Multinational companies can sometimes have complex staffing needs-from sales to training to project management, there are a variety of different reasons to move a number of employees to another overseas country.
This is something that works fine if the move is only short term, typically less than 90 days or if the multinational has a legally established presence in the country where they want to send the employee. If neither of these scenarios apply, things understandably become a lot more complex.
This is where shadow payroll comes in- this is a process whereby a multinational company can position a number of employees overseas for an extended period of time and still manage to pay them in a legal and compliant manner. With global mobility programs now relatively commonplace, there has been an increase in requirement for shadow payroll. Companies are growing at a faster pace than ever before, and business expansion is pretty much mandated at board level these days. This inevitably results in the movement of employees into new countries and territories in order to establish a base or business process there.
Understandably, this tends to prove challenging for global payroll professionals who are required to make sure that any employees, who are on the move, get paid accurately and on time.
In this article, we will take a fresh look at the shadow payroll process, what is involved, and some of the key responsibilities that global employers need to meet in order to process shadow payroll effectively.
Compliance at its core
The concept of shadow payroll is really about compliance- and processing payroll in compliance with the labor laws and tax regulations local to the country the employee has been positioned in. It is legally enforceable if the employee stays in the country for longer than 90 days or if there are specific visa or work authorization requirements in place.
Shadow payroll is about ensuring that any compensation and benefits received by an employee in a foreign country are ‘shadowed’ in the country of origin when it comes to applying, deducting and reporting any income tax. In essence, it is about paying and reporting and expat employee’s host country taxes while he or she remains on a home country payroll. The process helps the home country employer to remain compliant with all cross-border tax and social security obligations.
It is hugely important to get this right as there are tax obligations in both countries, i.e., where the expatriate employee is currently working (on long-term assignment) and their country of origin. A business in its origin country is required legally to shadow report on any payments and benefits paid to employees of the company but working outside of the country. So, when an employer sets up shadow payroll in their home country, this enables them to fulfil their payroll tax and reporting obligations to the tax authorities in both the home country, and the country where the employee is on assignment. This ensures they minimize any exposure to compliance failure and the subsequent financial penalties that are associated with non-compliance.
Challenges when expanding internationally
It is often the case that international expansion requires the temporary or long-term positioning of key employees in another country. These employeesare often required to help the parent company exploit opportunities and create revenue streams in new markets. But, while the organization may be scaling and expanding, there can be very valid reasons why they are not yet ready or do not wish to set up a legal entity in this new country or market.
As a result, they will look to place members of their workforce in the new country on a temporary basis- this will subsequently be followed by a legal obligation to set up shadow payroll and report on payroll calculations, tax returns and social security. Such a scenario is understandably complex and global payroll professionals who are processing shadow payroll are usually faced with a number of significant challenges:
Tax
New calculations, local country specific taxes, regional nuances, tax refunds and more come into play here. Things can become complicated but there is a legal obligation to get it right, so there is simply no avoiding it. The tax amount due will also vary depending on the exact length of time the employee spends in the country.
Labor laws
Every country is different and cultural nuances are often a factor here-no shadow payroll professionals ever report being lucky enough to have the same labor laws applying to any employees assigned overseas!
Currency and language
These may be predictable challenges but that does not mean that they are necessarily easy to solve. Exchange rate fluctuations for example can have a significant impact on wages and salaries, especially when it comes to things like commissions for sales representatives.
These challenges need to be solved by global payroll professionals who are tasked with ensuring that everything to do with paying employees based overseas is legal, compliant, transparent and above board. The shadow payroll is operated in the background in the host location to calculate and pay any taxes due in that location.
Making it happen
We have established that this is rarely an easy process. There are a lot of moving parts and global payroll professionals require access to some external resources to make it happen. They may need to connect with a local country consultant, local country consultant , financial practice or legal team to be sure they have covered everything for the host country payroll and host country tax. Full responsibility lies with the home country employer, so there is little room for error here.
They will need to be aware of specific calendar dates for tax returns and reporting obligations. Any local nuances will need to be factored into the tax calculation process so they will need to familiarize themselves with how bonus payments, pensions and overtime are accounted for in the host country’s tax system as well as gross to net payroll calculation workings. A social security position in the country may not necessarily be the same as the tax position and it is very important at the outset to establish the correct country for the contributions.
Key things to establish:
- The residential status of the overseas employee
- If there a legal obligation for payroll taxes to be withheld in the country the employee has been assigned to
- What are the social security obligations?
- Are there any exemptions/ expat reliefs, tax treaties or double taxation agreements in place that need to be accounted for?
- Payments and payroll tax filing calendar dates
Ongoing vigilance and monitoring are also required- tax and compliance laws change, sometimes on a quarterly basis, and local country nuances can sometimes happen with only low level or limited communications issued. If this is the case, then the global employer will be heavily reliant on any relationships established in the host country to keep them informed of changes they need to be aware of.
Payroll professionals will need to have open lines of communication with their legal and compliance counterparts to make sure that they are fully aware of what is happening with any shadow payroll process.
Scaleup activity, international expansion and a general increase in global mobility programs is creating a greater need for shadow payroll activity at global employers around the world. While it may be complex and challenging, it is also a legal requirement. Global payroll teams need to be familiar with it and it is very important that they seek out external advice and professional guidance in the countries they're expected to place employees under international assignment for a temporary period of time.
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