In today’s workforce, it’s increasingly common for individuals to live in one state and work in another. This is especially true in metropolitan regions near state borders, where commuting across state lines is part of everyday life. While this setup offers flexibility and access to broader job markets, it also raises questions about how income taxes should be filed and which state is entitled to collect those taxes.
To help address these complexities, many states have implemented tax reciprocity agreements. These arrangements are designed to streamline the income tax filing process for individuals working in neighboring states by limiting income tax obligations to the taxpayer’s home state. Understanding how these agreements function is critical for employees and employers alike, particularly in regions where cross-border employment is prevalent.
Defining State Tax Reciprocity
State tax reciprocity refers to a formal agreement between two or more states allowing residents to earn income in a participating neighboring state without being subject to that state’s income tax. Instead, individuals pay income tax solely to the state in which they reside. This eliminates the need to file multiple state income tax returns and helps reduce the risk of being taxed twice on the same income.
These agreements generally apply only to earned income, such as wages, salaries, and tips. They do not typically cover other types of income like interest, dividends, rental income, or capital gains. Each state involved in a reciprocity agreement outlines the types of income covered, any limitations, and the procedures for claiming exemption.
Simplifying the Filing Process
One of the primary reasons for tax reciprocity is to make filing income taxes less complicated for people who work in one state and live in another. Without reciprocity, individuals often have to file two separate state tax returns: a nonresident return for the state where they worked and a resident return for the state they live in.
Filing two returns can be cumbersome, especially when calculating credits for taxes paid to other states or reconciling differences in tax rates and withholding amounts. Reciprocity simplifies this by allowing individuals to avoid filing in the work state altogether, provided they take the proper steps to claim the exemption from withholding.
How Reciprocity Agreements Work in Practice
If your resident state and your work state have a reciprocity agreement, you can request that your employer withhold state income taxes only for your home state. To do this, you typically need to complete a specific exemption form provided by your work state and submit it to your employer.
Once the form is on file, your employer should stop withholding income taxes for the work state and instead withhold only for your resident state. This ensures that you’re only subject to one state’s income tax and simplifies your annual filing responsibilities.
Failure to submit the exemption form could result in unnecessary withholding for the work state, requiring you to later file a return in that state to claim a refund. Being proactive with exemption paperwork can save time and effort during tax season.
A Real-World Example
Consider an employee who lives in Wisconsin and works in Illinois. These states have a tax reciprocity agreement in place. If the Wisconsin resident completes and submits Form IL-W-5-NR to their Illinois employer, the employer will not withhold Illinois income tax. Instead, the individual will only pay taxes to Wisconsin and file a single return there.
Had the form not been submitted, the employer would have withheld Illinois tax by default. The individual would then need to file a nonresident return in Illinois to recover the withheld tax and a resident return in Wisconsin to report and pay tax on all income. By submitting the exemption form, the process is streamlined and only one tax return is required.
States Without Reciprocity Agreements
Not all states offer tax reciprocity, even if they share borders. In cases where no agreement exists, individuals may be required to file returns in both states. This means:
- A nonresident return must be filed in the state where income was earned.
- A resident return must be filed in the state where the taxpayer resides.
To avoid being taxed twice on the same income, most resident states offer a tax credit for income taxes paid to another state. This credit typically reduces the tax owed in the resident state by the amount already paid to the work state, up to the amount of tax the resident state would have imposed on that same income.
Although this system helps reduce the burden of double taxation, it does require more complex filing and accurate documentation. Taxpayers must carefully track the amount of income earned in each state, as well as any withholding, to ensure they calculate credits properly.
How to Claim the Reciprocity Exemption
To benefit from a reciprocity agreement, workers must actively claim the exemption from their employer by submitting the appropriate form. Each state with a reciprocity agreement provides a specific form that must be completed and returned to the payroll or human resources department.
The exemption form typically requires information such as the employee’s name, address, Social Security number, and state of residence. Some forms may also ask for the name of the reciprocal state and an attestation that the employee meets the conditions of the agreement.
