Compliance Requirements for Hiring Remote Employees in Other States

Hiring remote workers as part of your team comes with a lot of advantages for both employers and employees. Employers who hire remote workers get access to a much larger pool of qualified employees than those who require in-person work. Instead of attracting applicants who live near your workplace, you can pick your hires from across the country, or even internationally.  Studies have shown that employees who work remotely are more satisfied with their work situation and more productive than in-office workers. And employers save money by not having to maintain expensive office space.

But while hiring and managing out-of-state workers can be beneficial, employers who do so may face challenges in remaining compliant with federal, state, and local regulations. Rules pertaining to remote employees vary significantly from state to state, and understanding how they apply to your business isn’t always easy.

Many employers find that handling payroll taxes is particularly challenging, as different states can have very different tax regulations. We’ll take a good look at that topic, but first let’s discuss the issue of potentially having to register your business in another state.

Registering Your Business in Another State

Hiring remote staff in another state may require you to register your business there. Requirements vary, but most states consider a company to be “conducting business” if it has employees who work in the state. So, if you have a Limited Liability Company (LLC) that’s registered in Colorado, and you hire remote employees who live in Wyoming, Kansas, and Nebraska, you may have to apply for foreign qualification to get your LLC registered in those states, as well.

Foreign qualification is the process of applying to do business in a state other than the one in which your company is based. You’ll make your application with the Secretary of State or comparable agency, a process similar to filing Articles of Organization or Articles of Incorporation in your home state. Once approved, you’ll receive a Certificate or Authority to Transact Business or similar document.

You’ll also need to find a registered agent in the state where you foreign qualify, as many state agencies will only send documents to a physical address within the state.

Payroll Taxes for Out-of-State Employees

Paying employees in more than one state can be confusing, as each state has its own laws and regulations. If you have one or more employees in a certain state, your company probably is considered to have nexus there. Nexus, in this context, implies a degree of connectedness between a business and a state that requires the business to collect and/or pay taxes there.

 A business is generally considered to have nexus with a state if it has a physical presence there, such as a store or warehouse; has employees working there; or generates a certain level of economic activity or income there, with or without a physical presence. Nexus can sometimes be difficult to determine, as there’s no agreed-upon definition that’s common to every state and rules regarding nexus tend to change frequently.

If you have, or are planning to hire employees in another state, you most likely will need to register, collect, and submit payroll taxes. You’ll need tax accounts in every state in which you have employees, and you must follow state tax rates and regulations when calculating withholdings for employees.

As a review, payroll taxes, sometimes called employment taxes, are federal and state taxes that employers are required to deposit and report on behalf of their employees. Employers withhold money from employees’ paychecks to cover federal, and when applicable, state and local income taxes.

Individuals who live in one state and work in another might owe state income tax in both states, although some states have reciprocal agreements allowing residents to only pay income tax to the state in which they live—not the one where they work.

An employee who lives in Michigan, for instance, would not have to pay income tax to more than one state if the company they work for is located in: Wisconsin, Indiana, Kentucky, Illinois, Ohio, or Minnesota. If the company they work for is located in any other state, however, the employee would have to pay income tax to both Michigan and that other state, assuming it imposes state income tax.

Your employee will have to request a withholding exemption or non-residency certificate from their state’s tax agency. Once the form has been completed and submitted to you, the employee will be excused from tax withholding in the state where your business is located.

If you must deposit and report state income tax on behalf of an out-of-state employee, you’ll need to apply for a State Tax Identification number, which is the state equivalent to an Employer Identification Number.

In addition to income tax, payroll taxes include the employees’ and employer’s shares of Social Security and Medicare taxes, also known as FICA taxes, and federal unemployment taxes, known as FUTA taxes and paid by the employer. Created by the Federal Unemployment Tax Act, FUTA taxes are paid to states to help workers who have lost their jobs. Many states collect an additional unemployment tax from employers under the State Unemployment Tax Act (SUTA). If your employee lives in one of those states, you’ll need to register for a State Unemployment Tax Act account with their state.

Remaining Compliant with State Labor Laws

Along with tax laws, you’ll need to consider the labor and employment laws of each state where you have employees. These laws cover workers’ compensation, wages, sick leave, overtime pay, how often you must pay workers, and other considerations, and generally, state and local laws take precedence of federal laws established in the Fair Labor Standards Act. Here’s a quick rundown of some topics you should be thinking about.

