Mobile workforces are the backbone of future leaning global organizations.
The pace of business development across borders is incredible and tax directors, globally, are feeling the pressure. Especially in this time when many departments are asked to do more with less, I offer a quick reference to quick tips.
Consider a large global organization, with a relatively traditional mobility program. A payroll audit uncovers the fact of a large number of short-term business visitors traveling to the United Kingdom, which resulted in a significant tax and penalty assessment. An internal review followed, which uncovered an unexpected number of additional personnel were traveling to and from another 25 countries, creating tax and withholding obligations, PE risk, etc.
Back office departments struggle to keep up with the pace of business' demand for international mobility. Each travel assignment can be unique and can cause major disruption to compliance demands, not to mention costly interest and penalties due to inadequate planning. However, this doesn't have to be your organization's story. The situation can present opportunities for forward-thinking organizations...resulting in a more engaged Tax Department, automated solutions, and ultimately deeper insights into the business. Forward-thinking organizations engage the corporate tax department to manage global tax compliance risk.
So, what is the starting point?
Cross-border employment structures
Global organizations use a variety of employment structures to move talent across borders. Employment structures can be a critical step to support desired tax and risk management positions. Documentation is key, though.
- Typically, an assignment letter is issued to the employee that documents the duration of the short-term move and explains the international benefits being offered.
- Proper intercompany documentation of the facts can help to address potential misunderstandings and avoid unnecessary tax exposure
- Contemporaneous documentation also enables the entity to be better prepared in the case of an audit.
- Ensure that all documentation is in harmony and not in conflict by checking external (non-tax) information provided by the company to ensure alignment
Permanent establishments (PEs)
A global workforce can create significant PE risk. The result of PE is the requirement to register the company as a taxpayer in the foreign country, pay taxes, file new and often unique country returns. It can also result in PE for the individual employee. If PE isn't known and the company fails to register and file, interest, penalties, and even sanctions can be levied. Reputational risk is also a concern.
The Organization for Economic Cooperation and Development (OECD) has developed a framework of actions to address the perceived threat to tax fairness and loss of tax revenues caused by base erosion and profit shifting (called BEPS). The goal of BEPS is the ensure that profits are fairly allocated to where actual business activity is performed and value is created. Under BEPS, activities that create PE extend to individuals, sales agents and contractors, especially those who may be habitually performing functions in locations that play a pivotal role in value creation.
PE Risk is mitigated through:
- Proper documentation of employment structures and cross-border employment activities.
- Controls should be in place to track and report on mobile employees.
- Appropriate transfer pricing policies should be in place.
- Collaboration between Tax & HR Departments & global mobility teams
Withholding & Payroll Compliance
Payroll compliance can be a forgotten or underfunded activity center. However, in the example above, it was the catalyst for discovering a large compliance risk. Increasingly, tax authorities are looking for ways to reduce their cost of tax compliance and increase tax receipts by placing the burden on employers to self-report. Forward-thinking organizations are finding ways to get ahead of the curve. Increasing capabilities to accurately report global compensation is becoming a priority for them. For other organizations, the result of non-compliance can include unexpected taxes, interest and penalties, and of course a tremendous amount of additional drain on internal resources. Actions to consider:
- Employers should prepare a comprehensive evaluation of global payroll obligations
- Consider treaty relief, where available
- Properly document residency status of each employee
Deductions for Stock-Based Compensation
Stock-based compensation, such as option rights and RSUs may not be deductible at the foreign affiliate level unless steps are taken to recharge the cost of the stock award to the affiliate in exchange for a case payment from the affiliate to the parent.
Mobile employees can create additional complexity as they may have moved (and not told you) during the vesting period. Generally, the entity benefitting from the services provided by the mobile employee should bear the cost of the stock-based compensation.
Depending on the method used to account for the award, it may be necessary to consider different methods of settling the stock award to maximize benefits and reduce risk to the company. To protect yourself, you should:
- Create equity recharge agreements to ensure the foreign affiliate benefitting from the services bears the cost
- Consider settlement strategies to reduce tax cost and risk
- Establish a system to track mobile employees, allocate equity compensation, and ensure proper payroll compliance in each foreign jurisdiction
- Pay special attention to C-Suite Executives and limitations on compensation
Each country has their own tax laws with respect to deferred compensation. Technical requirements to qualify for deferral in one country may result in taxable compensation in another country, with no deferral. The result is unforeseen tax costs could be passed on to the employee. If a tax reimbursement arrangement exists, then those tax costs are passed to the employer.
