Managing Multistate Withholding When Employees Move Across Borders

Why multistate withholding matters

When an employee moves across state lines — permanently, temporarily, or for remote work — withholding obligations frequently change. Employers who fail to withhold correctly can face tax notices, interest, and penalties from state tax agencies. Employees who are over- or under-withheld may see unexpected tax bills or refund delays at tax time. Staying proactive reduces administrative friction and compliance risk.

In my practice working with employers over the last 15 years, the most common failures I see are: not registering to withhold in a state where employees work; treating remote workers the same as in-office hires; and assuming short-term travel never triggers withholding obligations. The good news: most risks can be managed with clear policies, good payroll software, and a small compliance checklist.

How states decide which wages to tax

States use two main concepts to determine withholding obligations:

• Residency: If the employee is a resident of the state, their worldwide wages are generally subject to that state’s income tax (subject to credits for tax paid to other states). Employers may need to withhold for the employee’s resident state even if the work is performed elsewhere.
• Source (work) location: Many states tax wages earned for services performed within the state. If an employee physically works in State A, State A may require withholding on those wages.

Some states rely on special rules for telecommuters or apply the “convenience of the employer” test (notably New York) to determine whether wages are sourced to the employer’s state when employees work remotely. Always confirm the current rule with the state tax agency because these tests vary by jurisdiction and are actively litigated and updated (see IRS Pub. 15 and state guidance) (IRS, Employer’s Tax Guide; State revenue departments).

Reciprocity agreements and exemptions

Several neighboring states have reciprocity agreements that relieve employers from withholding for the work state when the employee is a resident of the other state (common examples historically include pairs like PA–NJ, MD–DC, and others). Where a reciprocity agreement exists, residents file exemption forms so employers withhold only for the resident state.

Because reciprocity and exemption forms differ by state, employers must collect the correct state-specific exemption form from the employee and retain it in payroll records. For details on agreements and which states participate, consult the applicable state revenue department or the executive summaries on state websites (State tax departments, 2025).

Practical step-by-step employer checklist

1. Update employee location and residency information immediately on notice of move. Require a written update to HR/payroll with effective date.
2. Check state registration requirements. If employees will perform work in a new state, register for withholding and unemployment accounts in that state before the first payroll covering wages earned in-state.
3. Collect state withholding certificates where applicable (many states have their own Form W-4 equivalent or allow a federal W-4 to determine state withholding). Retain signed forms in payroll files.
4. Configure payroll systems to calculate withholding by the employee’s work-state rules and resident-state obligations. Ensure software supports multiple-state withholding and local taxes.
5. Consider temporary assignment policies. Define when a short-term assignment (e.g., under 30 days) triggers withholding, and track days worked by state.
6. Communicate the change to employees in plain language: expected paycheck impact, state filing obligations, and where to find resources.
7. Reconcile and correct quickly. If withholding was missed, voluntarily correct prior payrolls where possible; many states allow amended withholding reports and voluntary deposits to reduce penalties.

Employer registration and payroll configuration

Registering with a state is usually straightforward but often missed. Registration typically requires your federal EIN, business address, NAICS code, and contact information. Once registered you’ll receive a state employer account number and instructions for depositing withheld taxes and filing returns.

Payroll systems should be configured to:

• Track each employee’s primary work location and any multi-state splits (days/hours by state).
• Apply state tax tables or percentage withholding rules for each applicable jurisdiction.
• Handle local taxes (city, county) when required.

If you use a third-party payroll vendor, confirm that they will register, deposit, and file in additional states or expect you to do it. Put those responsibilities in writing in the vendor contract.

Examples (real-world, anonymized)

• Remote worker moves: An employee relocated from Florida (no state income tax) to New Jersey. Even though the employer is in Florida, the employer had to set up New Jersey withholding because the employee became a NJ resident working from home. The employer registered with NJ, collected NJ withholding forms, and adjusted payroll effective the move date.

• Short-term project: A salesperson traveled to State X for a six-week assignment. Because State X taxes wages earned there, the employer withheld State X income tax for wages allocated to the six-week period and withheld the home-state tax where required. The employer tracked days worked and produced a split-year withholding reconciliation.

• Reciprocity case: An employee lives in State A but crosses a border daily into State B that has a reciprocity agreement with State A. The employee completed the appropriate reciprocity exemption form and the employer withheld only for the employee’s resident state.

Common mistakes and how to avoid them

• Assuming the employer’s address dictates withholding. It doesn’t. Use employee work location and residency.
• Waiting until year-end to correct withholding errors. Correct mid-year when possible to reduce penalties and employee hardship.
• Overlooking local taxes (cities, counties, school districts). Local obligations can be material and have different registration rules.
• Ignoring the difference between withholding and filing obligations. Withholding is an employer action; filing is the employee’s responsibility. Employers must, however, furnish accurate W-2s showing state wages and withheld amounts.

Payroll reporting, year-end, and employee refunds

At year-end employers must report wages and state taxes withheld on the employee’s Form W-2 with boxes for state wages and state income tax withheld. If an employee was over-withheld (for example, the employer withheld for a state the employee did not become a resident of), the employee typically claims a refund on that state’s income tax return or requests a refund directly from the state. Employers should assist by issuing corrected W-2c forms if payroll records change after the original W-2 was issued.

Employees who owe tax because state withholding was insufficient may be liable for underpayment penalties; encouraging employees to monitor withholding or make estimated payments can reduce surprises.

Policy and documentation recommendations

• Adopt a written multistate withholding policy that defines trigger events (move, longer than X days in a state), documentation required, and who in HR signs off.
• Maintain an audit trail: move notices, employee residency forms, state exemption certificates, and payroll records showing days/hours worked by state.
• Train HR and payroll staff on state-specific rules and when to escalate to tax counsel.

When to use outside help

If you have employees spread across many states, ambiguous residency situations, or high-value wages, consider engaging a state and local tax (SALT) advisor or using a payroll specialist. Complex tests such as the “convenience of the employer” rule or frequent spillover across borders benefit from counsel to avoid audits and litigation.

Useful resources and citations

• IRS, Employer’s Tax Guide (Publication 15) and federal withholding guidance: https://www.irs.gov/pub/irs-pdf/p15.pdf (IRS, 2025).
• State revenue departments — search the specific state website for withholding and reciprocity guidance. For example, state registration and reciprocity summaries are published on state tax agency sites (State tax departments, 2025).
• Professional resources such as SHRM and employer payroll vendors publish practical how-to guides and checklists (SHRM.org).

For additional reading on related compliance topics, see FinHelp’s articles on handling multistate remote transfers and reciprocal agreements:

• Handling Multistate Withholding for Remote Internal Transfers: https://finhelp.io/glossary/handling-multistate-withholding-for-remote-internal-transfers/
• How State Reciprocal Agreements Affect Multistate Employees: https://finhelp.io/glossary/how-state-reciprocal-agreements-affect-multistate-employees/
• Multistate Nexus: When Remote Work Creates State Tax Obligations: https://finhelp.io/glossary/multistate-nexus-when-remote-work-creates-state-tax-obligations/

Final checklist (quick reference)

• Did the employee notify HR of a move? If yes, update payroll immediately.
• Is the employer registered to withhold in the employee’s resident or work state? If not, register before the next payroll.
• Did the employee complete required state withholding/exemption forms? Collect and file them.
• Is the payroll system calculating by state and tracking days/hours? If not, implement tracking.
• Have you communicated expected paycheck changes to the employee?

Disclaimer

This article provides general information about multistate tax withholding and should not be taken as legal or tax advice for specific situations. Employers and employees with complex facts should consult a qualified tax professional or state tax agency for guidance.