As the world we operate in gets more connected, tax regimes around the globe have become more sophisticated in identifying non-traditional taxpayers and carrying out tax policies aimed at addressing the complexities of our highly-connected world, including a focus on the ever-changing landscape of mobile employees. One method many countries use to capture taxes for mobile employees is through payroll tax, globally referred to as wage tax, withholding tax, pay-as-you-go (PAYG), or pay-as-you-earn (PAYE), among others.
The payroll withholding tax operated in the United States and around the world is used for two primary purposes:
- Withholding national or state/provincial income tax on income that an individual earns in a jurisdiction
- Withholding social taxes on income that an individual earns in a jurisdiction, typically including funding by both an employer and an employee
Because each taxing jurisdiction can set its own rules, payroll compliance complications tend to arise for mobile employees, and meeting the resulting requirements can increase the complexity for a payroll professional.
Mobile Employee Assignment Types
To address this complexity, one must first explore the various assignment/mobile employee classifications. Although each jurisdiction can have specific definitions, the common definitions are listed below along with examples as covered under U.S. tax law:
- Long-term assignments—Assignments that are intended to be, and that do last longer than, one year from the initial date of travel. Under U.S. tax law, assignments of one year or greater are considered long-term.
- Short-term assignments—Assignments that are less than a year in nature. Under U.S. tax law, assignments that are less than one year are considered short-term.
- Short-term business travelers—Individuals who travel for business and return to a home base/tax home. This can include individuals traveling to multiple locations domestically or internationally.
- Localized employees—Employees who are hired directly in what might otherwise be considered as an assignment location under any of the three previous classifications. This approach could be taken directly at the outset of an individual working in a new jurisdiction or could be a conversion of an employee working on one of the three previous classifications. Localized employees typically do not receive benefits that may be available for the previous assignment/employee classifications. Under this classification, employees typically sever ties with their home employer and directly contract with an entity in the host location.
Once you have identified the type of assignment/mobile employee classification, addressing the related payroll needs is fundamental to ensure proper compliance is carried out by the payroll department and all other internal and external teams, including vendors such as tax service providers and payroll service providers.
For most long-term assignments, unless there is an exception granted for a special immigration classification or treaty, a long-term mobile employee will become taxable in the host location. As a result, wages earned while working in the host jurisdiction are taxable there. In addition, in cases where a U.S. person is the employee, he/she is also considered taxable resident of the United States as well and is subject to tax on worldwide income from a U.S. perspective.
In the case where a U.S. person is taxed in both the home and host jurisdiction, there is relief from double taxation by way of foreign tax credits on the individual income tax return. For example, the U.S. tax assessed on the income earned in the host country is offset by foreign taxes that were paid or accrued in the host country. The U.S. Internal Revenue Service (IRS) anticipates tax relief in this situation and allows for U.S. federal income tax withholding to be switched off, as withholding in both jurisdictions could lead to over withholding of taxes as the home country tax could most likely be offset by taxes that were paid to the host country as a foreign tax credit.
If a mobile employee is covered by a social security regime in their home country, then it may also be possible to eliminate potential double social taxation where there is a social tax treaty (i.e., totalization agreement) in place. In these cases, the mechanism to eliminate the duplicative withholding is obtaining a certificate of coverage (COC) that documents the payment of social taxes in the most appropriate jurisdiction and allows the social tax withholding in the other jurisdiction to be turned off. For a U.S. person, where the individual is traveling from the United States to a country with which the United States has an active totalization agreement in place, a COC can be obtained to allow the individual to continue contributing to the U.S. social security regime and that same COC can be provided to the host jurisdiction as documentation justifying reducing or eliminating the social tax withholding in that jurisdiction. For a list of countries that have a totalization agreement with the United States, refer to the United States’ Social Security Administration webpage.
Additional considerations that payroll professionals should consider for long-term assignments include
the capturing of all income paid to or on behalf of an employee, capturing all benefits in kind, and capturing all assignment-related allowances including travel expenses when an individual travels back home for home leave. These elements of compensation are all generally taxable in the home and host countries when an individual is on a long-term assignment.