Employers are responsible for maintaining these forms on file and adjusting state tax withholding accordingly. However, it is the employee’s responsibility to initiate the exemption process and verify that withholding is being handled correctly.
Timing Matters
Timing is an important factor when it comes to claiming exemption under a reciprocity agreement. Ideally, the exemption form should be submitted to the employer at the start of employment or immediately after a move that results in a cross-border work situation. This helps avoid unnecessary withholding and prevents the need for filing refund claims.
If a form is submitted mid-year, employers may be able to adjust future withholding, but taxes already withheld for the work state earlier in the year will still require filing a nonresident return to recover. Submitting forms as early as possible ensures the most seamless process and avoids unnecessary paperwork during tax season.
Understanding the Limitations of Reciprocity
While reciprocity agreements simplify income tax filing, they do come with limitations. Most importantly, these agreements apply only to earned income. Investment income, business income, and other forms of non-wage income are generally not covered. In addition, the existence of a reciprocity agreement does not eliminate your responsibility to file a return if there are other tax obligations, such as local taxes, or if you received income outside of wages that may be taxable in both states.
It’s also important to understand that each agreement is unique. Some states have broad agreements covering multiple neighboring states, while others are limited to one or two. Conditions for eligibility, required forms, and filing procedures can vary significantly, so it’s essential to consult the specific requirements of your resident and work states.
Employers’ Role in Reciprocity Compliance
Employers have an important role in ensuring proper compliance with reciprocity agreements. Once an employee submits a valid exemption form, the employer must update their payroll system to stop withholding state income tax for the work state and begin withholding for the resident state if required.
Failure to properly adjust withholding can result in errors that may impact both the employee’s take-home pay and the employer’s payroll tax reporting. Employers are also expected to retain copies of exemption forms and be prepared to furnish them upon request by state tax authorities. Employees should review their pay stubs periodically to ensure the correct state tax is being withheld and address any discrepancies with their payroll department promptly.
Avoiding Common Mistakes
One of the most common errors in tax reciprocity situations is failing to submit the exemption form. Without this form, the employer will default to withholding taxes for the work state, creating additional filing requirements and potential delays in receiving refunds.
Another common mistake is assuming that reciprocity applies without verifying whether an agreement actually exists. Just because two states are neighbors does not mean they have an agreement in place. Always check with official state tax resources to confirm whether reciprocity applies to your specific situation.
Some individuals also fail to adjust their withholding when they move or change jobs across state lines. A change in employment or residence may create new withholding obligations, and failing to update exemption forms can lead to over- or under-withholding.
Regional Trends in Reciprocity Agreements
Tax reciprocity is particularly common in certain regions of the country. In the Midwest, for example, multiple states have reciprocity agreements due to high levels of interstate commuting. States like Illinois, Michigan, Indiana, and Wisconsin have interconnected arrangements that facilitate simplified tax filing for workers in the region.
The Mid-Atlantic and Northeast regions also feature several key agreements, particularly involving Pennsylvania, New Jersey, and Maryland. These states recognize the economic reality of daily commuters and have structured their tax policies to minimize administrative burdens on both workers and employers.
In contrast, some states have few or no reciprocity agreements, and residents working across state lines may need to manage dual filing responsibilities on an ongoing basis. In such cases, understanding how to properly claim credits for taxes paid and how to allocate income between states becomes even more essential.
Overview of State-by-State Reciprocity Agreements
Reciprocity agreements exist to reduce the burden of cross-border tax filings for individuals who live in one state and work in another. While many states offer such agreements, each one sets specific terms and requires particular forms for exemption from withholding. These agreements are not universal, and where they do exist, understanding the details for your specific state is crucial for compliance and peace of mind.
Below is a comprehensive look at the states that currently have reciprocal tax agreements, including which states they recognize under the agreement and which form employees must use to claim exemption from withholding in the work state.
Arizona
Arizona offers reciprocity to residents of four states: California, Indiana, Oregon, and Virginia. If a resident of any of these states works in Arizona, they can file Form WEC with their Arizona employer to request exemption from Arizona income tax withholding. This allows them to pay income tax only to their home state and avoid filing a nonresident Arizona return.
