J.K. Lasser's Small Business Taxes 2013: Your Complete Guide to a Better Bottom Line

State Income Taxes

You may owe state income taxes on your business profits in each state in which you do business. Your obligation does not depend on where the business is set up. For example, if you incorporate your business in Nevada but operate in California, you owe income taxes to California, the state in which you do business. (And you may owe a tax or fee to Nevada as well.)

Generally, state income taxes usually depend on having a nexus (connection) to the state. This is based on having a physical presence there, which may be evidenced by maintaining an office or sending a sales force into the state; merely shipping goods into the state without some additional connection is not enough to establish a business presence within the state. You may have a nexus to more than 1 state, no matter how small your business is.

If there is a business connection to more than 1 state, the business income is apportioned among those states. Apportionment is based on a sales factor, a payroll factor, and a property factor (each state has different apportionment formulas). The apportionment rules are highly complex, but there is some flexibility that permits you to shift income into the state with the lower taxes within certain limits.

Some states are moving toward commercial or financial nexus as a basis for imposing state income tax. Doing business with consumers and companies in other states may expose you to taxes that you never dreamed of. States are reaching out across their borders to ...