The Global Mobility. Top Ten issues for tax directors to think about. Contents

Transcription

1 The Global Mobility Top Ten issues for tax directors to think about Contents Cross-border employment structures p2 Enterprise level tax risks p2 Frequent business travellers p3 Inter-company equity chargeback agreements p3 Deferred compensation arrangements p4 Swiss and foreign pension plans p4 Withholding and payroll compliance p4 Information reporting requirements p5 Non-resident director fees p6 Tax equalisation costs p6

2 Cross-border employee mobility is exploding Companies are struggling to keep up with the demand for mobility and the compliance issues associated with it. Human resource (HR) departments are implementing global mobility programme designed to manage complex international relocations and get talented employees on-site where needed, often at a moment s notice. However, the activities of individuals in foreign locations can create a variety of individual and corporate level tax issues for the enterprise, depending upon the circumstances. These issues are many times intertwined and can become very complex to address. Focus on compliance risks, upfront planning, and budgeting The #1 job of the global mobility tax programme is to effectively deploy human talent to the location the resources are needed in a cost effective and efficient way. However, the corporate tax department s responsibility is typically broader: Managing corporate level tax liabilities and engaging in upfront planning involving all international business in order to reduce the organisation s overall effective tax rate. Top management typically overrides the corporate tax department in managing compliance risk for all domestic and foreign tax liabilities, i.e., they are ultimately responsible for any tax-related problems that arise. As part of managing compliance risks, the corporate tax department should also understand areas that can require more in-depth, complex analysis and may potentially increase risk. Although the corporate tax department may not be responsible for performing actual individual assignee tax calculations, there are several issues that may arise that are particularly challenging. The Top Ten This brochure gives you insights into our top 10 global mobility issues that corporate tax departments should consider. This list is not exhaustive. Rather, it is designed to provide corporate tax teams with a high-level understanding of issues impacting mobility programme to help them identify relevant corporate tax issues and franchise risk. 01

3 1 Cross-border employment structures Corporate tax departments should be involved when deciding the proper structure of temporary international work assignments. Many companies adopt a so-called home country model that attempts to maintain a common law employment relationship with the home country employer and loan or second the employee to the foreign affiliate. This allows the employee to continue the employment relationship with the home country employer for continuity and consistency of benefits while providing a link to the host country employer for execution of an assignment related activity (wage withholding and reporting, assignment related benefits, etc.). Other companies may opt for a home/host agreement with the salary being delivered by more than one entity making the determination of the ultimate employer a critical factor. How do different employment structures affect the enterprise and reduce risk? How do companies facilitate the cross charge of costs and substantiate corporate deductions? Employment relationships should be clearly documented to substantiate the employer relationship, the entity benefiting from the services and the process by which inter-company charges should be facilitated. 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. But it does not always expand upon the individual s relationship with the host country entity or even state who the employer is. Proper inter-company documentation of the facts could help to eliminate any misunderstandings that might otherwise exist with respect to whether the employee s activities create corporate tax exposure. Upfront analysis should allow the corporate tax department to weigh in on more complex assignment scenarios. Contemporaneous documentation also enables the entity to be better prepared in case of an audit. This documentation often serves as a roadmap for auditors seeking initial substantiation for deductions and proof of compliance with transfer pricing requirements. Companies need to choose and document efficient cross-border employment structures that enable tax, business, and other compliance needs. The process starts with asking a variety of questions that should drive the necessary documentation. Which entity should be treated as the employer of the assignees and for what purpose? What is the expected compensation and benefits cost allocation between related entities during the assignment period? Which entity will ultimately bear the labour costs and claim the tax deduction? The documentation should make clear what the inter-company service relationship is between the home and host country entities as well as the relevant employment relationships. Whatever inter-company agreement is put in place, it is not a substitute for the international assignment letter issued directly to the employee. The two should be in harmony and not contain any conflicting statements. 2 Enterprise level tax risks The international relocation of employees on short and long-term assignments (typically anywhere from 3 months to 5 years) may create a so-called permanent establishment (PE) risk for the enterprise. Companies may fail to establish or enforce guidelines designed to limit the creation of a taxable presence for the home country employer. The actual presence of the individual in a foreign jurisdiction may create an unintended taxable presence. The unfortunate result can be the requirement to register as a taxpayer, to file local country returns, and to remit taxes. Failure to do so could result in interest, penalties, and other costs and sanctions. A variety of enterprise level tax obligations may be generated, in addition to the individual s liability. These include coporate tax liability for the employing entity, as well as an obligation to charge or otherwise account for value-added type taxes (VAT). This latter tax may arise because the performance of services in many countries by globally mobile individuals may generate VAT obligations. Corporate tax departments need to understand the structure and nature of temporary international work assignments. How many employees will be working in a particular location? What activities will they be performing? What is the duration of the assignment as well as the long-term plan for business operations in that location? All of these factors are necessary to gauge the level of enterprise tax risk by jurisdiction. Working with HR departments and monitoring this risk for global mobility programme should be a fundamental part of the corporate tax department s risk management activities. Further, the tax department may think about when this coordination with the HR function should occur after the globally mobile individual is overseas, or perhaps before the activity takes place in the planning stage? How to efficiently manage these enterprise level tax risks can vary greatly depending on the organisation. 02