Illinois
Illinois has a robust reciprocity network with four neighboring states: Iowa, Kentucky, Michigan, and Wisconsin. Individuals who live in these states and work in Illinois can submit Form IL-W-5-NR to their employer. This stops Illinois tax withholding and ensures that income is only taxed by the employee’s resident state.
Indiana
Indiana’s reciprocity agreement extends to Kentucky, Michigan, Ohio, Pennsylvania, and Wisconsin. To avoid having Indiana income tax withheld, workers from these states need to complete and submit Form WH-47 to their Indiana employer. Once on file, only the resident state will collect income tax.
Iowa
Iowa only has a reciprocal tax agreement with Illinois. Illinois residents working in Iowa can submit Form IA 44-106 to exempt their wages from Iowa withholding. In turn, they report all income on their Illinois return and do not need to file a nonresident return in Iowa unless additional income sources exist.
Kentucky
Kentucky has one of the most extensive reciprocity agreements in the country. It covers Illinois, Indiana, Michigan, Ohio, Virginia, West Virginia, and Wisconsin. Employees residing in any of these states and working in Kentucky can file Form 42A809 to request exemption. This makes it easier for residents of border states to work in Kentucky without dual filing obligations.
Maryland
Maryland’s reciprocity network includes the District of Columbia, Pennsylvania, Virginia, and West Virginia. Nonresidents of these states working in Maryland must submit Form MW507 to their employer. This prevents Maryland tax withholding and simplifies filing for residents of nearby jurisdictions.
Michigan
Michigan recognizes reciprocity with Illinois, Indiana, Kentucky, Minnesota, Ohio, and Wisconsin. Workers from any of these states should complete Form MI-W4 to prevent Michigan taxes from being withheld. Income is then taxed solely by the state of residence, allowing for a single return filing.
Minnesota
Minnesota has reciprocal agreements with two neighboring states: Michigan and North Dakota. Workers from these states can avoid Minnesota income tax withholding by submitting Form MWR. They will report all income to their home state and avoid dual taxation.
Montana
Montana’s only reciprocity agreement is with North Dakota. North Dakota residents working in Montana can use Form MW-4 to ensure that Montana does not withhold tax from their pay. Montana income will instead be reported and taxed on a North Dakota return.
New Jersey
New Jersey has a single reciprocal agreement, and it is with Pennsylvania. Pennsylvania residents who work in New Jersey can file Form NJ-165 to claim exemption from New Jersey withholding. The agreement does not extend to any other neighboring states.
North Dakota
North Dakota reciprocates with both Minnesota and Montana. Workers from either state who are employed in North Dakota can file Form NDW-R. This stops withholding for North Dakota and requires the taxpayer to file only in their home state.
Ohio
Ohio is part of a strong regional reciprocity network. It recognizes reciprocal arrangements with Indiana, Kentucky, Michigan, Pennsylvania, and West Virginia. Nonresidents of these states working in Ohio should submit Form IT-4NR. This ensures that Ohio tax is not withheld and that income is reported exclusively in the resident state.
Pennsylvania
Pennsylvania extends reciprocity to Indiana, Maryland, New Jersey, Ohio, Virginia, and West Virginia. Workers from these states can avoid Pennsylvania income tax withholding by submitting Form REV-419. Pennsylvania’s agreement provides relief for many daily commuters in the Mid-Atlantic region.
Virginia
Virginia has reciprocal agreements with the District of Columbia, Kentucky, Maryland, Pennsylvania, and West Virginia. Nonresidents of these areas working in Virginia can submit Form VA-4 to avoid withholding. Virginia recognizes the reality of daily commuter patterns and makes it easier for nearby residents to avoid tax complexity.
Washington, D.C.
The District of Columbia offers broad reciprocity for nonresidents. Any nonresident working in D.C. may claim exemption from D.C. income tax withholding by submitting Form D-4A. They will only pay income tax to their state of residence and do not need to file a D.C. return.
