Salary, premiums, allowances and incentives should be considered
Asking an employee to move to another country for business purposes can be a wise — albeit potentially costly — request.
It is important to be clear about the nature of the assignment upfront with the employee, says Ronny Aoun, an associate partner with Aon Hewitt in Montreal.
“Key factors to consider when determining an expatriate's base salary are the nature of the assignment, the duration of such assignment… and, most importantly, the intention in terms of employment continuity at the end of the foreign assignment,” he says.
Expatriates already working outside of Canada are also often asked to move to another country, which can complicate matters, Aoun says.
Multi-jurisdictional income and differing social security taxes can have a significant impact on an expatriate’s net disposable income.
“An expatriate compensation package normally consists of a base salary, short- and long-term incentives, assignment special premiums, several allowances and benefits,” he says. “Tax responsibilities and liabilities should be clarified by the employer prior to the foreign assignment.”
Tax considerations
There are two very important tax considerations that have to be looked at from the outset, according to Arun Nagratha, a chartered accountant with Trowbridge Professional in Toronto.
The first thing an organization should consider is whether or not the individual can become a non-resident for tax purposes.
“The reason that's important is because if they continue to be seen as tax residents of Canada, then they would be subject to tax on their worldwide income, less any foreign tax credits for any income subject to tax abroad,” he says. “Now, if they sever tax residency, then they could be seen as non-residents and then only be subject to tax in the jurisdiction that they're going to.”
To make things easier for clients to understand, Nagratha likes to use a practical example. If an employee is based in Toronto and earns $100, her effective tax rate may be $30, he says. If that same employee is asked to move to Hong Kong, the effective tax rate in that location may only equal $10.
“If you sever residency, then Canada's not going to tax you on the $100 and Hong Kong's just going to tax you on the $100,” he says. “You're only going to pay $10 of income tax.”
If the employee maintains tax residency with Canada, she will continue to pay a total of $30 in taxes, but $10 will go to the government in Hong Kong and the remaining $20 will be paid to the Canadian government.
“You'd only be taxed on the differential of $20 in Canada,” he says. “If you think of it like a pie, when you maintain residency that pie stays the same meaning you're paying the tax of the higher of the two countries, but that pie is being divvied up between the two countries.”
Employers should also consider the employee's after tax dollars, Nagratha says.
Using another example with the same employee, Nagratha says the employee was left with $70 after tax when she was working in Toronto. If the employee is relocated to Switzerland, she may be taxed $40 on her $100 income.
“(The employee) is going to be coming back to the employer saying, ‘Okay, this isn't fair because I used to have $70 left in my pocket but now I only have $60,’” Nagratha says.
Most workers expect to make a comparable total take-home income when being asked to work outside of the country and will want to know how they are going to be compensated for the difference, he says.
“That's where it's really important for employers to understand the mechanics of the tax situation that the employee's going to be under so they know how that will impact the individual's assignment and what they're left with from an after-tax perspective,” he says.
Employers should also be aware of whether a social security totalization agreement exists between Canada and the country the employee will be working out of, Aoun says.
“(This will) avoid unnecessary payment of dual social security charges,” he says. Aoun is also quick to point out any tax and/or social charges resulting from the foreign assignment are not supposed to have an impact on the way an organization determines the expatriate's salary.
“Any additional tax or social security charges resulting from such an assignment are expected to be transparent to the expatriate on a temporary assignment, despite the additional cost incurred by the employer,” he says.
Common error
Companies may underestimate the total cost of an expatriate compensation package if the tax liabilities on long-term incentives are not factored into the equation, Aoun says.
“Companies can be hit by tax bills related to equity plans after the expatriate has completed his/her foreign assignment,” he says.
Repercussions for errors
It’s the individual’s responsibility to file their taxes on time, but it's the employer's responsibility to make sure they're withholding the appropriate tax in Canada and/or abroad, Nagratha points out.
“There could be interest in penalties if withholdings are not done properly in both jurisdictions,” he says.