4 3 Frequent business travellers Many companies employ individuals who are resident in one country, but who travel (sometimes quite frequently) to other jurisdictions to conduct business activities. Business teams may incorrectly assume that if an individual spends less than a specified number of days in a particular tax jurisdiction (usually 183), no tax consequences will result from the individual s activities. This is often not the case since the frequent business traveller may not be resident in a treaty partner country that contains favourable thresholds for incurring tax. Or, depending on the structure of the assignment, an individual may not be eligible to use the treaty. What adverse consequences may arise? In addition to incurring individual income taxes, the nature of the individual s activities may create corporate income and value-added tax exposures as well as requirements to track and submit special reports to the authorities in the host country. This may occur even if the time spent there is relatively limited. In addition, there may be immigration issues to contend with if an individual travels frequently to a foreign location. These concerns apply equally to inbound and outbound internationally mobile executives. Tax directors are becoming increasingly concerned about the potentially adverse tax consequences caused by these travellers. Countries are expanding their audit activities due to the need for revenue to fund fiscal deficits. Audits related to PE, employer withholding and reporting are becoming more frequent and aggressive. Tax authorities may inquire about company personnel and their presence in the country. However, the company s task of compiling such information in response may be very challenging if no process is in place to track this information. Companies should review the activities of employees who travel across-borders on business to determine whether there is any tax exposure at either individual or corporate level. A treaty may provide relief from personal income tax for short-term business travel under the dependent personal services article. However, to claim such relief, most treaties tie personal income tax liability to whether the corporate employing entity has a PE in the host jurisdiction, something which only the corporate tax department is likely to know. In addition, one must consider whether employment costs are recharged to an affiliate in the country where the individual is working. The treaty may also look at the length of time that services are provided to determine if corporate income tax is due. For example, is the business traveller part of a larger group of employees working there and perhaps part of a plan for a long-term presence in that country? A significant challenge is that the company may or may not be aware of existing business travellers (hence the term stealth travellers ). Companies may consider establishing a monitoring programme by leveraging technology so as to document and understand travel patterns and exposures. 4 Inter-company equity chargeback agreements In many situations, stock-based compensation granted by a parent corporation may not be deductible at the foreign affiliate level for corporate tax purposes unless active steps are taken to recharge the cost of the stock award to the foreign affiliate in exchange for a cash payment from the affiliate to the parent. This is the case generally even where the foreign-based employee has been subject to personal income taxation on the full fair market value of the stock award, usually at vesting/transfer. Note that Swiss GAAP and international accounting standards (IFRS2, etc.) generally require the stock-based awards to be recognised as an expense on the books of the corporation over the vesting period. The ability to claim a cash corporate tax benefit can be an important consideration in minimizing costs to the enterprise. On a related point, depending on the method used to account for such awards in Switzerland, it may be necessary to determine whether the method of settling stock awards creates unintended liability accounting owing to the minimum statutory withholding requirements. A corporate tax benefit may arise by recharging the costs which are generally only tax deductible if the following general conditions are met: Costs have to be remuneration costs of the company Costs recharged have to meet the arm s length requirements The recharge system is properly documented The moment in time when costs are recharged is of strategic importance and can have significant financial impact. As a general rule, equity recharge agreements should be put in place to ensure that the foreign affiliate, benefiting from the services of the employee, bears the cost of the stock-based compensation. The agreement should be clear on the allocation method used for the cost connected to the stock-based award where the employee provides services to more than one affiliate during the stock vesting period. In addition, stock awards may be net settled where shares are provided to the employee net of withholding tax, social security and exercise price, if any, and the employer is using its own funds to cover the withholding taxes payable to the tax and social security authorities. The company should review whether the foreign withholding rate(s) used is higher than the applicable statutory minimum, as this can sometimes lead to adverse accounting implications. 03

