Overview

Remote work turned interstate hiring into a routine decision—but it also turned payroll into a multi-jurisdiction project. This playbook covers the lifecycle of multi-state payroll for remote employees: where you owe, which accounts to open, how to run each pay cycle accurately, what it costs, and how to prove compliance as you scale.

It’s written for HR/payroll managers and finance leaders who need a practical, end-to-end reference. It goes beyond state income tax withholding to include unemployment insurance, local taxes, PFML/TDI, workers’ comp, new-hire reporting, I‑9, and operational controls.

What does multi-state payroll for remote employees actually mean?

It means your payroll obligations follow where employees physically work, not just where your company is located. When a remote employee works in another state, you typically trigger employer registration there and must apply that state’s payroll rules.

That includes withholding the correct state income tax (or honoring reciprocity), paying unemployment insurance to the appropriate state, applying any local wage taxes, complying with state wage-and-hour and pay-frequency rules, and ensuring workers’ compensation and benefit contributions align with the work location. Practically, treat each employee’s work location as its own compliance environment and build a repeatable runbook for adding states.

Why does multi-state payroll get complex so quickly?

Because states (and some cities) write their own rules, and those rules often conflict or have unique sourcing tests. You’ll encounter residency vs. work-state withholding, reciprocity agreements, “convenience of the employer” sourcing doctrines, and local wage taxes that apply independently of state rules.

Each new work state usually requires separate employer registrations, unique filing calendars, and different deposit thresholds. A scalable operating model depends less on a single payroll-system toggle and more on disciplined registrations, accurate location capture, and documented procedures.

Which laws determine where you must withhold and pay payroll taxes?

Your obligations come from a layered framework: state income tax rules (including reciprocity and residency), any applicable convenience-of-employer rules, state UI localization tests, and local taxes where required. Federal payroll rules provide baseline mechanics, such as methods for federal withholding described in IRS Publication 15‑T (https://www.irs.gov/pub/irs-pdf/p15t.pdf).

Most employees owe withholding to the state where they perform services unless a reciprocity agreement or other sourcing rule applies. Unemployment insurance is assigned to one state using localization or base-of-operations tests. Apply these rule-sets in sequence and document the determination in the employee’s profile.

How do state income tax and reciprocity agreements work?

By default, you withhold where the employee physically works; reciprocity can shift withholding to the employee’s resident state. Certain state pairs allow nonresident employees to submit an exemption certificate so you withhold only for their home state.

A helpful reference is the Federation of Tax Administrators’ reciprocity summary (https://www.taxadmin.org/state-tax-withholding-reciprocity-agreements). Collect the correct nonresident/resident withholding forms before the first payroll; without them, you must generally withhold for the work state.

Example: A Michigan resident hired to work remotely for an employer with a worksite in Indiana can submit Michigan/Indiana reciprocity paperwork so the employer withholds Michigan tax only.

How do convenience-of-employer rules affect withholding?

Some states treat telecommuting days as if they were worked in the employer’s office when remote work is for the employee’s convenience. That can require withholding to the office state even if the employee is physically in another state.

New York’s telecommuting guidance is a well-known example (https://www.tax.ny.gov/pit/telecommuting.htm). When hiring across borders where a convenience-of-employer state is involved, plan your withholding and documentation accordingly; a written employer-necessity arrangement can be an important control.

Which state gets unemployment insurance for multi-state work?

UI is assigned to a single state using a hierarchy of localization tests—work localization, base of operations, place of direction and control, and finally residence if others don’t apply. These tests are part of the national UI coordination framework (https://oui.doleta.gov/unemploy/).

Document the localization test results and open only the necessary UI account to avoid paying SUTA in multiple states.

What operating models can you use to run multi-state payroll?

You can run multi-state payroll in-house with state registrations, outsource employer-of-record responsibilities to a PEO/EOR, or adopt a hybrid approach. The choice depends on speed to hire, cost, risk appetite, and how much control you need.

A PEO/EOR can reduce the need to register everywhere because they use their own state accounts; the trade-offs include less direct control and potential migration effort if you later insource.

How much does multi-state payroll typically cost?

Costs vary with state count, headcount, payroll frequency, and the blend of insourcing vs. outsourcing. Expect spend across software, registrations, deposits/filings, labor time, and professional or PEO/EOR fees.

Costs scale nonlinearly with the number of jurisdictions because each state adds unique calendars and edge cases; budget both direct spend and the time to maintain accurate location and documentation.

What are the exact steps to set up payroll in a new state?

Start with scoping and move in a tight sequence from registration to first payroll; capture documentation at each step.

