By Donald C. Dowling, Jr., K&L Gates LLP, New York
Often these days, an employer’s headquarters arranges to let staff float off by themselves working in some foreign country not anchored to any in-country registered affiliate employer that does business locally and that can issue a legal local payroll. We might call these “floating employment” arrangements. These scenarios have been popping up ever more frequently lately because technology encourages them: Technology and the on-demand economy facilitate telecommuting from anywhere in the world with just a computer, smartphone, express courier delivery, and maybe videoconferencing and a printer. The big challenge with floating employment arrangements is legal compliance, particularly as to issuing payroll. How can a boss legally payroll someone whose place of employment is a country where the employer otherwise does not do business or have a legal presence?
There are five possible approaches: Structuring that overseas “floating employee” as (1) an employee of a local affiliate (2) employee on offshore payroll (3) “leased” employee (4) employee on “shadow payroll” or (5) legitimate independent contractor. None of these five approaches is a magic bullet that works best every time. Which of these approaches is the best fit in a given floating employment scenario depends on local law and on factual variables like: how long the worker expects to remain in-country; what ties the worker has to headquarters; how the in-country tasks relates to the local host country market; what other ties the boss has to the host country; whether the boss has an in-country business partner to issue payroll; and whether others work for the organization in the host country.
Consider all five possible approaches for any floating employee assignment. Select the one that works best this time.
1.Employee of a local affiliate: The presumptive way a boss is supposed to engage and deliver pay to a worker overseas is for the organization to step up and register a corporate employer entity in the worker’s place of employment—a local subsidiary, branch, or representative office. Viola! The newly-registered local entity legally employs the worker in-country, issuing a legal local payroll. The new entity gets a local taxpayer identification number with which it payrolls the worker locally (usually using an outsourced payroll provider—remember, a payroll provider cannot issue payroll for an employer that does not give the payroll provider its in-county taxpayer identification number). Registering is what local corporate regulators, local tax agencies and local lawyers expect foreign employers to do when they come into a country and employ and pay staff. Registration is the default approach.
But the default approach can be slow, expensive and complex. With just a staffer or two in a new overseas jurisdiction (maybe only temporarily), corporate registration can be impractical, especially when a worker moves to the new country for personal reasons that the boss only reluctantly agrees to accommodate. Registering makes sense when launching a “greenfield” brick-and-mortar facility in a new country. But registering is not always viable with just a stray floating employee or two. The boss may seek a simpler, cheaper, faster way.
2.Employee on an offshore payroll: Where corporate registration is not viable, the easiest way for headquarters to employ and payroll someone working in a country where the employer organization has no legal presence is the offshore payroll model: Headquarters or one of its affiliates simply hires (or keeps right on employing) the worker directly, payrolling on offshore (headquarters or affiliate) payroll as if the worker simply worked in the payrolling country. Payroll gets direct-deposited in the worker’s bank account, which he the worker accesses from the host country. The boss might even pay full gross wages without making any reporting/deductions/withholdings to any government authorities―the payroll country may exempt the worker from its payroll laws because the place of employment is abroad. Meanwhile, the employer will not be set up to issue a legal payroll or make payroll deductions in the host country place of employment. (This gets more complex in scenarios where the home country regulates offshore payroll, like a U.S. citizen working outside the U.S. directly for a U.S.-registered employer or an expatriate from Brazil, Ghana, the Philippines or other countries that regulate payroll of expatriates working abroad.)
Offshore payroll is logistically simple. The challenge is compliance with host country payroll laws. The country A employer with an employee but no legal presence in country B has no country B taxpayer identification number and so cannot possibly make country B payroll reporting/deductions/withholdings. Again, even an outside payroll provider needs its client’s local taxpayer identification number. “Impossibility” is no excuse for evading payroll laws, because compliant payrolling is quite possible if only the boss registers as doing business in the host country.
Even with these challenges to offshore payrolling, there are two scenarios where offshore payroll might be legal: short sojourn and host country work-around.
•Short sojourn: When a worker’s overseas sojourn is short enough, home country payroll works just fine. The employer takes the position the overseas stay is a mere business trip or working vacation, and the place of employment remains at home. If an American or Canadian attends a week- or month-long conference or business meeting in Italy or Hong Kong, no one would expect that traveler to get payrolled on an Italian or Hong Kong payroll, because Italy or Hong Kong do not become the place of employment. The same is true for an American or Canadian staffer working in Italy or Hong Kong for a week, a month, or maybe even longer. Whether this staffer must file a personal tax return in Italy or Hong Kong is a completely separate issue―personal tax residence is a legal concept unrelated to place of employment.
The inevitable question, of course, is: How long can a stay in a foreign country last before the county becomes the place of employment? We already answered this question: There is no predetermined amount of time, because “place of employment” is not strictly a function of time. The “short sojourn” payrolling strategy works for short trips but gets weaker as work time abroad increases. It gets hard to defend when someone works overseas for most of a year.