West Virginia
West Virginia recognizes reciprocity with Kentucky, Maryland, Ohio, Pennsylvania, and Virginia. Nonresidents of these states who work in West Virginia may file Form WV/IT-104 to request exemption from withholding. This allows them to avoid dual taxation and file only with their home state.
Wisconsin
Wisconsin has agreements with Illinois, Indiana, Kentucky, and Michigan. Residents of any of these states working in Wisconsin can submit Form W-220 to their employer to claim exemption from Wisconsin income tax withholding. These workers then file and pay income tax only in their resident state.
The Role of Exemption Forms
To benefit from a reciprocity agreement, the most important step is to complete and submit the appropriate exemption form. These forms typically require:
- Employee name and address
- State of residence
- Social Security number
- Signature affirming that the employee qualifies under the reciprocity agreement
Once submitted, the employer is responsible for adjusting state tax withholding accordingly. The employer must also retain the form for their records and be prepared to furnish it to state authorities if needed.
Failing to submit the form can result in incorrect withholding. This means taxes could be taken out for the work state, even though the worker is only liable for taxes in the resident state. To correct this, the employee would have to file a nonresident return and request a refund, which adds unnecessary complexity.
Local Income Taxes and Reciprocity
Some municipalities impose local income taxes that are not affected by state reciprocity agreements. Even if a state agreement is in place, employees might still be subject to local tax withholding if they work in a city or county that levies its own tax.
For example, cities like Philadelphia or certain municipalities in Ohio may impose local taxes independently of state income tax rules. These local taxes are typically withheld directly by the employer and are not covered under state reciprocity arrangements. Workers should verify whether their work location imposes local taxes and plan accordingly when estimating total tax obligations.
Differences in Tax Rates and Credits
Even with reciprocity in place, individuals should be aware of how differences in tax rates might affect their overall liability. If the resident state has a significantly higher tax rate than the work state, the individual may owe additional taxes when filing.
In contrast, without reciprocity, the resident state generally offers a credit for taxes paid to the work state. However, these credits are often limited to the amount the resident state would have charged on the same income. As a result, if the work state has a higher tax rate, the credit may not fully offset the taxes paid, and the taxpayer may not recover the difference. Understanding how credits are calculated and how reciprocal agreements affect them is key to planning for accurate tax withholding and avoiding surprises at filing time.
Commuter Regions and Cross-State Employment
Reciprocity agreements are especially important in regions with significant cross-border commuting. For example, in the Washington, D.C. metro area, it is common for workers to live in Virginia or Maryland while working in the District. The reciprocal agreements in this area help minimize unnecessary tax filings and create clarity for taxpayers.
Similarly, in the Midwest, employees frequently cross borders between Illinois, Indiana, Michigan, and Wisconsin. Thanks to reciprocity, a Michigan resident can work in Illinois without having to pay Illinois income tax, provided they complete the appropriate exemption form.
These regional agreements reflect the economic reality of the modern workforce, where geographical proximity often determines employment rather than state lines. Ensuring workers understand how these rules apply to their situation is essential for avoiding complications and maximizing income.
Importance of Reviewing Withholding Annually
Even after submitting an exemption form, it is good practice for employees to review their paycheck withholding at least once a year. This ensures that withholding is still aligned with their residence and work locations and that the employer is complying with the reciprocity agreement.
Changes in job location, state residency, or employer payroll systems can affect whether the proper withholding is being applied. A simple check of pay stubs can reveal errors early and prevent larger problems at tax time.
If the employee moves to a different state or begins working in a new location, a new exemption form may be required. Employees should notify their employer promptly of any changes in residency or employment location to avoid unnecessary tax issues.
Navigating Complex Scenarios in State-to-State Tax Filing
Understanding how to file when living in one state and working in another can become more intricate when exceptions, multiple employers, or special income situations arise. We explore nuanced tax reciprocity circumstances, provide additional filing examples, and clarify how to handle multistate income when agreements do not exist or do not cover all earnings.
Dual-State Employment and Tax Implications
Some individuals may have employment in more than one state during the year. For instance, a remote worker may take on a short-term consulting role in another state, or a salesperson may perform duties across multiple jurisdictions.
