Key Compliance Considerations for Paying U.S.-based Employees Overseas
For U.S.-headquartered companies, the first step to international expansion is sending experienced staffers abroad. But if an organization lacks an existing presence in an overseas country, it can be easy to run afoul of applicable payroll and tax requirements.
With technology making it easier than ever for employees to work remotely, some organizations are apt to ignore the risk factors of paying American employees abroad. Senior managers often believe that keeping “floating” employees on the U.S. payroll for as long as possible is an appropriate strategy.
The onus typically falls on HR departments and payroll teams to stand up to senior management and push for a fully compliant global payroll strategy. As they implement policies and practices around overseas assignments and relocations, payroll stakeholders are wise to ask a few important questions.
Should we register in-country?
The most straightforward way to enter a new country is to establish a commercial presence inside its borders by registering with applicable authorities, acquiring a local taxpayer ID, and putting overseas employees on an in-country payroll. Though the administrative fees, legal expenses, and set-up costs can be substantial, the formal-registration approach is clearly the most compliant.
Yet if a company is only ‘testing the waters’ for potential expansion into an international location, investing time, money, and effort into establishing an in-country presence can be an unwise use of resources. Same goes when an organization allows a staff member to take his or her job remote to follow a spouse abroad, or when it opts to operate a small team in a foreign country temporarily.
The key to global payroll compliance is to respect the unique circumstances of each situation. The scale of what constitutes “doing business” in a new country tips at a different point depending on the country and the intentions of the overseas engagement: For example, if a U.S. company’s employees simply make business “visits” to a location – without establishing local residences, signing contracts, or generating in-country revenue – the employer likely isn’t crossing the “doing business” threshold in that jurisdiction, so creating a permanent presence may not be necessary.
Yet when overseas assignments are undertaken in order to build new business, the organization will eventually need to establish a legal entity in the new country. In the interim – or in instances of short-term assignments or individual outliers – it’s up to HR and payroll teams to ensure that the pay strategy is appropriate for the organization and the individual assignments.
Is an ‘individual contractor’ approach appropriate?
The riskiest ‘floating employee’ strategy is unfortunately one of the most popular: By classifying an overseas staffer as an individual contractor and paying him or her according to U.S. contractor guidelines, multinational companies can avoid in-country tax and compliance requirements – at least temporarily.
The issue? Creating compliance risks in two countries, rather than just one.
In the U.S., employers must report employee income to the IRS and withhold federal, state, and city taxes. They also have to report to Social Security (and make contributions to it) as well as fund state unemployment insurance, state workers’ compensation insurance, and more. But as payroll professionals know, those rules don’t apply to independent contractors.
Most countries have laws similar to those in the U.S. for reporting employee payroll – and, just like the U.S., they also impose criminal liability and steep fines on those organizations that fail to report it properly or otherwise break the rules.
Broadly, there’s a general sense of what constitutes ‘contractor’ work around the globe: Contractors are essentially short-term, for-hire, and/or self-employed (or working under their own separate business entities). If an individual was treated as an employee in a company’s U.S. operations – working under a set schedule, receiving benefits, and the like – then shifting his or her status prior to an overseas assignment is an unsound strategy and a potential “red flag” for compliance issues.
Which ‘floating model’ meets our needs?
When the in-country registration and independent contractor models don’t make sense for an organization, it falls on HR and payroll teams to advocate for the most appropriate and legal way to pay staff members as ‘floating’ employees.
In the short-term, there’s the option of keeping the overseas individuals on the U.S. payroll – yet the minute an employee’s official place of employment becomes the international country, that approach becomes a compliance risk.
There are several different routes a company can take to mitigate that risk and ‘float’ employees in a compliant manner. CloudPay’s clients have had success with each the four models outlined below, though which is best varies depending on a company’s unique needs. (Note: What follows does not constitute legal advice.)
- Seconding/Secondment: When an organization has a registered subsidiary, affiliate, or business partnership in the international location, they can legally put the person on the payroll of that entity by temporarily “seconding” them to the payroll of the affiliated organization – provided the person has the appropriate work permits, visas, or authorizations required by the overseas country. This approach allows staff members to remain employees of the U.S. organization, but is only possible for enterprises with pre-existing international subsidiaries or affiliates.
- Leasing: In the ‘leasing’ or ‘lending’ model, an individual is ‘loaned’ to, and paid by, an international entity that is entirely separate from the U.S.-based organization – ostensibly because he or she is providing services to that entity in-country. (Leasing constitutes a form of secondment in circumstances where the U.S. company and overseas entity are interconnected.) Some employment agencies specialize in providing leased employment options to U.S. organizations; they usually require that employees resign from the U.S.-based organization temporarily or have their employment suspended for the applicable period.
- Shadow Payroll: A variation on leased employment is creating a separate corporate division with its own “shadow payroll.” For example, an organization can establish a Germany-based division of the company that does something completely different from its U.S.-based operations. Then, when the company needs to send someone to Germany, it can ask that division to fill out the paperwork and report wages according to German law, then reimburse the German division for the costs of the payroll.
- Host country workarounds: Some countries have pre-existing workarounds available to offshore employers who lack an in-country presence. For example:
- In the U.K. and Thailand, a foreign employer exception allows organizations to hire and pay local staff without making local withholdings and contributions. The worker then functions like an independent contractor, bearing the burden of tax and social security filings.
- France, Estonia, Sri Lanka and some other countries offer a payroll law compliance option, under which foreign employers can make special “payroll only” registrations with in-country tax and social security agencies to issue a legal local payroll.
- Other countries – including some in Africa – have created legal payroll option for the worker, whereby the employees can declare themselves as “foreign payrolled” to the local tax agencies.
Ultimately, there’s no one-size-fits-all workaround for overseas assignments. But with the right legal assistance and the guidance of an expert provider of global payroll managed services, U.S.-based organizations can expand wisely – without creating costly compliance minefields.