•Host country work-around: While the payroll laws of a country usually reach staff working in that country, some payroll laws obligingly offer work-arounds for a foreign boss with no in-country presence or place of business other than a stray local employee or two. Payroll law work-arounds are not particularly common (and American employers have no right to expect them, because U.S. law does not offer one for overseas employers of stateside-working staff). But where a work-around is available, it can be quite helpful. These work-arounds fall into two categories: foreign employer exemption and payroll law compliance option for the employer.
a) Foreign employer exemption: While payroll laws tend to attach to workers’ places of employment, some jurisdictions helpfully confine their payroll mandates to in-country staff transacting business locally or occupying local premises. These payroll laws expressly or implicitly exempt offshore bosses that neither transact business in-country nor occupy in-country premises. The worker―a local taxpayer employed by an unregistered offshore employer not doing business locally―bears the sole burden of tax and social security filings, as if self-employed. The worker self-registers with government authorities as if self-employed.
Guatemala, Ivory Coast, U.K., South Korea and Thailand are examples. An offshore employer conducting no business in these countries―that is, an organization that somehow manages to employ staff in Guatemala/Ivory Coast/U.K./Korea/Thailand without having a “permanent establishment” or local office—might legally pay in-country employees on home country payroll without violating Guatemala, Ivory Coast, U.K., Korean or Thai payroll law. But this exemption is fragile because it shuts down as soon as the host country can make the case that local staff are transacting business locally on behalf of their foreign employer, or that staff’s workplace has become the employer’s in-country office.
Of course, in these countries the boss should get a contractual commitment from its staff committing to self-register and stay self-registered—employee non-compliance could implicate the boss in a payroll law violation.
b) Payroll law compliance option for the employer: Some countries (France and Estonia are two examples) do not fully exempt foreign employers from their payroll laws but offer procedures by which a foreign employer with no in-country “permanent establishment” can come in and make a special “payroll only” registration with local tax and social security agencies. The foreign boss registers as an offshore-payrolling employer, and the country issues it a special offshore-payroller identification number with which to issue a legal local payroll every payday. (The employer will likely involve an outsourced payroll provider to handle local payroll logistics.)
In addition to work-arounds allowing for offshore payroll, there is also the illegal way: Pay an overseas employee on a home country payroll without complying with any express payroll law work-around. On any given day, thousands of people around the world probably work in host countries illegally on “offshore” payrolls. But this is illegal.
3.“Leased” employee: The third way a boss might legally engage the services of, and payroll, floating staff in some country where it has no payrolling presence is the “leased” employment model, also called “outsourcing” or “secondment”: The would-be employer enters a business-to-business contract with some host country partner―a collaborating business, supplier, customer or locally-operating temporary services agency like Adecco, Manpower or Kelly Services. That in-country partner then hires and payrolls the particular worker and “leases” (assigns, outsources, seconds) his services over to the offshore principal. The offshore principal (the actual boss) has privity of contract only with the collaborating business partner, not the worker. The worker gets classified and payrolled as a local employee—not a self-employed contractor and not an employee of the offshore principal. While the worker’s nominal employer is the in-country business partner, his beneficial employer (actual boss) is the overseas principal that gives day-to-day work assignments. If the employee used to work directly for the overseas principal in another country, he resigns from the principal or temporarily suspends the direct employment relationship.
In these situations the beneficial (actual) employer always faces risk of co-/dual-/joint-employer liability, if the nominal employer breaches its duties as employer.
4.Employee on “shadow payroll”: A fourth possible structure is “shadow payroll.” A shadow-payrolling offshore boss arranges with an in-country-registered partner organization (affiliate, partner business, supplier, customer, temporary services agency or “payroll agent”) to payroll the floating employee while he works in-country, just as if he worked for the payrolling partner organization. The offshore employer (the actual boss) pays the worker but the in-country payrolling partner shows the worker as employed and paid on its own local payroll. The in-country payrolling partner makes payroll reporting/withholdings/deductions, which the offshore boss duly reimburses—often adding a services fee along with the monthly reconciliation of payroll charges. On paper host country tax and social security authorities see the worker as a legally-payrolled employee employed by the local payrolling partner. Behind the scenes, though, the actual offshore employer has a business-to-business contract delegating to the in-country payrolling partner responsibility for making local payroll filings on behalf of the worker. The employment contract and expatriate documentation make clear that the worker remains employed and compensated by the actual offshore employer boss. The in-country payrolling partner merely does a pass-through payroll accommodation, reconciled monthly with a direct reimbursement from the employer. The worker and the in-country payrolling partner have no contractual relationship.
5.Legitimate independent contractor: The fifth and final way a boss might legally engage the services of floating staff in some country where it has no payrolling presence is the independent contractor model: The worker provides services as a legitimately-classified independent contractor who is not a misclassified de facto employee. A contractor who used to work for the organization in another country (say, at headquarters) resigns from the employer—or at least temporarily suspends the employment relationship.
The challenge here is that in most countries independent contractor classification status is fragile and easily susceptible to being recharacterized as de facto employment. Potential traps lurk in cross-border independent contractor classification. Companies and non-profits face expensive cross-border litigation when they misclassify de facto employees as nominal contractors. Overseas independent contractor classification is its own topic that requires a detailed compliance analysis of its own.
A separate challenge is that even where a contractor might be properly classified, services providers themselves sometimes resist being classified as contractors, preferring to be payrolled employees.