Internal Revenue Code Section 457A creates special issues for companies where vesting of deferred compensation rights occurs. Overseas deferred compensation arrangements should be reviewed for compliance with Section 409A of the Code where employees are sent to work in the US. Consider:
- Reviewing your deferred compensation plans for effectiveness in non-US jurisdictions
- Consider modifying employment arrangements for employees who earn compensation in several countries
- Review Sections 457A and 409A for modifications required to avoid acceleration of US tax or penalties
Information Reporting Requirements
More countries are enacting foreign financial asset information reporting requirements for individual taxpayers. This may cover no only foreign bank accounts, but also assets held outside of that country. Compliance with these requirements can be daunting for foreign nationals on assignment and can increase the cost of compliance for companies covering tax preparation expenses under Ex Patriot arrangements.
The Foreign Account Tax Compliance Act (FATCA) was enacted in 2010 in the United States to address noncompliance by US taxpayers using foreign accounts. Foreign financial institutions (FFIs) are now reporting information directly to the IRS information related to financial accounts held by US taxpayers. Section 6038D, enacted under FATCA, creates complex information reporting requirements for certain US citizens. This provision mandates the reporting on IRS Form 8938 of a broad array of foreign assets, not just foreign bank accounts. Noncompliance can result in substantial penalties to the taxpayer.
Mobile employees may also have a requirement to report foreign financial accounts to the Financial Crimes Enforcement Network (FinCEN) on their Form 114 (or FBAR). Companies should:
- Understand the information reporting requirements for both home and host jurisdictions for their mobile workforce
- Consider the impact on Ex Patriot arrangements
- Consider the tax filing requirements of IRS Form 8938
Frequent Business Travel
Companies with a highly mobile workforce are at increased tax compliance risk. The sheer difficulty of tracking movements contemporaneously, keeping up with compliance requirements, often requires a sophisticated tracking solution. If steps aren't taken to get in front of this, increased individual income tax, value-added tax, and employment tax can arise. Individual registrations in foreign jurisdictions will be required also. Companies should:
- Review the activities of all business travelers
- Review treaty provisions with host countries to determine if relief is available
- Adopt a comprehensive tracking solution
- Ensure consistency in what is being presented for tax purposes to other representations made, for instance, immigration purposes
Entering New Markets
Growth initiatives are typical for all companies, especially companies that offer products and services to emerging foreign markets. However, cost containment should also be considered. Tax advice on corporate structure, cross border employment strategies, and equalization policies should all be considered as well.
- Efficient global employment structures should be considered upfront to avoid unnecessary tax cost.
- Consider limiting tax reimbursements for non-company income
- Consider special rules for employees who separate from employment, but remain in a foreign location
- Consider policy language regarding delayed tax reimbursement pursuant to Section 409A
Acquisitions and Dispositions of Business Interests
Due diligence of pre-closing liabilities is a critical of any acquisition or disposition transaction. Although 'known liabilities' are generally disclosed, there are many mobility-related liabilities which can be unforeseen and create unexpected costs. Examples of potential risk areas include payroll reporting compliance, corporate income tax liability due to PE, acceleration of stock vesting in a home or host country upon change of control, and Section 280G parachute payment tax issues. Companies should:
- Consider including in their pre-transaction risk assessment the potential trailing liabilities associated with a mobile workforce
- Include global mobility teams in the due diligence process
- Understand and document any Section 280G or accelerated vesting liabilities
Payment of International Director Fees
Multinational corporations with a global footprint will often have directors on their boards from multiple foreign jurisdictions. Nonresident directors can present a number of unique tax withholding and reporting issues. Income tax and payroll tax will vary by country and diligent tracking of all obligations to foreign directors will help to reduce risk. Unless exempt from US tax under a tax treaty, a nonresident director of a US company will generally be subject to US federal income tax on US sourced compensation received for their services. Section 1441 of the Tax Code covers reporting and nonresident withholding rules. Form 1042-S, if not properly and timely filed, may result in a variety of penalties for the US company.
If director meetings occur outside the home jurisdiction, it may give rise to the entity having a tax residence elsewhere if that residency depends on the entity's place of management and not solely on its place of incorporation. Companies should:
- Review the status of directors on the company's board of directors
- Develop a process to track director meetings and activities
Consider treaty exemptions and Form W-8BEN to validate foreign status of directors