Global Mobility Tax Issues for International Assignments

Global mobility, the practice of employers deploying personnel on international work assignments, allows companies to place talent where it is most needed. These assignments can range from short-term projects to permanent relocations and can be professionally rewarding for employees. However, an international assignment introduces complex personal tax obligations, as crossing a border for work triggers tax rules in both the home and host countries.

These regulations can create unexpected financial liabilities and compliance challenges. Navigating this environment requires careful planning to understand how each jurisdiction treats an employee’s income. Misinterpreting these obligations can lead to monetary penalties or legal action.

Determining Tax Residency Status

A country’s authority to tax an individual is linked to tax residency, not citizenship. U.S. citizens are a notable exception, as they are taxed on worldwide income regardless of where they live. For most others, establishing tax residency is the first step in understanding tax implications. Since countries use different tests, an individual can sometimes be considered a resident of two countries at once.

The United States uses two main tests to determine if a non-citizen is a U.S. resident for tax purposes. The first is the green card test, which confers tax residency on any individual who holds a lawful permanent resident card. The more common method for assignees is the Substantial Presence Test. This is a mathematical test based on the number of days an individual is physically present in the U.S. To meet this test, a person must be in the U.S. for at least 31 days in the current year and a combined total of 183 days over a three-year period, using a weighted formula.

Other countries have their own frameworks, often using a day count of 183 days in a tax year as a primary measure of residency. Beyond day counts, tax authorities also examine “tax domicile,” which refers to the country an individual considers their permanent home. This is a more subjective measure than a day count and involves looking at factors like the location of an individual’s family, property, and social memberships to determine their center of vital interests.

When an individual meets the residency requirements of both their home and host countries, they are considered a dual resident. This situation is resolved by applying the tie-breaker rules found within the income tax treaty between the two nations. These rules provide a sequence of tests to assign residency to a single country for treaty purposes.

The hierarchy of these tests is:

• Where the individual has a permanent home available
• Their center of personal and economic interests
• Their habitual abode (where they spend more time)
• Their citizenship

If these tests are inconclusive, the tax authorities of the two countries will settle the matter by mutual agreement.

Core Cross-Border Income Tax Principles

Once residency is established, one must understand the principles that govern how income is taxed across borders. The United States practices worldwide taxation, taxing its citizens and residents on income from all sources. Most other countries use a territorial or residence-based system, taxing income earned within their borders or the worldwide income of their residents.

The intersection of these systems can lead to double taxation, where the same income is taxed by two countries. For example, the U.S. may tax an expatriate’s income based on citizenship, while the host country taxes it because it was earned there. This can increase an employee’s tax burden and undermine the financial viability of the assignment.

To prevent this, countries use bilateral income tax treaties to allocate taxing rights. If a treaty exempts certain income from U.S. tax, this position must be disclosed to the IRS on Form 8833, Treaty-Based Return Position Disclosure. The primary tool for mitigating double taxation for U.S. taxpayers is the Foreign Tax Credit (FTC).

The FTC allows a taxpayer to reduce their U.S. income tax liability by the amount of income taxes paid to a foreign country on foreign-source income. The credit is claimed on IRS Form 1116, Foreign Tax Credit, and ensures an individual is not taxed twice on the same earnings.

Taxation of Employee Compensation and Benefits

The compensation package for an international assignee is often more complex than for a domestic employee, and each component can have distinct tax consequences. Understanding how different forms of pay are treated is necessary for both the employee and employer to manage compliance. The source of the income, meaning where the work was physically performed, is a guiding principle in determining which country has the primary right to tax it.

Cash Compensation

An employee’s base salary and bonuses are sourced to the location where the services are performed. The portion of salary earned while working in the host country is subject to that country’s income tax. This allocation is based on the number of workdays in the host country versus the total workdays in the year.

Non-Cash Benefits (Benefits-in-Kind)

Assignment packages often include non-cash benefits like housing allowances, cost-of-living adjustments (COLA), a personal vehicle, or school tuition assistance. In most countries, these benefits are considered taxable compensation. They are valued and added to the employee’s earnings to determine total taxable income, and failure to report them can lead to penalties.

Equity Compensation

Equity compensation, like stock options and Restricted Stock Units (RSUs), presents complex tax challenges. The lifecycle of an award from grant to vesting can span years when an employee may have worked in multiple countries. This gives each country a potential claim to tax a portion of the income.

For stock options, income is recognized at exercise, while for RSUs, it is recognized at vesting. This income must be sourced across all jurisdictions where the employee worked between the grant and vesting dates. This requires meticulous tracking of workdays and creates complex reporting obligations in several countries.

Social Security and Totalization Agreements

Beyond income tax, employees and employers face social security tax obligations. A major issue is double social security taxation, where both home and host countries require contributions on the same earnings. This forces the employee and employer to pay duplicate taxes that may not result in additional benefits.

To address this, the United States has entered into bilateral Totalization Agreements with many countries. The primary purpose of these agreements is to eliminate dual social security taxation and coordinate benefit protection for workers who have divided their careers between the U.S. and another country. Under an agreement, an employee on assignment is subject to the social security laws of only one country.

If an assignment is expected to last for five years or less, the employee will continue to be covered only by their home country’s social security system. To document this, the employer must apply for a Certificate of Coverage from the home country’s social security administration. This certificate proves the employee is exempt from host country contributions, preventing duplicate taxes and loss of benefit eligibility.

Common Employer Tax Policies

Many multinational companies adopt policies to manage the tax obligations of their employees on international assignments. These policies provide clarity, ensure compliance, and make the assignment’s financial aspect predictable for the employee. The goal is to remove tax complexity as a barrier, allowing the employee to focus on their role.

Tax Equalization

The most common policy is tax equalization. Its objective is to ensure the employee’s total tax burden is the same as it would have been if they had stayed in their home country. The employee is not penalized or enriched by the host country’s tax rules, as the company pays all actual home and host country taxes that arise from the assignment compensation.

Hypothetical Tax (Hypo Tax)

Tax equalization is implemented through a hypothetical tax, or hypo tax. This is not a real tax but an amount calculated to approximate the taxes the employee would have paid if they had not gone on assignment. This hypo tax is withheld from the employee’s salary.

In exchange for this withholding, the company agrees to pay all the employee’s actual income taxes in both the home and host countries. This process ensures the employee’s net pay is consistent and predictable, while the company absorbs the risk of higher foreign taxes and manages the complexities of filing returns in multiple jurisdictions.