When an employer decides to globally mobilise its workforce, a number of considerations come in to play, including:
- Business need: A new project is won in an overseas location and/or an employee with a particular specialism is needed.
- People and talent development: Using an overseas assignment to develop an employee’s skills and expertise, as well as being a tool for employee engagement. We are also seeing a continued increase in employees wishing to work remotely from other countries.
- Processes and wider considerations: What internal processes are in place to effectively manage the assignment? Are there any wider environmental, social and governance points to note?
- Compliance requirements: Working overseas is very likely to have implications from a tax, social security and payroll perspective, both in the employee’s home and host (ie overseas) locations.
The most efficient way to manage these considerations and capture the approach and process of the organisation, is to have a global mobility policy (or policies). A robust policy will ensure that everyone in the organisation understands:
- how an overseas working arrangement is managed;
- what the employee can expect and is entitled to; and
- what the employee’s and employer’s obligations are.
Post-pandemic lockdowns, many organisations are reassessing their global mobility policy or looking to introduce one. Key areas of focus have been to capture the additional considerations created by global remote working, to manage cost and to factor in increasingly important ESG considerations.
In undertaking these reassessments, organisations should decide how it will support the employees from a tax perspective and embed this into policy.
Tax equalisation in a nutshell
Tax equalisation (TE) is commonly described as a process that ensures an employee is no worse nor better off due to working on an overseas arrangement. Although TE is a tried and tested process, many companies are rethinking whether it’s the best fit in all circumstances.
In practice, TE will generally involve the employee receiving an effective net pay throughout their assignment. This is calculated by identifying the portion of the employee’s earnings that can be considered to be ‘stay at home’ in nature, and the portion that is related to working overseas (for example, cost of living allowances and assignment specific payments).
The stay-at-home earnings would be subject to a notional ‘hypothetical tax’ withholding, calculated by reference to the corresponding rate of tax in the employee’s home location. The gross amount of these elements would be reduced by the hypothetical tax, with the employee receiving the resulting net amount.
In terms of any actual taxes due (whether in the home or host location), the employer would then settle these on the employee’s behalf and would commit to ensuring any employer compliance obligations are satisfied (for example, payroll reporting in the employee’s host location).
The employer would also settle any balancing taxes due upon the filing of the employee’s tax returns in the home and host locations, as well as receiving any refunds that may be generated. For example, where an employee is subject to tax in both their home and host location, a tax refund may be generated on the home country tax return via making a ‘Foreign Tax Credit’ claim.
An annual reconciliation would also be performed to reconcile the employee’s personal position and the amount of any hypothetical taxes applied. The employer would usually engage a professional service provider to assist with this calculation and any related tax return filings.
Main advantages of tax equalisation
TE is frequently applied by many employers, across all industries, when assigning an employee to work globally. The main advantages of TE include:
- Consistency: The same approach will be applied to all employees, regardless of where in the world they are working. This, in turn, should be underpinned by a TE policy.
- Continuity: The employee would, in most cases, remain employed by their home country employer throughout the assignment.
- Compliance: TE provides a clear framework and a focus on ensuring global tax compliance.
- Market standard: TE is widely regarded as being the standard and default position to take when assigning an employee overseas, and is what employees often expect.
Many employers are increasingly considering different approaches, sometimes because of cost (as TE can typically be more expensive) or the increase in less traditional overseas working arrangements.
There are various alternatives to TE, but many employers now ‘localise’ their employees. This involves the employee being responsible for all global taxes due on their earnings, and it will typically involve them becoming a local employee in the host location.
Here’s a common example of where localisation may be appealing:
An employer wins a project in a country that has a no or low tax regime. The appeal for the employee is that they would pay no/low taxes in the host location. And, should they become non-taxable in their home location during the assignment (per the home country’s tax rules), localisation should provide them with a significant cash flow and net pay increase.
From an employer’s perspective, this can act as a real incentive to attract employees to work in that location – particularly if it is remote and many miles away from an employee’s home. This is especially valuable where employees with specialist knowledge need to be deployed because the availability of staff with such expertise is limited. As such, some of the traditional advantages of applying TE may be outweighed.
We are seeing many organisations review or implement global mobility policies as a result of changes in working patterns in the wake of coronavirus.
One point not to be overlooked as part of any review is the approach to TE; This has been the norm, but the benefits of localising an employee are becoming increasingly popular.