5 5 Deferred compensation arrangements In many situations, deferred compensation arrangements are not necessarily tax deferred. Taxes arise when the employee has acquired the irrevocable right to the remuneration, if not earlier. This may occur despite the fact that no cash payment has been made to the employee to fund the tax. The result: taxes may be due unexpectedly in certain countries, and if the employee is on assignment, tax costs may inadvertently be passed on to the employer under the terms of a tax equalisation or protection agreement. Typically, the taxable amount in Switzerland is determined and the taxes are due each year at the time of deferral or, at the latest on the payment date (in the latter case, this is generally calculated by reference to the portion of the vesting period during which the employee was Swiss tax resident). For employees moving to Switzerland, the entire payment may be taxed here unless the relevant double tax treaty can provide some relief. For annual bonus plans, the tax authorities may agree on a taxation at pay out approach, i.e. by reference to the residence position at that time, as long as this has been agreed upon in writing and applied consistently by the company for both inbound and outbound cases. Deferred compensation plans should be reviewed for effectiveness in Swiss and non-swiss jurisdictions and non-swiss plans should be reviewed for Swiss compliance where participants may be (or may become) Swiss taxpayers. These plans have created the need for companies to manage compliance in multiple locations for a single employee who has relocated and earned (or has been deemed to earn) compensation in several countries. Companies may consider modifying such arrangements or discontinuing their use for 6 Swiss and foreign pension plans In Switzerland many multinationals employ foreign nationals who remain covered by a corporate retirement benefits programme in their home country. A number of treaties provide for favourable tax treatment of employee contributions, employer contributions and growth in foreign plans. Rules can, however, differ widely so specific analysis is required on the applicable treaty and on the specific foreign pension plan. Indeed, some retirement benefit programmes are not considered to be pension plans; instead, the authorities may regard them as pension promises or savings plans that are treated differently. Foreign pension plans usually do not qualify for favourable tax treatment as a Swiss pension plan under the Swiss pension legislation. Thus, employer and employee contributions will be taxable in Switzerland as well as the benefits received whilst in Switzerland. Under general Swiss law, only contributions into Swiss occupational pension plans (LPP) are tax-deductible. Similarly, Swiss pension plans are not tax effective in some countries, so the precise tax treatment of employee and employer contributions and also of the growth in the Swiss plan should be analysed. For example, US citizens working in Switzerland who participate in a Swiss occupational pension plan must report the Swiss employer pension contributions and growth on their US tax return and cannot claim a tax deduction for the employee contributions. Foreign pension plan participants who are Swiss taxpayers should be identified to determine whether and to what extent they have Swiss taxable income resulting from participating in such plans. This can arise when the plan is funded or unfunded. Also, it should be analysed whether foreign employees should be transferred to local pension plans. Finally, Swiss pension plans may trigger tax liabilities in other countries and understanding the impact of the pension arrangements is key to ensure compliance with the applicable tax laws. 7 Withholding and payroll compliance Payroll compliance has become a key area of audit for many countries, particularly where the country obtains a significant share of revenue from payroll withholding and social security taxes by certain dates. In addition to withholding income and other taxes, companies generally have specific requirements to remit their separate share of social security and other payroll taxes by certain dates. Proper reporting to the individual and to the tax authority must also occur. The potential result of non-compliance may include unexpected tax and other costs, interest, penalties, and a drain on resources if an audit occurs. Employers should evaluate whether they are properly fulfilling their global payroll obligations, which can include tax withholding, social tax obligations, as well as reporting requirements. Lack of compliance with these obligations can result in penalties and interest for a company that, for example, should have withheld tax. 04

6 A potentially costly example relates to the taxation of bonuses in transfer years, when employees arrive in or leave Switzerland. The entire bonus paid after arrival is technically reportable and taxable in Switzerland and sometimes also subject to tax at source, but relief may be available if the individual comes from a double tax treaty country. These are costs the corporate tax department will want to avoid by understanding the rules and common pitfalls in the jurisdictions in which they have more significant operations. After departure from Switzerland, the Swiss earned portion of the bonus is subject to Swiss tax at source unless the authorities have agreed to a different approach. Many companies lack robust processes for tracking bonus payments made in transfer years and do not report them correctly to the appropriate tax and social security authorities. The authorities have recently announced that they will start targeting this area. Another example is the operation of withholding and payroll compliance following the introduction of new Swiss rules on equity-based compensation. Going forward new rules on currency exchange rates, special tax rates for employees who have left Switzerland and the calculation of the correct taxable value will pose some challenges for companies who have not yet adapted their processes to comply with the new law and regulations. Depending on the residence position, employment arrangements and other factors, the social security treatment of internationally mobile employees is often different from the tax treatment. For example, social security may be due in the country of residence and tax at source may be due in the country where the employee works. Many companies are not aware that in some cases they should be registering for and paying social security in the country of residence. In some countries, failure to withhold tax at source may result in the amount not withheld being treated as a taxable benefit by the authorities, even if the employee subsequently pays the tax to the authorities or reimburses the tax at source to the employer. This can be a very costly error as employees would normally expect the company to pay the additional taxes and resulting social security. 8 Information reporting requirements Reporting obligations for employers and employees are becoming increasingly complex, and companies face enquiries and audits if such are not handled correctly. A common theme for most companies is the difficulty in educating the head office on the local reporting requirements for certain equity compensation arrangements. The equity plan may have been designed primarily for another country and the head office may not be aware of all the local requirements. The administration of such arrangements is shared with third parties such as banks and brokers who are less familiar with the data and reporting requirements, etc. The systems, processes and tracking capabilities used for managing such arrangements are often inadequate for the diversity of requirements imposed by the various authorities around the world. An example of this is the new tax and social security rules on the reporting of equity compensation in Switzerland which are applicable with effect from 1 January Going forward, both at grant and at the realisation of the taxable benefit, specific details must be shown in the attachment to the salary certificate (for information only if taxation does not yet occur at grant). For international cases, the pro-rata calculation must also be shown. According to the tax circular and ordinances, employers do not have to provide copies of the reporting on equity-based compensation directly to the tax authorities except in certain cases, such as in the case of taxable benefits realised after termination of employment and/or if the person leaves Switzerland. However, the practice in different cantons is already evolving and some cantons expect a full report for all relevant employees and for each year. For social security purposes, the authorities have aligned the treatment with the new tax framework except in international cases where, in principle, these must be discussed and agreed on a case by case basis. This may not be helpful when employers are required to execute option exercises and other requests Companies should understand the reporting and withholding obligations and review their internal processes, especially in light of the new Swiss tax and reporting rules for equity-based compensation. In some cases, especially for internationally mobile employees, the authorities must be proactively approached to seek agreements on particular cases and ensure that reporting obligations are complied with. 05

