Expanding a business across state lines opens new markets and growth opportunities, but it also introduces a complex web of tax obligations that can catch even well-run companies off guard. From determining where you owe taxes to navigating different state tax rules, managing remote employees, and staying on top of property tax filings, multistate businesses face a unique set of challenges. Here are some quick discussion points we have with every business owner as they grow across state lines. If you have questions about these or other tax topics, we’d love to schedule a conversation.

State tax conformity: One federal return, many state returns

Most business owners assume that if they have filed a federal income tax return, the hard work is complete. But each state where a business has a tax filing obligation may calculate taxable income differently than the IRS does.

State tax conformity refers to how closely a state’s tax laws align with the federal Internal Revenue Code (IRC). States fall into three broad categories:

  1. Rolling conformity states automatically adopt federal tax law changes as they are enacted (examples include Virginia and New York). Note that these states may still diverge from the IRC, but to do so requires a legislative act at the state level.
  2. Static or fixed-date conformity states adopt the IRC as of a specific date and may lag significantly behind federal changes (California and Kentucky are common examples).
  3. Selective conformity states pick and choose which federal provisions they adopt, requiring careful analysis on a provision-by-provision basis.

There are also states that have their own regime: Texas and Ohio have a gross receipts tax; Washington has a business and occupation tax; and Pennsylvania loosely follows federal tax law but has its own starting point.

Why does this matter in practice? A deduction or credit that reduces your federal taxable income may not reduce your state taxable income at all. Common areas of divergence include Section 168(k) bonus depreciation, Section 199A pass-through deductions, state and local tax (SALT) cap workarounds—also known as pass-through entity tax (PTET)—research and expensing, and net operating loss carryback and carryforward rules. Businesses must track state-specific addbacks and subtractions when computing income for each state where they file.

State tax nexus: When do you owe taxes in another state?

Before a state can require your business to file and pay taxes, the business must have an established “nexus.” This is a sufficient connection between your business and that state. Nexuses come in several forms:

  • A physical nexus is created by having offices, employees, inventory, or equipment in a state. This can include remote employees who reside in the state.
  • An economic nexus is triggered by sales or revenue exceeding a state-set threshold, even without any physical presence. This concept was cemented by the US Supreme Court’s 2018 decision in South Dakota v. Wayfair.
  • A factor presence nexus applies in some states when property, payroll, or sales exceed specific dollar thresholds.
  • An agency or affiliate nexus can be triggered through third-party relationships operating on behalf of your business within a state.

Once a nexus is established, a business may owe income tax, franchise tax, sales and use tax, and other state and local levies. The thresholds and rules vary considerably from state to state, making ongoing monitoring essential—particularly as businesses hire in new locations or grow revenue in new markets.

Remote workers: A hidden nexus trigger

Remote work has fundamentally changed the multistate tax landscape for employers. A single employee working from home in another state can establish physical nexus for both income and payroll tax purposes—and many employers are unaware of the exposure until they face an audit.

Employers are generally required to withhold state and local income tax in the state where the work is performed, not simply where the company is headquartered or the employee’s office is located. However, a handful of states, including New York and Pennsylvania, apply the “convenience of employer” rule, which can tax a remote worker’s income based on the employer’s state if the remote arrangement serves the employee’s preference rather than a genuine business necessity.

Reciprocity agreements between neighboring states can also simplify compliance. For example, employees working across the Maryland, Virginia, and Washington, DC, border may only need to pay income tax in their home state. However, these agreements must be verified for each employee’s situation and are subject to change.

Beyond payroll, the presence of a remote worker may also create a corporate income tax or franchise tax filing obligation for the employer in that state—a consequence that is easy to overlook but carries real penalties.

Pass-through entity tax: The SALT cap workaround

Currently, the SALT deduction ranges from $10,000 to $40,000 depending on individual income. When the deduction was originally capped at $10,000 in 2017, it significantly increased the tax burden for owners of pass-through entities in high-tax states. The pass-through entity tax (PTET) is a widely adopted state-level workaround that allows eligible partnerships, S corporations, and LLCs to pay state income tax at the entity level rather than passing the obligation to individual owners.

The mechanics appear straightforward, but there are numerous pitfalls: The entity elects into the state’s PTET regime, pays state income tax on behalf of its owners, and deducts that payment as a business expense on the federal return—effectively bypassing the individual SALT cap. Each owner then claims a credit or income exclusion on their state individual return to avoid double taxation. The IRS confirmed the legitimacy of this approach in Notice 2020-75.

More than 36 states and New York City have now enacted PTET regimes. For high-income owners in states like California or New York, the federal tax savings can be substantial. However, the election is typically annual and often irrevocable once made. Many states also require quarterly estimated PTET payments during the year, and missing these deadlines can result in underpayment penalties or not being entitled to utilize the election at all.

Multistate pass-through entities must evaluate each state’s PTET separately and confirm that nexus exists in each state before electing. Resident and nonresident owners may be treated differently under each state’s credit rules, so owner-level modeling is essential before making the election.

Tangible personal property tax: An often-overlooked obligation

Tangible personal property (TPP) tax is a tax levied by state and local jurisdictions which is calculated as a fixed percentage on the assessed value of physical business assets—such as machinery, equipment, furniture, computers, and vehicles. It is entirely separate from real property taxes. Several states require an annual TPP return each year (separate from the state income tax return) that lists assets by category, acquisition year, and cost.

Jurisdictions apply their own methodology to arrive at assessed value, then multiply by a local millage rate. Effective rates vary widely—some states typically range between 1.5% and 2.5%, while others may range from under 1% to over 5%. Notably, several states, including Delaware, Pennsylvania, New Jersey, and New York, do not impose a general TPP tax, though local assessments can still apply.

On the upside, many states offer exemptions or reductions for manufacturing equipment, pollution control assets, and inventory in transit. This can meaningfully reduce exposure.

The bottom line

Multistate tax compliance is not a onetime exercise. As businesses grow, hire in new states, expand sales, and acquire assets, their tax footprint evolves continuously. Staying ahead of nexus exposure, election deadlines, filing requirements, and exemption opportunities requires ongoing attention, and the cost of getting it wrong can include back taxes, interest, and significant penalties.

Working with experienced state and local tax advisors, conducting regular nexus reviews, and building robust fixed-asset tracking processes are the foundations of effective multistate tax management. The considerations outlined here are a strong starting point for any business operating across state lines.

If you have questions about these topics, reach out to your Cerity Partners advisor or request an introduction today.

With contributions by Ava LaFollette

Please read important disclosures here.