• Minimum wage – Employers are required to pay employees at least the federal minimum wage rate of $7.25 per hour, but most states have raised the rate, some to more than double the federal wage. Be sure you’re paying remote workers in other states at least their state’s minimum wage and keep in mind that some cities and counties establish their own minimum wage rates, with those rates taking precedence over federal or state rates. For instance, the minimum wage in Maine is $13.80 an hour, but Portland’s rate is slightly higher at $14.
• Paid sick leave – While there is no federally mandated paid sick leave law, 17 states have implemented their own laws requiring it. The Family Medical and Leave Act, a federal provision, entitles employees of covered employers to take unpaid leave under certain circumstances, but does not provide paid time off. Be aware if your employee’s state requires you to offer paid sick leave and under what conditions in order to remain compliant.
• Overtime pay – The federal Fair Labor Standards Act sets rules concerning overtime for non-exempt employees, but some states have their own overtime requirements, which must be followed by employers. Under the FLSA, employers must pay time and a half for any hours over 40 completed in one work week, which is described as seven consecutive 24-hour periods. About half of all states adhere to that rule, but some states base overtime on the number of hours worked within one day. Because employers are generally required to adhere to whichever rules are more beneficial to employees, it’s important to know what is required in the states of your out-of-state employees.
• Paycheck frequency – The frequency required for paying employees also varies from state to state, ranging from weekly, bi-weekly, semi-weekly, or monthly. You can make payments more often than what’s required, but paychecks must be distributed at least as often as a particular state requires.
• Last paycheck – An employee who quits or is fired must receive a final paycheck within a certain timeframe, including unused vacation time in some instances. This rule also varies among states and certain industries.
• Paid breaks – Federal law doesn’t require employers to provide paid meal breaks, but some states do. You’ll also need to be aware of a state’s requirements regarding rest breaks and nursing mother breaks.
• Direct deposit – Employers are permitted under federal law to mandate that all employees accept direct deposit, but some states have laws stating that employers provide other forms of payment is requested by an employee.
• Workers’ compensation – Workers’ compensation laws are set on a state-by-state basis and vary significantly, but in most cases employers are required to pay insurance to cover the expenses of employees who are injured at work. Certain workers are exempt from workers’ compensation in some states, and in other states the insurance must be purchased from a state fund. Penalties for not purchasing workers’ compensation insurance when it is required can be severe, including large fines and even jail time, so be sure to research the laws or consult with an attorney or other professional.

Labor laws vary significantly depending on where your employees are working, meaning that taking time to research the laws of each state where you have employees is an important task.

Permits and Licenses

Depending on where your employees are located, they may have to get some sort of permit that enables them to work from home. In addition, some municipalities may require your company to obtain a general business license before your employee is legally able to work there.

It depends on the location and what kind of business activities are being conducted, but certain states enforce stringent requirements concerning home-based workers and the companies that hire them. If you’re paying payroll taxes in one of those states but your employees haven’t obtained a permit to work at home, you could be looking at compliance issues. Always be sure to learn about any state or local laws requiring a permit or license for employees or your business.

Filing the Right Paperwork

There’s paperwork involved whenever you hire an employee, but pay special attention to any forms that may be particular to the state where your new hire is located.

Generally, you’ll have to complete forms and provide notices for the federal and state government and provide your employee with paperwork such as an employment agreement, non-compete agreement, and other documents.

Every employer needs to complete the federally mandated Form I-9, which verifies employment eligibility. In addition, a few states require employers to use E-Verify, an internet-based system that compares the information on Form I-9 to records available to the U.S. Department of Homeland Security and the Social Security Administration. Using E-Verify is voluntary in most states but a few require it, so be sure to check with the state in which your employee is located. You’ll also need to fill out Form W-2, a wage and tax statement, and file it with the Social Security Administration.

The IRS requires employees to complete a Form W-4, an employee’s withholding certificate, when they start a new job. That form is important, as it provides information you’ll need to figure out how much to withhold from your employee’s pay for tax purposes. Some states also require employees to complete state tax withholding forms.

Also, under the Personal Responsibility and Work Opportunity Reconciliation Act, you’ll need to report any new employees within 20 days of hiring. The act went into effect in 1996 in an attempt to make it easier for states to enforce child support payments and prevent workers’ compensation and unemployment insurance fraud. Some states are more stringent about enforcing the law than required by the federal government, so be aware of any rules that apply. Check with the Office of the Secretary of State to get specifics applying to the law.

Other Considerations for Managing Remote Workers

While having remote workers in several states has become a fairly common practice, it does require some special considerations.

Many employees love working remotely because it provides increased flexibility. While that makes for happy workers, employers must assure their employees will be available when needed. Make sure that work hours and remote availability are addressed in job descriptions and work policies.

Other considerations include the following:

• Internet reliability and security. Having dependable internet access and being able to access company networks is vital for remote workers. Pay special attention to security to protect sensitive information.
• Some states have rules regarding reimbursing employees for expenses. Make sure you have a policy that lays out what employees will be reimbursed for and how they must submit reimbursement information.
• Standard benefits, which include health, dental, and vision insurance, can be provided to employees in any state using a broker who is licensed in the state where your business is registered and headquartered. If you offer other, voluntary benefit plans such as life insurance or pet insurance, however, they must be handled by a benefits broker licensed in the state of the employee who will receive them.

Hiring requirements. Be aware that rules about interviewing prospective employees vary from state to state. In some states, for instance, it’s illegal to ask about an applicant’s criminal history before extending a conditional job offer

Before You Hire

As remote work forces become increasingly prevalent, the laws surrounding them are continually evolving at the federal, state, and local levels. It’s imperative to stay informed and update your hiring policies and procedures as needed to assure that your business remains in compliance and your remote employees are able to work effectively.

Research all laws pertaining to hiring employees in the state you’re considering, paying special attention to how payroll taxes must be handled and whether you’ll need to apply to register your business there.

Hiring out-of-state employees to work remotely can be advantageous to both employees and employers, but there’s a lot to consider before doing so. If you’re unsure about regulations that apply to hiring remote workers in other states, it’s a good idea to check with an attorney or tax advisor to make sure you’re in compliance.