When reciprocity does not extend to both work locations, the taxpayer must file in all relevant states. In these cases, residents typically file a non-resident return in each work state to report earnings generated there and a full-year resident return in their home state. The resident state may then allow a credit for taxes paid elsewhere.
To manage this, it is important to:
- Track income earned in each state separately.
- Collect accurate W-2s and 1099 forms from each employer.
- Confirm residency periods if you moved mid-year.
- Keep detailed records to determine how income was sourced and where the services were performed.
When multiple states are involved, states typically use an apportionment formula or allocate income based on workdays or service days spent in each jurisdiction.
Credit for Taxes Paid to Another State
If no reciprocity agreement exists between your resident and work states, your resident state often provides a mechanism to avoid double taxation: the out-of-state credit. This credit offsets your home state liability by the amount you already paid to another state.
Let’s consider a resident of Missouri who works in Arkansas. These states do not share a reciprocity agreement. The worker pays Arkansas income tax on earnings generated there. When filing their Missouri resident return, the individual can claim a credit for the taxes paid to Arkansas, reducing the amount owed to Missouri.
However, the credit is usually limited:
- It cannot exceed the amount of tax the home state would assess on the same income.
- It applies only to income taxed by both states.
- Some states require supplemental forms to claim the credit.
Always consult each state’s rules to ensure eligibility and to understand any supporting documentation requirements.
Working in a State with No Income Tax
Certain states, such as Texas, Florida, Washington, Nevada, South Dakota, Alaska, and Wyoming, do not impose a state income tax. Residents of states with income tax who temporarily or remotely work in a no-income-tax state may still be liable to pay income tax in their home state on that income.
For example, an Ohio resident who performs remote work for a Florida company still must report and pay income tax to Ohio. Since Florida does not collect state income tax, no reciprocity issues exist, and there are no taxes paid to Florida that would generate a credit. In such scenarios, the filing process simplifies because there’s no need for a non-resident return, but the resident must report the entire income in their home state.
Temporary Assignments and Remote Work Exceptions
The rise of remote work has complicated traditional concepts of work location. Many employees now live in one state and work remotely for a company based elsewhere. Depending on the states involved, this situation can create either clarity or confusion in terms of filing obligations.
Some states determine tax residency or nexus based on the location where the work is performed, while others consider the employer’s location more heavily. For example:
- If a resident of Virginia works remotely full-time for a New York company but never sets foot in New York, New York may not require a non-resident return.
- However, if the remote worker occasionally travels to the employer’s location or works in both states, both jurisdictions may claim the right to tax some portion of the income.
A few states, like New York and Connecticut, enforce a “convenience of the employer” rule. This means that if a remote worker chooses to work outside the employer’s state for personal convenience—not business necessity—the employer’s state may still tax that income. These situations are increasingly debated and may require professional guidance.
Changing States Mid-Year
If you move to a new state during the year, your tax obligations shift. You become a part-year resident of both the former and new states, and you must file part-year returns for each. Income is allocated based on when and where it was earned.
Here’s how it typically works:
- File a part-year return in the former state for the months you resided there.
- File a part-year return in the new state for the remainder of the year.
- If you worked in either state while living in the other, you might also need a non-resident return.
For example, someone moves from Iowa to Illinois in July but continues working for the same employer based in Illinois. This individual would:
- File a part-year resident return for Iowa (January through June).
- File a part-year resident return for Illinois (July through December).
- Submit the necessary withholding exemption form if Illinois and Iowa maintain reciprocity.
Not all states offer reciprocity, so understanding the agreements in place helps determine which forms to file and how to report income correctly.
When Reciprocity Does Not Cover Self-Employment
Reciprocity agreements typically apply only to wages earned as an employee. Independent contractors, freelancers, or self-employed individuals usually do not benefit from these agreements and may still be subject to taxation by both the state of residence and the state where the work was performed.
If you’re a sole proprietor residing in Indiana but providing consulting services to businesses located in Kentucky, Kentucky may assert a tax obligation on that income, regardless of the Indiana-Kentucky reciprocity for employment income. In such cases:
- File a non-resident return in Kentucky to report business income earned there.
