For small business owners, the idea of expanding into another state is usually a sign of success. But the process is not as simple as just crossing the state line and hanging up a shingle. There are some legalities that need to be attended to.

Small business owners can tackle the process themselves, but that’s taking time away from running their businesses, so many turn to their accountants or attorneys for advice.

What You Need to Know About Foreign Qualification

Foreign qualification is the process of registering a business in another state in order to conduct business. Whether or not a business needs to register depends on a number of factors, and unfortunately, most states won’t specify exactly which activities constitute doing business.

In general:

  • Will the business have a physical presence (office space, warehouse or retail store) in the state?
  • Will the business conduct in-person meetings with clients or customers in the state?
  • Is the business structured as a limited liability company (LLC), a C corporation, or a limited partnership (LP)?
  • Will the business have any employees living/working in the state?

If the answer to any of these questions is yes, businesses need to file a foreign qualification in the states they intend to conduct business in.

Is Registering a Must?

Not all business activities require foreign qualification, however. For example, if the business is a consultancy or the business owners are freelancers and most of the work is conducted online, a foreign qualification does not need to be filed. E-commerce businesses are different because there are sales of products involved and often a warehouse with products located in the state.

In most states, the following business activities also do not constitute transacting business in a state:

  • Defending or settling a lawsuit
  • Dealing with internal LLC or corporate business such as member meetings
  • Having a bank account in the state
  • Selling through independent contractors
  • Securing or collecting debts
  • Conducting an isolated transaction that is completed within 180 days and not repeated

The Registration Process

Most states have similar procedures to file a foreign qualification and it starts at the Secretary of State’s office in the state you want to register. Businesses need to submit a Certificate of Authority application form and pay the fees. They might also have to show the business is in good standing in its home state, which may require official documentation.

Next, conduct a name search in each state to make sure the business name is legally available. If not, the business will need to use a “fictitious name” (or Doing Business As/DBA) in that state.

Once the business has a foreign qualification, they need to appoint a registered agent. A registered agent (also known as a statutory agent or registered agent) is a person or company with the authority to accept service of process (legal documents and government notices) on behalf of a business.

A registered agent can handle in-state responsibilities such as:

  • Official federal and state correspondence
  • Subpoenas for information
  • Tax notices from the IRS and local tax authorities
  • Lawsuits
  • Summonses to appear in court
  • Corporate filing notifications

To find a registered agent, check the website of the state the business is expanding to. Many list businesses offering registered agent services in their state.

The Consequences of Not Filing for Foreign Qualification

Failing to foreign qualify when it’s required can cause significant issues for the business, including penalties for operating illegally in the states where a business is conducted.

Some of the penalties for not filing include:

  • Fines and interest for the time the company was conducting business in the state and was not foreign qualified.
  • Payment for missing filing fees the company should have paid.
  • Payment of back taxes for the time the company was doing business without being foreign qualified.
  • Ineligibility to sue in the state, because an entity can’t bring suit in a state where it isn’t registered.

Hiring Out-of-State Employees

California’s new AB5 law has made it harder to classify workers as independent contractors and soon other states may follow with similar legislation. Consequently, businesses may decide to hire out-of-state employees—and that means paying employer taxes in other states.

Businesses will need to register with the employee’s state tax agency, obtain a state income tax withholding number (and unemployment insurance number) and withhold income taxes for that state. If the employee lives in one of the states without a state income tax (Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming), businesses still need to pay the federal income tax.

The business will also need to be registered with that state’s Department of Labor and be compliant with the department’s rules for employees in the state including minimum wage, labor laws, state disability insurance, worker’s compensation and more. Businesses should contact their payroll provider when they’re ready to hire out-of-state as these companies are familiar with handling multi-state workforces and know the regulations in each state.

Do Businesses Need to Collect Sales Tax When They Expand?

Whether or not a business has a physical presence such as a warehouse in another state, having an out-of-state employee signifies enough presence that it needs to collect and pay sales tax in that state. Having “nexus” in a state means having a connection and when it comes to having sales tax nexus in a state, the law considers whether the business has a physical location in the state, resident employees in the state, property (including intangible property) or regular sales staff. In addition, in 2018 the Supreme Court of the United States determined states can now base sales tax collection requirements on economic activity alone (dollar amount or number of transactions).

Once it’s determined a business has sales tax nexus in a particular state, it is required that it collects sales tax for all taxable transactions from that state and pays sales tax to the state’s Department of Revenue. Sales tax return forms declaring all transactions will also need to be filed.

CorpNet Can Help

If you would like to expand your business into another state or have other business filing needs, CorpNet can provide online or phone assistance.

Just reach out to us at 888.449.2638.