  1. Confirm where work will be performed and identify applicable rule-sets (income tax, local taxes, convenience-of-employer possibilities, UI localization).
  2. Check reciprocity/residency; collect nonresident exemption certificates before first payroll when required (see FTA reciprocity: https://www.taxadmin.org/state-tax-withholding-reciprocity-agreements).
  3. Register for state income tax withholding and obtain the employer account number; enroll in e-file/e-pay channels.
  4. Determine which state gets UI via localization tests, then register for that state’s UI account only.
  5. Evaluate local/city tax obligations (for example, Pennsylvania Act 32) and enroll with required local collectors (PA Act 32 info: https://dced.pa.gov/local-government/local-income-tax-information/act-32/; Philadelphia Wage Tax: https://www.phila.gov/services/payments-assistance-taxes/business-taxes/wage-tax/).
  6. Set up federal and state deposit mechanisms (use EFTPS or your bank’s ACH/EFT arrangements) and add state e-pay credentials in your payroll system.
  7. Configure pay frequency and wage rules to match the work location; align PTO, holidays, and overtime rules.
  8. Complete onboarding compliance: new-hire reporting (see federal new-hire guidance: https://www.acf.hhs.gov/css/employers/new-hire-reporting), I‑9 verification with an approved remote procedure if used (USCIS guidance: https://www.uscis.gov/i-9-central/form-i-9-related-news/optional-alternative-procedure-to-examine-identity-and-employment-eligibility-documents), and workers’ compensation coverage for the state.
  9. Run a test payroll calculation to validate state/local codes, UI assignment, and deposit schedules; document the setup in your state dossier.

Finish by calendarizing deposits and returns and saving approvals and IDs in an access-controlled repository so operations remain resilient.

How should you run multi-state payroll each pay period without errors?

Run payroll with location-aware time and wage data, apply reciprocity and convenience-of-employer rules correctly, and make deposits on the right cadence. Per-pay-period discipline prevents double withholding and late-deposit exposure.

Example: A sales manager who spends pay-period days across New Jersey, Pennsylvania (client visit in Philadelphia), and Delaware should have wages allocated by state-day ratio, Philadelphia Wage Tax applied for the PA workdays, and UI still assigned to a single state based on the earlier localization test.

Do I need to withhold for local city or county taxes when an employee works remotely? If the employee performs services in a locality with a wage tax, yes—local withholding is typically based on where work is performed or where the employee resides. Pennsylvania’s Act 32 and Philadelphia’s Wage Tax provide examples of local rules and collection mechanisms (https://dced.pa.gov/local-government/local-income-tax-information/act-32/; https://www.phila.gov/services/payments-assistance-taxes/business-taxes/wage-tax/).

How do I handle employees who split workdays across multiple states in the same pay period? Track days or hours in each state and allocate wages proportionally, then compute state and local withholding on the allocated amounts. This prevents over- or under-withholding and keeps year-end W‑2 state boxes accurate.

How do you stay compliant with workforce and benefits-related payroll rules?

Align contributions, coverages, and pay practices with the employee’s work location. That includes PFML/TDI payroll contributions where required, state-mandated workers’ compensation coverage, and local wage-and-hour rules.

Several states operate payroll-funded PFML/TDI programs that require employer and/or employee contributions; verify the rates and contribution responsibilities for the work state. Workers’ compensation must generally be valid where the employee works; add endorsements when employees relocate. The federal minimum wage remains $7.25 per hour, though state or local rates are often higher (https://www.dol.gov/agencies/whd/minimum-wage/state). Operationally, maintain a jurisdiction matrix for each employee and audit it whenever a work location changes.

How can you measure accuracy and prove compliance over time?

Track a focused set of KPIs, audit monthly, and keep a notice-resolution log. Measurement helps you catch double withholding, mis-sourced wages, and late deposits before they become penalties.

Use these metrics to refine controls: focus on location capture, reciprocity documentation, and per-pay-period reviews. These also help demonstrate diligence during vendor transitions or state audits.

What mistakes cause penalties in multi-state payroll and how do you avoid them?

The most common failures are incorrect sourcing, missing registrations, and calendar misses. Prevent them by tightening documentation and automating location-aware steps.

Close the loop with pre-hire checks, a first-pay audit for new jurisdictions, and a quarterly reconciliation of work location versus where taxes were paid.

What should you do next as you expand to more states?

Pre-clear target jurisdictions, templatize registrations, and standardize documentation and audit cadence so adding a state is a predictable sprint rather than a scramble.

Build a lightweight intake that captures primary work location, secondary travel states, residency, and potential reciprocity. Keep a repeatable registration kit (withholding, UI, local accounts) and an onboarding checklist for new-hire reporting, I‑9 remote verification, and workers’ comp endorsements. Upgrade timekeeping to capture physical location by day, and maintain payroll calendars that reflect each state’s deposit and filing cadence. As your footprint grows, reassess your operating model and migrate from PEO/EOR to in-house accounts where you have durable headcount.