- Report all income on your Indiana resident return.
- Apply for a credit on the Indiana return for any tax paid to Kentucky.
Navigating self-employment income across borders is more complex and often requires proper documentation of where services were rendered and business operations occurred.
Income From Multiple States and Estimated Payments
For individuals earning income in multiple states, especially without sufficient withholding, estimated tax payments may be necessary to avoid underpayment penalties. Many taxpayers in multistate situations fall into this category:
- Remote contractors paid on Form 1099-NEC.
- Sales professionals earn commissions across various states.
- Employees with multiple jobs in neighboring states.
Each state has its own rules on estimated payment thresholds. If your income is not fully covered by withholding in your work state or residence state, you may need to make quarterly payments to one or both jurisdictions.
To avoid penalties:
- Estimate total annual tax liability in each state.
- Make timely quarterly payments (April, June, September, January).
- Consider setting aside a portion of untaxed income monthly to cover these obligations.
Handling State-Specific Forms and Filing Requirements
Each state that participates in a tax reciprocity agreement has its own process for requesting exemption from withholding. It’s critical to understand the following:
- The correct form must be submitted to your employer early in the year or upon hiring.
- Some states require annual renewal of the form.
- If not submitted, the employer may default to withholding taxes in the work state.
For example, if you live in Michigan and work in Ohio, you must submit Form IT-4NR to your Ohio employer to avoid withholding. If you forget or delay, you may still claim a refund when filing your Ohio non-resident return, but it can complicate cash flow throughout the year. Failure to submit exemption forms on time may result in withholding in both states and require multiple returns even when reciprocity applies.
Local Income Taxes and Reciprocity
Even in states that maintain reciprocity, local or municipal taxes may still apply. For example, Pennsylvania has a local earned income tax, and its reciprocity with New Jersey does not exempt workers from local levies. Similarly:
- Ohio and Michigan cities may levy additional taxes separate from state income tax.
- Reciprocity may not extend to these local taxes, and workers may still face withholding or filing obligations.
This means that while you may avoid paying state tax in the work state, you could still face deductions for local tax. Check with your employer’s payroll department to determine whether any additional forms are required to avoid local tax withholding if exemption is available.
When to Seek Professional Help
Although many reciprocity scenarios are straightforward, certain situations may require expert advice. Consider speaking to a tax professional if:
- You have worked in multiple states with varying rules.
- You receive both W-2 and 1099 income from out-of-state sources.
- You lived in more than one state during the year.
- You earned income from states without reciprocity with your home state.
- You encounter errors in withholding or receive corrections from employers.
Specialized assistance ensures that your filings are accurate, complete, and aligned with current state laws, which can vary from year to year. Errors in multistate filings may delay refunds, trigger audits, or create underpayment penalties, so staying informed and supported is essential.
Conclusion
Navigating the complexities of filing when you live in one state and work in another can seem daunting, but understanding the role of tax reciprocity agreements makes a significant difference. These agreements exist to streamline your responsibilities and eliminate the need for double taxation in qualifying states. If you live in a state that has a reciprocal agreement with your work state, you can often avoid filing a nonresident return altogether by submitting the correct exemption form to your employer. This not only simplifies your paperwork but can also help ensure proper withholding from the start.
However, if your states do not have a reciprocity agreement, it’s still possible to avoid being taxed twice. Most resident states allow you to claim a credit for income tax paid to another state. Although this requires filing in both jurisdictions, it can significantly reduce or eliminate your liability in your home state.
Keeping accurate records, understanding your obligations, and submitting the appropriate forms on time are essential steps in managing multi-state income. For commuters and remote workers alike, it’s important to stay updated on which states maintain active reciprocity agreements, as these can change over time based on legislative actions.
Whether you benefit from reciprocity or need to file in both states, knowing the rules and taking action early will prevent errors, reduce the likelihood of audits or penalties, and potentially save you money. When in doubt, consulting a tax professional can provide peace of mind and ensure compliance with both states’ regulations. Ultimately, being informed and proactive is the key to managing cross-border employment tax situations effectively.