Do you have an employee who lives in one state but works in another? If so, you typically withhold state and local taxes for the work state. The employee would still owe taxes to their home state, which could turn into a hassle for them. Or could it? Cue reciprocal agreements.
Reciprocal agreement states have something called tax reciprocity between them, alleviating said hassle.
What is tax reciprocity?
Tax reciprocity is an agreement between states that lowers the tax burden on employees who commute to work across state lines. In tax reciprocity states, employees do not have to file multiple state tax returns. If there is a reciprocal agreement between the home state and the work state, the employee is exempt from state and local taxes in their employment state.
Let’s say an employee lives in Pennsylvania but works in Virginia. Pennsylvania and Virginia have a reciprocal agreement. The employee only needs to pay state and local taxes for Pennsylvania, not Virginia. You withhold the taxes for the employee’s home state.
Tax reciprocity only applies to state and local taxes. It has no effect on federal payroll taxes. No matter where you live, the federal government still wants its share.
What about states without reciprocity taxes?
Employees don’t owe twice the taxes in non-reciprocal states. But, employees may have to do a little extra work, such as filing multiple state tax returns.
Without a reciprocity agreement, employers withhold state income tax for the state where the employee performs work.
Instead of double withholding and taxation, the employee’s home state may credit them for the amount withheld for their work state. But, keep in mind that an employee’s home and work state might not charge the same state income tax rate.
If the employee’s work state has a lower state income tax rate than their home state, they owe more to their home state at tax time. If the employee’s work state has a higher state income tax than their home state, they must wait for a refund.
What is your role in state tax reciprocity?
Employees must request that you withhold taxes for their home state and not their work state.
Stop withholding taxes for an employee’s work state when your employee gives you their state tax exemption form. Then, begin withholding for the employee’s home state.
At the end of the year, use Form W-2 to tell the employee how much you withheld for state income tax.
What if you withhold taxes for the work state?
When an employee who lives in one state and works in another starts working for you, you might automatically begin withholding taxes for the employment state. If you withhold taxes for the work state and not the residency state, the employee has to submit quarterly tax payments to their home state.
When the employee does their individual tax return, they submit a tax return for each state where you withheld taxes. The employee likely receives a tax refund or credit for the taxes paid to the work state.
Reciprocal agreements by state
Reciprocity between states does not apply everywhere. An employee must live in a state and work in a state that have a tax reciprocity agreement together.
So, which states are reciprocal states? The following states are those where the employee works.
Arizona has reciprocal agreements with:
If an employee works in Arizona but lives in one of the reciprocal states, they can file Form WEC, Employee Withholding Exemption Certificate. Employees must also use this form to terminate their withholding exemption (e.g., if they move to Arizona).
Employees who work in D.C. but don’t live there do not have to have D.C. income tax withheld. Why? D.C. has a tax reciprocity agreement with every state.
To qualify for D.C.’s reciprocity, the employee’s permanent residence must be outside D.C., and they cannot reside in D.C. for 183 days or more in the year.
Employees must submit Form D-4A, Certificate of Nonresidence in the District of Columbia, to you to get out of D.C. income tax withholding.
Illinois has reciprocal agreements with:
If your employee works in Illinois but lives in one of the reciprocal states, they can file Form IL-W-5-NR, Employee’s Statement of Nonresidence in Illinois, for exemption from Illinois state income tax.
Employees who work in Indiana but live in one of the following states can request to be exempt from Indiana state income tax withholding:
Employees who reside in one of the reciprocal states can submit Form WH-47, Certificate Residence, to request exemption from Indiana state income tax withholding.
If an employee lives in a state without a reciprocal agreement with Indiana, they can take a tax credit for the taxes withheld for Indiana.
Which states have reciprocity with Iowa? Iowa actually only has one state with tax reciprocity: Illinois.
Employees who work in Iowa and live in Illinois can file Form IA 44-016, Employee’s Statement of Nonresidence in Iowa.
Kentucky has reciprocal agreements with:
- West Virginia
Employees who work in Kentucky and live in one of the reciprocal states can file Form 42A809 to request employers don’t withhold Kentucky income tax.
*Both Ohio and Virginia have conditional agreements. If an employee lives in Virginia, they must commute daily to their work in Kentucky to qualify. Employees who live in Ohio cannot be shareholder-employees with 20% or more equity in an S corporation.
