Equalising expatriates' tax with domestic staff
How do employers ensure that expatriate employees deputed to India do not pay more tax than what they would in their home country? Paresh Parekh & Tejas Mehta have an answer.
MUMBAI: Nirav, working in the US is deputed to India for an assignment. His annual taxable salary is $1,000, on which his tax liability in the US is $200. However, if his tax liability is $300 in India, Nirav will be discouraged to come here as his net take home pay will be reduced to $700 ($1,000 – $300) as against $800 ($1,000 – $200). Accordingly, to ensure employees like Nirav are treated at par from an income tax outgo perspective, employers usually follow a policy called the Tax Equalisation policy.
Under the Tax Equalisation policy, typically, the employer calculates income tax at the beginning of the year, which the expatriate would have paid if he continued working in his home country and had not gone on overseas assignment.
This estimated amount of income tax which the expatriate would have paid in his home country is withheld from the expatriate’s salary as hypothetical tax (‘hypo tax’). In that case, the host country as well as the home country, the tax is borne by the employer. The hypo tax withheld is generally retained by the employer. However, it may be used to deposit the expatriate’s home country tax liability on salary income.
In the table, when Nirav comes to India, an amount of $200 will be withheld from his salary. The actual tax in India and the US will be paid by his employer and hence his net take home pay will continue to remain $800. This will ensure there is no additional tax liability on him as a result of his assignment in India.
At the end of the year, or, after the end of the assignment, the employer does a true up of what the expatriate has actually paid during the relevant year and the hypo tax withheld from the salary. If the hypo tax withheld from the expatriate’s salary is more than his actual tax liability, then, this differential amount is paid to the expatriate.
In the above example, where the hypo tax withheld is $200, (if the actual tax paid by Nirav in home country is $150,) the differential amount of $50 will be paid to him at the end of the year or end of assignment. Whereas, if the actual tax paid by Nirav is $250, then the differential amount of $50 will be recovered from him.
Even though a Tax Equalisation Policy increases administrative burden on the employer and requires detailed planning and robust documentation, it removes the barrier of differential taxation in different countries from global mobility. A Tax equalisation policy also enhances the corporate image of the organisation as one which facilitates and ensures expatriate tax compliance in different countries. Further, such a policy is preferred by employees since they remain tax neutral.
Ernst & Young
Under the Tax Equalisation policy, typically, the employer calculates income tax at the beginning of the year, which the expatriate would have paid if he continued working in his home country and had not gone on overseas assignment.
This estimated amount of income tax which the expatriate would have paid in his home country is withheld from the expatriate’s salary as hypothetical tax (‘hypo tax’). In that case, the host country as well as the home country, the tax is borne by the employer. The hypo tax withheld is generally retained by the employer. However, it may be used to deposit the expatriate’s home country tax liability on salary income.
In the table, when Nirav comes to India, an amount of $200 will be withheld from his salary. The actual tax in India and the US will be paid by his employer and hence his net take home pay will continue to remain $800. This will ensure there is no additional tax liability on him as a result of his assignment in India.
At the end of the year, or, after the end of the assignment, the employer does a true up of what the expatriate has actually paid during the relevant year and the hypo tax withheld from the salary. If the hypo tax withheld from the expatriate’s salary is more than his actual tax liability, then, this differential amount is paid to the expatriate.
In the above example, where the hypo tax withheld is $200, (if the actual tax paid by Nirav in home country is $150,) the differential amount of $50 will be paid to him at the end of the year or end of assignment. Whereas, if the actual tax paid by Nirav is $250, then the differential amount of $50 will be recovered from him.
Even though a Tax Equalisation Policy increases administrative burden on the employer and requires detailed planning and robust documentation, it removes the barrier of differential taxation in different countries from global mobility. A Tax equalisation policy also enhances the corporate image of the organisation as one which facilitates and ensures expatriate tax compliance in different countries. Further, such a policy is preferred by employees since they remain tax neutral.
Ernst & Young
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