Foreign Tax Affairs
19 September 2016
Posted by: Author: Arlette Manyi
Author: Arlette Manyi (FirstRand Group)
An overview of how cross border movement of employees creates tax risks.
The increased global focus by organisations on ensuring growth in their international footprint, especially within Africa, necessitates the cross-border movement of employees. This poses increased tax risks for the global organisation, risks that require effective and pro-active management as a significant portion of these tax risks are related to employees’ taxes.
These employee movements can be categorised into two distinct segments: formal secondments; and adhoc but frequent, short term cross-border business travels. Each category presents its own inherent risks.
Formal secondments present less employees’ tax risks when managed proactively through stringent tax aligned global mobility frameworks, policies and processes. However, even despite the existence of a proactive robust process, certain prevalent employees’ tax risks exist. These risks are usually exacerbated in the adhoc but more frequent cross border business travels undertaken by employees.
With a volatile and agile global business landscape, comes an equally volatile and agile tax risk landscape. This article aims to highlight prevalent areas of concern that currently impact on the changing employees’ tax risks associated with the cross border movement of employees whether short or long term in nature.
Lags in documentation create tax risk
One potential downside to the increased focus on enforcing stringent immigration requirements and the lengthy turnaround times in issuing immigration documents in the African jurisdictions is that expatriate employees may not timeously obtain the required work permits or visas at the time they commence employment. However, business needs may require that employees commence rendering services in a country before they have obtained these documents.
This creates a practical problem as employers are unable to place these employees on the relevant country’s payrolls until the immigration documents are finalised. This creates a situation of non-compliance as the relevant taxes are not withheld on their remuneration. Should immigration authorities and revenue authorities begin to actively and automatically match their data, this non-compliance would become very clear. Besides the tax risk associated with such non-compliance, the risk of immigration non-compliance is extremely high in such cases. These should not be considered in isolation.
Risk created by remuneration in multiple currencies
The current worldwide focus by organisations to grow their Africa footprint has resulted in an increased expatriate population within Africa. One factor complicating payment of expats is the the volatile nature within many African jurisdictions economies that cause frequent devaluations and unpredictable fluctuations in local currencies. This, in turn, has resulted in an increased need to remunerate expatriate employees in various currencies. This is attractive for several reasons including guaranteeing a net pay, however this increases the already high business cost of secondments as well as the cost of attracting and retaining required scarce talent.
Tax risk areas created by this need include the management and capabilities of running payrolls in multiple currencies as well as managing risks relating to exchange control and exchange rate conversions.
A need to consider the potential policy review of foreign employment income exemptions
Arguments have been levelled against the foreign employment income exemption in section 10(1)(o)(ii) as well as the foreign pension exemption in section 10(1)(gC) of the Income Tax Act on the basis that they are counter to the residence basis of taxation. This view has also been expressed by National Treasury and has therefore been highlighted as being reconsidered from a policy perspective. The tax community needs to carefully consider the technical validity and accuracy of this argument as well as to address possible practical implications flowing from these proposed changes in policy, as it could significantly impact South African organisations with large expatriate populations.
Pitfalls of the foreign employment income exemption in section 10(1) (o) (ii) of the Act
Foreign sourced employment income accrued or received by South African tax resident individuals can be exempted from PAYE where a predefined criteria set out by the Act is satisfied. These include that the services must have been physically rendered by the employee outside South Africa (SA) for more than 183 full days in any 12 month period, with a minimum of 60 continuous full days. Several factors play a role in preventing the employees from meeting the required criteria, however the current areas of concern in so far as multinationals are concerned relate to the inability of expatriates to meet the criteria due to group reporting structures.
In a large group structure, expatriate employees as part of their roles have reporting functions which require numerous short business trips to SA. The services rendered in SA during these visits have no economic benefit for the SA entity and is purely part of their executive functions as heads of key business areas of in-country subsidiary entities.
This provision requires substantial review on the practical effect it has on organisations with a mobile workforce to ensure that the policy position is mindful of the changing landscape within which organisations operate.
Concerns around African states requiring expats and their employers to contribute towards Pension and Social Security Funds
Countries such as Zambia and Tanzania require expatriate employees and their employers to contribute to the National Pension and Social Security Schemes. As an example the legislation in Zambia requires multinational organisations operating in Zambia, who have not been accorded International status, to ensure their non-Zambian employees that are below the age 55 years are enrolled with and make contributions to the National Pension Scheme. Expatriates who remain on their home country pension funds, as the expectation is for them to retire in their home countries resulting in double contributions made by expatriates in both their home and host countries. The challenges that arise in these circumstances include accessing contributions at retirement; further secondments to other countries; change in employers; and in most cases there is insufficient clarity regarding the expatriate’s ability to cash out contributions before retirement or on repatriation.
Headaches created by insufficient Double Taxation Agreements ("DTA”)
A large number of African countries such as the Democratic Republic of Congo ("DRC”) have seen an increase in their expatriate population, based on multinational organisations’ increased desire to invest in Africa. DTAs form the base for a significant part of tax risk management, this in turns means that the lack of a DTA between two states increases the tax risks associated with the mobilisation of a workforce between the two countries in question.
For example, substantial tax risks exist in mobilising employees to the DRC based on its lack of DTA network. South Africa and the DRC for example do not have a signed DTA in place.
In Zambia, the existing DTA with South Africa is outdated and not in all aspects aligned to the OECD Model and principles. There is also an increasing unwillingness by revenue authorities to apply the provisions of the DTA where the taxing rights are in favour of the other jurisdiction.
This increases the risk of doing business in such countries emphasises the need for a robust tax risk management policy. This is especially relevant when it comes to mobilising employees to such countries.
Base Erosion and Profit Shifting (BEPS) and the cross border movement of employees
With the current global focus on BEPS it is imperative to consider the role that thecross-border movement of employees may play in creating a permanent establishment risk for an entity. BEPS therefore further emphasises the need for multinational organisations to put in place robust tax risk management controls and processes to manage the permanent establishment risks that may be created by the cross border movement of employees.
Tracking cross-border movement of employees
The presence of an employee physically rendering services in a country in which he is not a tax resident may create substantial tax risks for the employee in his individual capacity as well as for his employer. The creation of a tax liability or tax risk is usually, but not always, based on the individual’s physical presence in that country and can be impacted by the country’s local legislation and DTA provisions where one exists.
It is therefore imperative to track the cross border movement of employees. Project-based employees and frequent travellers within specific business environments where frequent and sporadic travels occur need to be actively monitored especially where these travels are to countries with which a DTA is not in place.
In general terms an employees’ physical presence in the various countries needs to be tracked for a 12 month period. Tracking tools are a necessity in this regard; however, tools available in the market are at times ineffective in tracking these sporadic movements as they require the employees to track and declare their own movements which are often inconsistent. The risk is thus left in the employees’ hands to manage, which is not a favourable position.
Organisations require tools that will assist them in tracking the cross border movement of employees whether on a formal secondment or as a business traveller in a manner that timeously and proactively places the tax risk management control in the hands of the organisation as opposed to the individual.
Despite having robust policies and processes in place, organisations need to be mindful of the inherent tax risks and pitfalls associated with having a mobile workforce.
This article first appeared on the September/October 2016 edition on Tax Talk.