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Setting up operations in a new state has many requirements and can result in tax obligations. Tax, accounting, and legal professionals want to support the needs of the business, but also want to efficiently use resources. They often come up with heuristics to help guide the front-office when it comes to hiring in new U.S. states. For example, “don’t hire someone in a state we have no other employees in unless you would be willing to give them a $30k signing bonus” and “don’t hire unless you plan to hire 10 people in that state”.
As companies grow their operations become more complex and they must constantly make changes. Startups prioritize speed and solving the most important problem, even if it is in exchange for future liability. A useful framing is to think of it as moving between two states—operating ignorance and normalization.
Employee leasing was started in the 1960s and is a predecessor to professional employer organizations (PEO). It was used to exploit loopholes in the US tax system. The idea evolved from staffing agencies to include HR and worker safety services until someone coined the phrase PEO to sound more like HMO and clean up the image of employee leasing.
According to the Q1 2022 survey by Ladders, 24% of all job posting in the US and Canada are now for permanent remote positions—an increase from 18% in Q4 2021 or roughly 3MM jobs.
Most business registration requires a company to have a real physical mailing address. This is problematic for remote native companies as they don’t have one. Further, most mail forwarding companies use P.O. boxes which are note allowed. To work around this, remote-first startups use the address of the founders and employees in each state or convince someone to let them use their mailing address.
A payroll partners that is responsible for employment compliance and liability of employees. Companies contract with them to outsource the work of setting up operations in all jurisdictions in which they have employees.
A global employment organization (GEO) is an employer of record that is used to hire employees outside of the client’s country. They provide payroll administration, benefits administration, and HR services. As an EOR, they also take on the liability for statutory compliance.
When trying to hire someone in a new country, it can take on average two months to put in place all off the infrastructure for employment. This includes research (local laws, regulations, taxes) setting up local payroll (often through a consulting firm familiar with the location) and even setting up a subsidiary company which requires it’s own research into taxes and maintenance.
Each state requires new hires to be reported as per the Personal Responsibility and Work Opportunity Reconciliation Act of 1996 (PRWORA). This is needed for wage garnishment related to child support. Each state has a different time limit for reporting and the penalty for failing to report is $25 per newly hired employee.
Due to COVID-19, employees are spread throughout the country and moving around. This is a challenge for employers who are obligated to pay taxes in the jurisdictions their employees are working. Remote native companies and companies that support a growing remote workforce will continue to face this challenge.
When using a virtual physical address like Earth Class Mail for business purposes, you need to fill out USPS Form 1583 and have it notarized which requires two forms of government ID.
An outsourcing firm that typically offers payroll services, tax withholding, HR, and benefits. Employees contract directly with the company (e.g. the offer letter origin is the company not the PEO) and then the PEO enrolls them in payroll and other services. PEOs charge two to seven percent of payroll.
When employees move around they generate trailing tax liabilities for the time spent in a particular jurisdiction. This includes employment taxes and reporting as well as personal tax issues (for example, shares vested while in California will need to pay taxes once a gain is realized).
California passed legislation that makes it significantly harder to classify workers as independent contractors. The ‘ABC’ test is used to determine whether someone meets the exception that they are an independent contractor. This test is significantly stricter and has led to companies going under as a result of misclassification lawsuits.
A Gallup poll with data from September indicate that two-thirds of remote workers want to keep working remotely. An article from 2016 estimated the number of knowledge workers in the US to be 30MM people and adding roughly 1MM per year. Since most remote jobs are knowledge work jobs, we can estimate 20MM people in the US want to work remotely permanently.