immediately and determine the unpaid withholding and deposits. Some states allow voluntary disclosure programs or penalty abatement for prompt corrective action.
• Employee-facing fixes: If withholding was wrong for prior pay periods, correct wages and withholdings on the next payroll where possible. For federal corrections and W‑2 changes, use Form W‑2c and consult our guide on Correcting Wages or Withholding with Form 1040-X and W-2c.
• Appeals and abatement: If penalties have been assessed, follow the state’s appeal process and document your corrective measures. Many states will consider good-faith corrections when assessing penalties.

Technology and process recommendations

• Use payroll systems that support multi-state withholding with per-employee state rules and auto-registration reminders.
• Automate location tracking (e.g., an HRIS that records remote-work days) but confirm accuracy—don’t rely solely on IP/geolocation for tax sourcing evidence.
• Institute an internal compliance calendar for registration, deposit deadlines, and state filing dates. See our primer on Payroll Tax Deposits: Rules, Frequencies, and Common Mistakes.

Local taxes and municipal withholding

Don’t forget municipal or local income taxes (e.g., many Ohio and Pennsylvania localities): an employee’s home or work municipality may require separate withholding and registration.

Recordkeeping and audit readiness

Keep at least 4–7 years of records for payroll, withholding registrations, employee-reported residence/work locations, payroll runs, and signed exemption forms. States commonly audit payroll records to assess unwithheld taxes and can pursue employers for unpaid amounts.

FAQs employers ask

• Who decides residency? States set residency definitions; employers should rely on employee-provided residency declarations combined with business facts (e.g., where the work is performed).
• Can I just withhold for the employee’s home state and be done? Not always—some states require withholding based on where the services are performed, regardless of residence.
• Should I treat remote days differently than in-office days? Yes—track days worked in each state and apply sourcing rules accordingly.

Common mistakes to avoid

• Assuming a single-state rule for all remote employees.
• Not updating payroll settings after an employee move.
• Failing to collect or retain reciprocity or exemption forms.
• Ignoring local/municipal tax obligations.

Resources and references

• IRS Publication 15 (Employer’s Tax Guide): https://www.irs.gov/publications/p15 (useful for deposit schedules and federal withholding basics).
• State tax agency guidance: check the department of revenue for each state where employees work or live.
• FinHelp resources: see our articles on State Tax Withholding, How State Reciprocal Agreements Affect Multistate Employees, and Correcting Wages or Withholding with Form 1040-X and W-2c.

Final practical checklist (for HR/payroll teams)

• Collect and document employee work and home addresses at hire and after any move.
• Verify whether each employee’s pay is subject to withholding in the employer’s state, the employee’s resident state, or both.
• Register with state withholding agencies as required before processing pay.
• Configure payroll software and validate with a test run.
• Retain all exemption/reciprocity forms and remote-work declarations.
• Run periodic internal audits of withholding for remote employees.

Professional disclaimer: This article is educational and does not constitute tax or legal advice. Employers should consult a qualified tax professional or the relevant state tax authority to determine specific withholding obligations. Author: CPA with 15+ years advising employers on payroll and multistate tax compliance.