Employees can apply for exemption from Maryland state income taxes if they work in Maryland and live in one of the following:
- West Virginia
To apply for Maryland state income tax exemption, qualifying employees must submit Form MW507, Employee’s Maryland Withholding Exemption Certificate.
Michigan’s reciprocating states for taxes include:
Employees must submit Form MI-W4, Employee’s Michigan Withholding Exemption Certificate, for tax reciprocity.
Minnesota has tax reciprocity with:
- North Dakota
If an employee lives in Michigan or North Dakota and works in Minnesota, they must file Form MWR, Reciprocity Exemption Certificate. Employees must return to Michigan or North Dakota at least once per month to qualify.
Montana has tax reciprocity with North Dakota. North Dakota residents who work in Montana can apply for exemption from Montana state income tax withholding.
Collect Form MW-4, Montana Employee Withholding Allowance and Exemption Certificate, from employees.
New Jersey only has reciprocity with Pennsylvania. This applies to employees who live in Pennsylvania and work in New Jersey.
Employees can apply for exemption from NJ state income tax by filing Form NJ-165, Employee’s Certificate of Nonresidence in New Jersey.
Does your employee work in North Dakota and live in Minnesota or Montana? If the answer is yes, they can fill out Form NDW-R, Reciprocity exemption from withholding for qualifying Minnesota and Montana residents working in North Dakota, for tax reciprocity.
Ohio has state tax reciprocity with the following five states:
- West Virginia
Collect Form IT 4NR, Employee’s Statement of Residency in A reciprocity State, to stop withholding Ohio income tax.
Pennsylvania has tax reciprocity agreements with the following states:
- New Jersey
- West Virginia
Employees must give you Form REV-419 EX, Employee’s Nonwithholding Application Certificate, for reciprocity purposes.
Virginia’s reciprocal states include:
- West Virginia
Employees working in Virginia can complete and submit Form VA-4, Personal Exemption Worksheet.
West Virginia’s reciprocating states for taxes include:
Collect Form IT-140NRS, West Virginia Special Nonresident Income Tax Return, from employees.
Wisconsin’s states with reciprocal tax agreements are:
Employees who work in Wisconsin but live in one of the reciprocal states can file Form W-220, Nonresident Employee’s Withholding Reciprocity Declaration.
List of states with reciprocal agreements
Use our chart to learn which states have reciprocal agreements. And, find out what form the employee must fill out to request you withhold from their home state:
|Where the Employee Works||Where the Employee Lives||Form Employee Fills Out|
|Arizona||California, Indiana, Oregon, Virginia||Arizona Form WEC|
|D.C.||Anywhere but D.C.||Form D-4A|
|Illinois||Iowa, Kentucky, Michigan, Wisconsin||Form IL-W-5-NR|
|Indiana||Kentucky, Michigan, Ohio, Pennsylvania, and Wisconsin||Form WH-47|
|Iowa||Illinois||Form IA 44-106|
|Kentucky||Illinois, Indiana, Michigan, West Virginia, Wisconsin|
Virginia, Ohio (with conditions)
|Maryland||D.C., Pennsylvania, Virginia, West Virginia||Form MW507|
|Michigan||Illinois, Indiana, Kentucky, Minnesota, Ohio, Wisconsin||Form MI-W4|
|Minnesota||Michigan, North Dakota||Form MWR|
|Montana||North Dakota||Form MW-4|
|New Jersey||Pennsylvania||Form NJ-165|
|North Dakota||Minnesota, Montana||Form NDW-R|
|Ohio||Indiana, Kentucky, West Virginia, Michigan, Pennsylvania||Form IT 4NR|
|Pennsylvania||Indiana, Maryland, New Jersey, Ohio, Virginia, West Virginia||Form REV-419 EX|
|Virginia||D.C., Kentucky, Maryland, Pennsylvania, West Virginia||Form VA-4|
|West Virginia||Kentucky, Maryland, Ohio, Pennsylvania, Virginia||Form IT-140NRS|
|Wisconsin||Illinois, Indiana, Kentucky, Michigan||Form W-220|
Although states not listed do not have tax reciprocity, many have an agreement in the form of credits. Again, a credit agreement means that the employee’s home state provides them a tax credit for paying state income tax to their working state.
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This article has been updated from its original publication date of January 6, 2017.This is not intended as legal advice; for more information, please click here.