Short-Term Assignments, Short-Term Business Travelers
Assignments that are short term in nature, including those of only a few weeks, may also have payroll implications in both a home and a host jurisdiction. Considerations include the following:
- Will a short-term trip require reporting of compensation in the host location?
- Will there be a corporate charge related to any compensation paid from a home location to the host location?
- Any business expense rules, including regarding per diems, that could impact the taxability and reportability of certain items.
As a first step, it is important to understand whether the host location will require any additional reporting requirements.
- Time spent in the host location (i.e., is there a de minimis threshold for presence and/or income that will impact the need for withholding)
- Income earned in/sourced to a host location (i.e., could be based on the time spent in the jurisdiction or the nature of the payment)
- If an assignment or business travel is to a country that has a double tax treaty with the United States, it may be possible to exempt income from reporting/taxation, if the terms of the treaty are followed.
If an individual travels domestically in the United States, there is a potential state level taxation required which may include reporting, withholding, and may vary from state to state.
Note that where tax treaties are utilized for exempting host country taxation, payroll professionals should be aware of the terms of the treaty, which often include a provision regarding charge-back of the employee cost to a home location which occurs while working or doing business in a host jurisdiction.
One last point for short-term assignments and short-term business travelers, under U.S. tax law, any business expenses incurred under a company’s accountable plan—including per diems—is considered an employee business expense and will generally not be subject to taxation.
Employees who are localized are typically taxable in the host country from day one as they are treated like any other local employees, with their intention to work in a host country for the foreseeable future. Under localization, payroll professionals would treat the localized employee as a new hire (i.e., ensuring proper withholding forms are in place to ensure federal, state, and local tax withholding). In addition, localized employees are generally subject to a full scope of social taxes. For the United States, these social taxes include OASDI (social security), Medicare, federal unemployment tax (FUTA), and state unemployment tax (SUTA).
Note that in certain cases in the United States, localized employees can also include foreign students studying and living in the United States under certain visa types, including student and trainee visas. In these cases, there are rules that can exempt an individual from federal income taxation, state income taxation, and/or social taxation. For example, individuals present in the United States on an F-1 visa (or F-1 OPT) who have obtained employment authorization from the U.S. Citizenship and Immigration Services (USCIS) are generally exempt from U.S. FICA and FUTA tax for the first five calendar years of physical presence in the United States. Once the five-year period has been exhausted, the wages are subject to U.S. FICA and FUTA. The SUTA requirements vary and must be reviewed as to whether this exemption applies. Individuals present in the United States on a J-1 visa are generally exempt from U.S. FICA and FUTA tax for the first two calendar years of physical presence in the United States.
These types of international assignments are increasingly being used as both a talent development tool and a workforce incentive. They can also help the business put the right talent, with the right capabilities, in the right place—where your market and growth opportunities are—at the right time.
This discussion on assignment/mobile employee classifications is only the beginning. If you are responsible for handling the home and/or host payroll for any of these individuals, it is important to find out details about their arrangements and to classify them according to type to apply the appropriate rules.
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Patrick J. Landers, CPP, CPA, is the People Advisory Services Mobility Leader for EY’s Global Delivery Services center, based in Bangalore, India. Prior to his assignment, Landers led a team for EY in Houston, Texas, serving companies across a wide range of industries including oil and gas, construction and engineering, and financial services. Landers has spent more than 24 years specialized in the international aspects of People Advisory Services, including global mobility, international payroll, expatriate taxation, and international assignee technology.
Abbas A. Mirza, CPA, is a Manager in EY’s People Advisory Services practice based in Houston, Texas. Mirza has worked and lived in various countries in the Middle East with EY and has spent more than 10 years serving clients’ various mobility needs in the areas of expatriate tax compliance, social security tax, global mobility policy, payroll, and immigration. Mirza has assisted companies with global mobility policy development for short-term assignments, permanent transfers, strategic assignments, and their short-term business traveler programs.