By Dan Miller, WCI Contributor
Working in one state while living in another can cause a bit of a complication when it comes time for filing and paying income taxes.
Generally (but not always), you are required to file and pay state income tax in the state where you reside. Additionally, you may be required to file and pay state income tax in any state where you earn income. The details will largely depend on the specific laws and statutes in the states where you live and work, and they can get complicated. It's also worth pointing out that although this article focuses mainly on living and working in different states, many of the same principles apply if you live and work in different cities or municipalities.
Taxes When You Live in One State and Work in Another
The state where you live (often referred to as your state of residence) will likely require that you file and pay income tax on any income you earned, even if you earned it in another state. But the state where you earn the income may also require you to file an income tax return as well. Thankfully, federal law prohibits double taxation on interstate commerce, meaning that you will generally either only pay income tax to one state or be able to credit income tax paid to another state on the income tax return in your state of residence. But navigating the laws and making sure that you have filed your return(s) correctly can be challenging.
Another important thing to note is that if you live in one of the nine states (Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming) that have no state income tax, you will generally not be required to file a state income tax return in that state. However, if you earned income in another state, you may still have to pay income taxes on the money earned in that state.
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Because of the federal prohibition against double taxation for state income taxes, many states have reciprocal agreements that handle how income taxes are to be handled between people who live in one state and work in the other. For example, Ohio has reciprocity agreements with all five states that border it (Indiana, Kentucky, Michigan, Pennsylvania, and West Virginia), while Iowa has a reciprocity agreement with just one state (Illinois).
For states with a reciprocity agreement in place, you won't be taxed by the state where you earn the income. Instead, you will just pay taxes based on the state where you live. If this is the case for your situation, you'll need to let your company's payroll department know to not withhold state income taxes as you are an out-of-state resident. If you live in a reciprocal state and your employer did withhold income taxes, you will generally need to file a non-resident income tax return in the state where you earned the income in order to get a refund.
States Without Reciprocal Agreements
If you live and work in two different states without a reciprocal state income tax agreement, the situation gets more complicated. In most cases, your payroll department will withhold state income taxes in the state where you work. Then, when you file your state income tax in your state of residence, you will get a credit for the income taxes you paid to the other state. Depending on the different state income tax rates, you may still owe additional income tax to your state of residence.
Some states have even more complicated rules. Connecticut, Delaware, Nebraska, New York, and Pennsylvania have what are called “convenience” rules. These convenience rules are based on where your office is, even if you actually do the work elsewhere. This may cause disagreements between states on where you earned the income, which may lead to tax complications.
How to File (Multiple) Tax Returns
If you live in one state and work in another, you may need to file one or even multiple tax returns. If the two states in question have a reciprocity agreement, then it should be fairly straightforward—you'll pay taxes only in your state of residence. Your employer should not withhold any state income taxes, but if it does, you'll need to file a nonresident state income tax return in the state where you work to get the withheld money back.
If there is no reciprocity agreement, you'll likely have to file two state income tax returns—one for your state of residence and one for the state where you work. Generally, you'll receive a credit in one state for the taxes withheld and paid in another. A good tax professional, accountant, or tax software can help determine what returns need to be filed.
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The Bottom Line
You can work in one state and live in another, but it can cause tax complications, depending on the laws, statutes, and agreements of the two states. If the two states have a reciprocal tax agreement, generally you will not pay income tax in the state where you earn the money and instead pay income tax in your state of residence. If there is no reciprocal agreement, you'll usually pay state income tax where you work and then receive a credit for those taxes when you file a return for your state of residence.
If you're not exactly sure how to handle the situation of working in one state and living in another, it may be time to hire an accountant or tax professional to assist you. The White Coat Investor has a list of recommended tax professionals to help you find someone who can navigate your particular situation.
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