While plenty of companies embraced managing remote employees before the pandemic hit, COVID-19 forced a huge percentage of businesses to close their doors and move their operations online. And when that happened, many employees (particularly employees in larger cities) decided to use their newfound ability to work from home as an opportunity to redefine where “home” was for them—which, for many, meant either a temporary or permanent move out of state.
But if your business wasn’t prepared for a sudden influx of out-of-state employees, you probably have more than a few questions—particularly about how to pay those employees.
Let’s take a look at everything you need to know about paying employees who moved out of state during the COVID-19 pandemic (and how to make sure your payment processes are fully compliant, no matter what state your employees moved to).
First things first—before we dive into how to pay team members who moved out of state during COVID-19, let’s quickly review the basics of paying a remote team.
And the first step in the process? Distinguishing between remote employees and remote contractors.
Independent contractors are responsible for managing and paying their own taxes. If your business employs independent contractors, you’re not responsible for withholding any payroll taxes from their wages—regardless of where they live or work. So, if you employ contractors, all you have to do is pay them what they’re owed and, come tax time, fill out Form 1099-MISC (if you pay them more than $600 in a calendar year) to alert the government of their wages—other than that, taxes are on them.
Employees, on the other hand, are different. When you hire an employee, you’re responsible for both withholding payroll taxes from their wages and paying the employer portion of their payroll tax.
Where those taxes eventually end up depends on where your remote employee chooses to work.
As a general rule of thumb, you pay taxes in the state where your employee works. So, if your employee works in the state where your business is registered, you would withhold and pay taxes in your state. If your employee works in a different state, then you’d need to wrap your head around that state’s pay and labor laws, register with the state tax agency, fill out any necessary paperwork, and withhold and pay taxes based on that state’s rules, regulations, and laws.
Generally, “pay taxes in the state where your employee works” applies. But there are definitely exceptions to that rule—so, if you have questions, this guide from Gusto goes more in depth on the ins and outs of paying remote workers.
As mentioned, in most situations, you’re responsible for paying taxes in the state where your employee works.
But with COVID driving so many employees to relocate temporarily, the general or most common rules don’t necessarily apply—and the tax implications for remote employees during the pandemic differ from state to state (and, in some cases, from city to city).
For example, if your employee decides to move to Washington D.C. to ride out the pandemic and is working from our country’s capital, you won’t have to register with D.C.’s tax authority or withhold or pay any applicable taxes. On the other hand, if your employee decides to temporarily move just over the border to Maryland, you may have to go through the process of registering your business and adjusting your employee’s withholdings.
And in still other scenarios, some states (like Idaho, Ohio, or Oregon) haven’t issued any guidance on the tax implications of employees temporarily relocating due to COVID-19—and, in those situations, businesses would defer to the state’s general labor laws when paying their remote employees.
Bottom line? With different states imposing different regulations for paying employees who move out of state during COVID-19, in order to avoid any tax issues (for themselves or their employees), it’s extremely important for businesses to stay up-to-date on each state’s guidelines and requirements.
But what, exactly, are those guidelines and requirements? Let’s break them down, state by state:
(For a more detailed look at the tax implications of COVID-related employee relocation, be sure to check out this guide from Gusto.)
To date, 34 states (and one district) haven’t issued any COVID-specific guidance on how to pay out-of-state employees during the pandemic:
While many states haven’t released guidance that speaks specifically to COVID, many have reciprocity agreements in place with other states.
Reciprocity agreements allow residents of one state to work in another without being subject to that state’s tax withholdings. So, for example, if an employee lives in California but is temporarily working in Washington D.C., that employee wouldn’t be subject to D.C. tax withholdings—since D.C. has a reciprocity agreement with California (and every other state in the United States).
The states with reciprocity agreements currently in place include:
As mentioned, D.C. has a reciprocity agreement with every state in the country—which means that residents of any state working in D.C. aren’t subject to D.C. tax withholdings. However, the opposite is only true in Maryland. So, if your employee is a D.C. resident working in Maryland, they’re not subject to Maryland tax withholdings—but if they’re working in any other state, they would be subject to that state’s tax withholdings.
Arizona has a reciprocity agreement in place with four states: California, Indiana, Oregon, and Virginia.
Michigan has reciprocity agreements with six states—Illinois, Indiana, Kentucky, Minnesota, Ohio, and Wisconsin.
Ohio has reciprocity agreements with five states—Indiana, Kentucky, Michigan, Pennsylvania, and West Virginia.
Montana and North Dakota have a reciprocity agreement in place that allows residents of either state to work in the other without being subject to taxes outside of their state of residence.
Virginia has a reciprocity agreement with five states: Arizona, Kentucky, Maryland, Pennsylvania, and West Virginia.
The rest of the states in the US have released guidance to employers on how to manage income and payroll tax withholdings on one or both of the following:
Currently, the following states require out-of-state businesses to withhold state taxes for employees temporarily working in their state:
The following states DO NOT require out-of-state businesses to withhold state taxes for employees temporarily working in their state:
The following states require businesses that are located within the state to withhold state taxes for employees who have temporarily relocated to another state:
The following states DO NOT require businesses that are located within the state to withhold state taxes for employees who have temporarily relocated to another state:
For more details on each state’s policies, make sure to check out Gusto’s state-by-state guide for paying your out-of-state employees during COVID-19.
The last question many businesses have about paying employees that have moved out of state during COVID-19 isn’t necessarily about how to pay them, but about how much to pay them.
When employees work for a company, they’re typically offered a salary that’s consistent with the cost of living in that area; for example, a software engineer living and working in Silicon Valley (which has the highest cost of living in the country) would likely get a higher offer than a software engineer that lives and works in a small town in the Midwest (where cost of living is much lower).
But now that so many companies are moving to remote operations—and more employees are relocating to lower-cost areas during COVID-19 (either temporarily or permanently)—that structure is being brought into question. Should you keep paying your employees the salary they made when they were working in your office and/or city—or should you offer them a salary that’s in line with the area where they live?
And the answer is—it depends. While it’s certainly common for employees with the same job title and responsibilities to make different salaries based on location (as mentioned above), if your employee is used to a certain salary level, lowering that salary could cause issues—issues that could drive a decrease in job performance and discord within your team (particularly if only some employees are hit with a pay cut).
Adjusting your employees’ salaries during this time can also lead to employee retention issues. With so many companies moving to remote work, top performers are likely to have more opportunities available to them—opportunities that aren’t restricted by location. If your employee feels their salary was unfairly adjusted based on their relocation, it could lead them to look for work elsewhere.
So, can you adjust your employees’ salaries if they move to a more affordable city or state? Technically, yes. But the payroll savings likely won’t offset the challenges salary cuts will cost with your team—so before you decide to adjust your team’s salaries, make sure you weigh the pros and cons and proceed with caution.
COVID-19 is a constantly changing and evolving situation—and, as such, how to pay your employees that have relocated during the pandemic (and any applicable taxes) may change and evolve as well. The best thing you can do for your business is to stay up to date on any changes or new rules and regulations around paying temporary and/or permanent out-of-state employees. The more informed you are, the less likely you are to make an error in payment—and the less likely you (or your employees) are to face any tax or payment issues in the future.
For the most up-to-date information, news, and resources on how to run your business during COVID, visit Gusto’s COVID-19 resources page.
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