Information Release

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Newly-enacted law preempting state income taxation of retirement plan income - March 11, 1996

Attached is a copy of recently-enacted federal legislation which prohibits a state from imposing an income tax on "retirement income" of an individual who is neither a resident of nor a domiciliary of such state (as determined under the laws of such state at the time the income is received). For purposes of this law, "retirement income" means income from any of the following:

  • Governmental retirement system plans,"Qualified" retirement plans, and
  • All other deferred compensation plans and "nonqualified" retirement plans if such deferred compensation plan income or such nonqualified retirement plan income is paid in substantially equal, period payments, and such income is made either . . .
       
    1. for the life expectancy of the recipient or the joint lives or joint life expectancy of the recipient and the recipient's beneficiary or
    2. for a period of not less than ten years.

Based upon this newly-enacted federal law, the numerator of the fraction used to calculate the nonresident income tax credit will include such income when such income is received by an individual who at the time of receipt is both a nonresident of Ohio and a nondomiciliary of Ohio. Furthermore, based upon both this recently-enacted legislation and Departmental policy, the following withholding tax guidelines are now applicable with respect to distributions from retirement plans:

  • Distributions from Ohio's state retirement funds (such as the Ohio Public Employees Retirement System): the administrator of the retirement plan shall withhold Ohio individual income tax from such distributions to nonresidents of Ohio only if the recipient so requests.
         
  • Distributions from other governmental retirement plans or from private sector "qualified" retirement plans: the administrator of the plan is required to withhold Ohio individual income tax from such distributions only if all four of the following apply:
                          
    • The payor is an employer, The payor maintains an office or transacts business within Ohio, The payor is making payment of compensation to an employee,1and
    • The employee is either domiciled in or resides in Ohio at the time of the payment of that compensation.

Only if all four of the above tests are met will Ohio individual income tax withholding be required with respect to distributions from such plans. Since most retirement plan recipients are no longer employees of the company from whom they receive pension benefits, in most situations Ohio does not require withholding from such plans.

  • Distributions from all other deferred compensation plans and "nonqualified" deferred compensation plans: Ohio individual income tax withholding is required only if all five of the following are present:
                       
    • The payor is an employer, The payor maintains an office or transacts business within Ohio, The payor is making payments of compensation to an employee, The employee either (i) worked in Ohio for the payor at the time the employee earned the right to receive such income from the payor or (ii) is residing in Ohio or is domiciled in Ohio at the time s/he receives the payment, and
    • The payments are not substantially equal, periodic payments or, if they are substantially equal, periodic payments, either (i) are not made for the life expectancy of the recipient (or the joint lives or joint life expectancy of the recipient and the recipient's designated beneficiary) or (ii) are made for a period of less than ten years.

Only if all five of the above tests are met will Ohio individual income tax withholding be required with respect to such "nonqualified" deferred compensation plans._______________________________________Notes:

  1. Except for individuals participating in "nonqualified" deferred compensation programs, in most situations most individuals receiving retirement plan payment are no longer employees of the organization. Thus, in most cases payments of retirement benefit from government-sponsored retirement system plans and from "qualified" retirement plans will not be subject to Ohio income tax withholding.
        A plan is generally a "nonqualified" plan if the plan discriminates in favor of highly-compensated executives. Such plans can include deferred bonus programs which allow the recipient to receive her/his bonus over several years. In most cases the payor will be the employer (rather than a separate pension plan trust), and the payment will be subject to federal income tax withholding and will be reported on IRS form W-2. In those situations where such payments are reported on the IRS form W-2, such payments to nonresidents and nondomiciliaries will be subject to Ohio individual income tax withholding only if the five above-listed requirements are present.
        Because deferred bonuses are a form of a nonqualified deferred compensation program, we require income tax withholding with respect to payment of such deferred bonuses to nonresidents and nondomiciliaries if all five of the above-listed requirements are present.
          
  2. Now that the U. S. Congress has specifically addressed retirement income attributable to retirement plans, the Department of Taxation's position is that nonresidents and nondomiciliaries who exercise stock options received on account of employment in Ohio must pay Ohio individual income tax on the Ohio-related appreciation. For purposes of determining the Ohio-related appreciation, the nonresident will treat as Ohio income the value of the unexercised stock option at the time the individual left Ohio minus the value of the unexercised stock option at the time the individual received the option. In those cases where an individual receives a stock option prior to either moving to or working in Ohio, then the Ohio-related appreciation will be based upon the value of the unexercised stock option when the individual leaves Ohio minus the value of the unexercised stock option at the time the individual first became a resident of Ohio or first began working in Ohio.

_______________________________________1 . In accordance with the first paragraph of ORC section 5747.01, we treat an individual as an "employee" for Ohio withholding tax purposes only if the Internal Revenue Service treats the individual as an employee for federal withholding tax purposes.

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Tax Information Releases are not "Opinions of the Tax Commissioner" within the meaning of ORC section 5703.53. However, the above discussion does reflect the Income Tax Audit Division's interpretation of the law. For more information about this new law, call the numbers listed below:

1-614-466-5285
Ohio Relay Service for the hearing-impaired: 1-800-750-0750