Article by Teresa Gordon, Shareholder at Clayton & McKervey
2022-08-23
Many of us are familiar with the global mobility tax landscape of the past including international long-term assignments typically at the request of the employer. For these types of assignments, tax implications were generally understood in advance and company agreements with expatriate employees were standard in addressing relevant company and employee tax issues.
Compliance with tax and employment law requirements was easier because the expatriate employees were typically located in cross-border markets where the employer already had operations.
The global mobility landscape is changing. What began as a need to work from home during the worldwide pandemic is evolving into a “work from anywhere” trend that appears to be here to stay. This includes flexible, remote, short-term global working arrangements based on lifestyle choices made by employees.
Companies now retain and recruit employees located in markets that are new to them, often needing to quickly learn the tax and employment law requirements of numerous markets to accommodate the changing locations and circumstances of their workforce. The consequences of this phenomenon show up in two critical risk areas for organizations of all sizes and in virtually every industry. One is competition for talent and the other is multi-jurisdiction tax compliance.
Attracting, retaining, and engaging a globally competitive workforce
Managing the international mix of employment laws, immigration rules, income and employment taxes, and regulatory compliance hurdles is a demanding and complex process. What worked ten years ago, or even five, won’t be enough to meet talent recruiting and retention challenges in 2024 and beyond. Becoming an employer of choice means taking a rigorous and fearless inventory of your company’s processes and assumptions.
- Will your current technology keep a global workforce securely connected?
- Is your internal risk management expertise sufficient to manage shifting requirements?
- Do your performance metrics adequately reflect global workforce success factors?
- Are your HR tools and processes in alignment with the real needs of your people?
- Are your front-line managers equipped to keep cross-border teams engaged?
- Are your current payroll, benefits, legal and other service providers up to the task?
- How does “work from anywhere” impact planning and goal setting?
- Will your recruiting or relocation practices have to change for a global workforce?
- How will all of this affect your brand with current or prospective employees?
The answers to these questions (provided you document them carefully and discuss them openly with your leadership team) can lead to numerous innovation opportunities in your organization. Many of them may also help you identify potential tax issues.
Navigating tax implications of a globally mobile workforce
Global recruiting can trigger cross-border tax issues for a variety of reasons. For example, immigration laws can delay or block employee relocation even if both parties are agreeable to the terms, and that’s just one instance of the complexities you may encounter as you add “work from anywhere” employees or expand the number of countries in which you operate. Here are some other considerations to be aware of that carry potential tax consequences.
1. Transfer Pricing – Transfer pricing is a complex tax issue for multinational companies because two or more tax authorities can audit the same intercompany transaction. Transfer pricing rules apply to goods, services, and royalties – effectively any internal multinational company transaction that crosses borders including transactions involving cost sharing and recharges between companies related to a global mobility workforce. Most tax authorities require transfer prices to be consistent with the “arms-length standard” or what unrelated companies would charge each other. Audit adjustments to transfer prices can result in additional tax owed, late payment interest, non-deductible penalties, and possibly double tax.
2.Permanent Establishment – Permanent Establishment (PE) is a term applying to activities in cross-border locations that usually trigger a taxable presence. Income tax treaties between countries define cross-border activities which do and don’t constitute PE, but the direct hiring of employees across borders will trigger PE for a company in the country of employment. With a PE in another country, a decision must be made whether to operate and meet tax obligations as a branch of the foreign company or to establish a subsidiary in the new market.
3. Employer of Record – Unless prohibited by local tax law, some companies use a third-party Employer of Record (EOR) instead of making a direct hire to avoid the PE issue. An EOR may be a short-term solution for companies to quickly access the workforce in a new market in advance of establishing a subsidiary which ultimately may better meet their overall cross-border needs.
4. Dual Social Security Tax – People working outside their country of origin may be covered by the social tax systems of two countries at the same time for the same work, requiring both the employer and employee to pay tax in both countries. The U.S. Social Security program covers expatriate workers, both those working in the U.S. and abroad, to a greater extent than other countries and generally without coverage exemptions for short periods of cross-border work. Totalization Agreements – To avoid double taxation on cross-border Social Taxes, the U.S. has established Totalization Agreements with 30 countries. The objective of these agreements is to maintain coverage under the system of the country to which an employee will likely have the greatest connection while working and in retirement.
5. Tax Equalization Agreements – When a company sends an employee to work in another country, it is common for a tax equalization agreement to be used to guarantee the assignment will not reduce the employee’s after-tax pay. In addition to factoring into the agreement the difference in tax rates between countries, differences in taxable income treatment of allowances such as per diem or the payment of an employee’s portion of social tax by the employer can result in a larger tax burden for the employer for cross border assignments.
6. Employee Income Tax – Income tax treaties between countries include important provisions for expatriate workers which can inform their personal tax obligations between countries. While tax residency is generally defined by tax law in each country, tax treaty provisions often include residency tie-breakers for individuals who may meet the statutory tax residency requirements of more than one country. Included in many treaties is an important exception to individual taxation on compensation earned while performing services in another country. Personal cross-border income tax can be a complex matter for individuals to manage directly and employers need to determine the amount of tax assistance they provide in their global mobility programs.
These are just a few examples of the kinds of compliance concerns that require increased attention from organizations with a remote, mobile workforce. Companies that are adapting to a “work from anywhere” employee base will face increased pressure to closely monitor local tax laws and changing interpretations by governing authorities.
Common reasons for increased tax authority scrutiny
During the pandemic, many tax authorities were lenient regarding residency and tax issues affecting remote workers. Now that public health conditions have eased and emergency remote work circumstances are evolving into permanent arrangements, governments are beginning to increase recovery and collection activity for tax obligations arising from remote work in their jurisdictions.
The continuing rise in both the volume and variety of social media activity is enabling more sophisticated efforts by governments to track business and employee activity with greater accuracy. One prevalent example is the fitness trackers that many employees use as part of expanded wellness programs. These applications capture precise time and location data via smartphones or wearable devices that can be used to enforce tax compliance like never before.
Even without international workers, U.S. companies with remote workforces in multiple states may face increased tax compliance complexity. Tax and employment laws vary on a state-by-state basis. Employees are generally subject to personal income tax withholding in the state where they work, but there are exceptions.
For example, some states have reciprocal agreements allowing personal income tax to be withheld in the state of residence even though work is performed in a reciprocal state. Other states require employers to withhold tax in the state where the headquarters is located unless the company requires the employee to work in a remote location.
An employee’s presence in another state may trigger an income tax nexus in that state for the employer. For these and an evolving mix of other reasons, companies need a way to monitor and manage employee locations and resulting tax liabilities.
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Companies that can adapt and learn to manage these kinds of staffing and compliance complexities will have a distinct competitive advantage in the years ahead. The kind of innovation and vigilance these issues demand can pay big dividends in engagement and productivity while preventing or mitigating unintended tax consequences. If you’d like to learn more about the evolving global mobility tax landscape and how it impacts your international business, please reach out.
*This article has also been published by Clayton & Mckervey