7 9 Non-resident director fees It has become more common in recent years for companies to have directors on their boards who are resident in other countries. For Swiss companies with non-resident directors, this can present a number of unique withholding and reporting issues. An example of this is the determination of the board fee amount where the individual carries out other (employment) duties for another group company in the country of residence or elsewhere. The tax authorities in the country of residence may challenge the amount paid for the Swiss board fee if it is considered excessive and may seek to tax part of it as salary which can trigger double taxation issues, additional tax and penalties. Another example is the social security treatment of Swiss directors fees paid to a director with employment/self-employment income in other countries. Depending on the nature of work carried out and its classification as employment or self-employment income, a director may become subject to Swiss social security on his entire employment and self-employment income even if the latter represents the majority of his earnings. In these cases, the overseas (unrelated) employer, or the individual, may have to register with the Swiss social security authorities, and will have to pay Swiss social security on the overseas salary. The reverse can also apply and such cases invariably lead to long and costly investigations, settlements and penalties. In addition, an unexpected and potentially adverse tax result may occur in casses where a company conducts directors meetings outside the jurisdiction of the entity. In many countries, this may give rise to the entity having a tax residence elsewhere if that tax residency depends on the entity s place of management and not solely on its place of incorporation. This may potentially cause other tax filings and liabilities. Companies should review the status of board directors in general, and more specifically, carefully analyse the tax and social security position of non-resident directors and the nature of the activities carried out in the various locations (including activities with unrelated companies). They need to develop and implement a process for tracking directors meetings to determine the duties performed and the portion of directors fees earned in each country. In addition, treaties and social security legislation should be reviewed to determine whether any exemption or specific rules apply to calculate the taxable income. 10 Tax equalisation costs Many companies utilise so-called tax equalisation arrangements. These arrangements are economically equivalent to a tax swap the entity itself becomes obligated to pay the actual home and foreign tax amount imposed on the employee in consideration for the employee paying a hypothetical tax amount. Because of the complexities in the compensation and benefits offered to the employees and the variable payments to be made either in the form of non-guaranteed bonus awards or stock-based payments many companies struggle to properly budget and account for tax equalisation costs. An example is the payment of deferred compensation or capital distributions from unfunded pension promises or international pension plans, which may be taxable in the country of assignment. Companies should develop a base line cost estimate of their tax equalisation costs and formalise an accounting policy to deal with the variable pay components. Steps should be taken to avoid large tax equalisation and gross-up payments that are not properly budgeted and accounted for within the books and records of the entity. Examples of such steps may include the following: Companies may consider limitations on reimbursement of employee tax amounts in the case of non-company income where such amounts may create significant exposure to the entity. For example, if spousal income is assessed together with the employees salary (joint filing), this may increase the tax rate on all the income or the spousal income may be treated as the bottom slice and be taxed at lower rates. The tax rate differential may be passed on to the company under a traditional tax equalisation agreement unless changes are made. Companies may also consider policy changes for former employees who remain resident in a foreign location. Could these employees expose the entity to increased tax gross-up costs on final tax equalisation settlements? 06

8 Contacts Hans Geene Partner, Leader Human Resource Service Switzerland Jose Marques Partner, Human Resource Services Western Switzerland PricewaterhouseCoopers AG, Birchstrasse 160, 8050 Zurich, ,. All rights reserved. PricewaterhouseCoopers refers to the network of member firms of PricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity.