When it comes to compliance on your globally mobile employees, one of the most challenging aspects of achieving or maintaining compliance on tax withholding and reporting for your globally mobile employees is keeping pace with changes to applicable legislation and standards. Today, I highlight the top three recent changes that might impact your global mobility compliance.
France
Effective April 1, 2011, withholding on nonresident income from French-qualified awards will be required by employers. Fortunately, this is only applicable to the French-sourced portion of the income, but it is a change from the current withholding requirements. Like other tax withholding issues in France, there is always the thread of jail time or individual financial penalties for failure to comply. You can find more information about this legislation in the Pricewaterhouse Coopers article, Recent Legislative Updates.
China
As noted in this Ernst & Young alert, China will begin requiring employers to make of social security insurance contributions for all employees, including foreigners working in the PRC in July of 2011. Associated with this requirement is a host of administration concerns including actually enrolling nonresident employees with the appropriate social insurance agency, completing monthly contribution reporting, and issuing applicable termination certificates. To put some teeth in the requirement, there will also be a greater liability for noncompliance including fines of up to 300% of the missed payments.
United Kingdom
Thankfully, there is some relatively good news from the United Kingdom. Included in the new budget is the potential for some relief for mobile employees. Although not in the form of a tax break or even easier withholding processes, the UK Treasury has finally determined that it is time for a statutory definition of residence. Currently, residency in the UK is particularly ambiguous and based mostly on interpretations of case law and HMRC practice because the essential concepts of residence, ordinarily residence, and domicile are not clearly defined in UK tax law. As Deloitte highlighted in this alert from March of last year, the landmark case of Robert Ganes-Cooper created confusion for individuals and companies after it was determined that Mr. Ganes-Cooper was a tax resident. (You can also check out both Mr. Ganes-Cooper’s version of the facts and the HMRC’s statement on the case.) Although Mr. Ganes-Cooper satisfied the requirements outlined in the IR20 (The IR20 was replaced by HMRC6 in 2009), he didn’t actually leave the UK for tax purposes, which means he is still a resident and that the IR20 is not applicable.
This isn’t the first time that there has been a call for a clear definition regarding residency. In fact, both the IR20 and subsequent HRMC6 were intended to provide a clear test. The Treasury is hoping to create a new residency test in 2011 and will begin a consultation process on the subject in June of 2011. I am curious to see what ambiguity can be cleared up by the new test once it is available.
Ah, 1969–the summer of love…and the birth of AMT. The Tax Reform Act of 1969 created a minimum tax designed to ensure that individuals with high incomes could not avoid paying federal income tax (thus, the concept of a minimum amount of tax that must be paid by high income filers). This was in response to a scandalous statement that 150 tax payers making over $100,000 paid no income tax. This minimum tax evolved into what is now the Alternative Minimum Tax. Although AMT receives regular bombardment on all sides, the revenue stream that AMT provides the federal government has made it prohibitive for anyone with the power to change the system to speak up and push for a solution (However, many politicians are perfectly happy to talk about the problem).
The Confusion
The fundamental differences between regular income tax and AMT are that AMT has only two tax brackets and that many exemptions and itemized deductions are not available under AMT. Because AMT is a parallel tax system, it’s difficult for many individuals to even determine if they are subject to AMT or not. In any given year, all tax payers theoretically need to consider whether they are subject to ordinary income tax or AMT. There is no one test to determine if you need to pay AMT; essentially, you must compute your taxes due under both systems and determine which is higher. A lot of middle income tax payers assume that their tax filing is so simple that surely they don’t need to worry about AMT. However, even if you have only personal exemptions and take the standard deduction, it is possible (extremely unlikely, but possible) to end up being subject to AMT. Fortunately, virtually all tax programs incorporate questions to help you determine whether or not you are subject to AMT and the IRS provides a handy little AMT Assistant that will help you determine if you should even bother.
ISOs and AMT
Incentive stock options create a special set of confusions and misunderstandings when it comes to AMT. Here are a few reasons why:
If an employee exercises an ISO and doesn’t sell shares in the same tax year, she or he needs to file Forms 6251 and 8801 for the year of exercise – regardless of whether or not AMT is due. Now that the IRS is being notified of ISO cash exercises courtesy of Form 3921, it’s especially important that your employees are aware of this.
If an employee exercises and sells ISOs in the same year, resulting in a disqualifying disposition, there is no AMT income from the ISO exercise (provided all the shares are sold) because you the preferential tax treatment on the exercise is eliminated. It’s important that your employees are aware that Form 3921 does not take any disposition into account.
ISOs fall into a special category of AMT income that is eligible for a tax credit in subsequent year. However, in order to calculate–or even qualify–for the credit, a tax payer must file Forms 6251 and 8801 every year until the credit can be claimed. Claiming an AMT credit is particularly tricky and a fabulous reason to rely on a tax professional, which brings up the topic of tax and financial planning resources for your employees. Calculating the credit is difficult, too, because it is limited to AMT income that is in excess of regular income. Consider partnering with your broker(s) or other service provider to help put employees in contact with tax professionals.
Disqualifying dispositions that occur in a year subsequent to exercise are a mess because the employee could end up with AMT in the year of the exercise and ordinary income in the year of the sale. However, that ordinary income could result in a favorable AMT adjustment when calculating AMT in the subsequent year.
Find out more about ISOs on the NASPP’s Incentive Stock Options portal. Also, the NASPP’s fabulous and freshly updated Stock Plan Fundamentals course starts in April. The entire second session (of six) is dedicated to the taxation of equity compensation, including ISOs.
Today we have a fabulous installment in our Ask the Experts series of webcasts, “Tax Reporting for Stock Compensation.” I thought I’d shake things up and take a look at tax filing from the employee’s perspective.
Income and capital gains associated with equity compensation can be pretty daunting for the average employee. These are my top five reporting mistakes. Your personal top five may differ based on your company’s equity compensation program and the education you provide around taxation.
No Schedule D
Employees who do not understand capital gains at all could have this problem when it comes to reporting any sale. However, it’s much more common when there is a cashless exercise or sell-to-cover transaction, particularly if the company defines the FMV as the sale price. The employee may know that the income is reported and the associated taxes are withheld by the company, assume that the exercise (or vest) and the sale are the same transaction because they happened simultaneously and not even consider the need to report the sale. Alternatively, the employee may understand that the sale price and the FMV on the exercise or vest date is the same and assume that there is nothing to report.
Partial Sale Confusion
When an employee sells only some of the shares from an option exercise or restricted stock vest, it is surprisingly easy to misunderstand what should go on the Schedule D. This is more of a problem for employees doing a sell-to-cover transaction, but can happen even if the sale is from held shares. When referencing the exercise or vest statement, the employee reports all exercised/vested shares as being sold and/or reports the cost basis for the total shares acquired as the cost basis for the shares that were sold. The most likely result is a calculation on the Schedule D that shows a sizable capital loss on the sale. Hopefully, cost basis reporting will eventually help prevent this error.
ESPP – Qualifying Disposition
Qualifying dispositions of ESPP shares are confusing because there is still (in most cases) an income element if there was a discount at purchase. Unfortunately, the most common mistake for employees is not reporting that ordinary income when or if the company fails to do so. The income element of a qualifying disposition is the lesser of the discount as if the purchase took place at the beginning of the offering period (which should now be reported to employees on Form 3922) or the spread between the purchase and sale prices. Failure by the company to report that income doesn’t exempt the employee from reporting it.
The exception is that when the sale price is lower than the purchase price, there is no ordinary income on the qualifying disposition–and that means that employees in this unhappy situation are actually more likely to report it correctly.
Reporting Gain Twice
The most common reason for this error is a misunderstanding of restricted stock vests. The employee reports $0 as the cost basis, effectively reporting the spread at vest twice: once as income and once as capital gains. This can happen with options as well if the employee uses the exercise price as the cost basis for the shares when reporting the sale. Double reporting may also happen if an employee doesn’t realize that the income resulting from a disqualifying disposition of ISO or ESPP shares is already included in the Form W-2 (assuming your company is aware of the disposition and reports it correctly).
Failure to Report an ISO Cash Exercise
Employees with ISO grants have a host of tax concepts to familiarize themselves with, but none is quite as mysterious as the issue of AMT. AMT is such a nebulous issue for most people that it is often given only a brief explanation in equity compensation communications.
Many employees hear the words “no income” and assume that is synonymous with “no reporting obligation.” However, any exercise of ISOs (assuming the shares are held at least through the remainder of the tax year) means that the employee must complete and attach Form 6251 to their tax return, even if she or he is not subject to AMT. If the employee is subject to AMT and fails to report the exercise, this is (of course) potentially a much bigger issue than if the employee simply fails to prove she or he is not subject to AMT.
So, what’s the top five for your company? If you don’t know, start thinking about it now.
Here’s a better question: How do you figure out what mistakes your employees are making? First, anything that you don’t personally understand 100% is bound to be even more difficult for employees. Also, anything comes to you as a question is a potential for a reporting problem. Keep your ears open for horror stories–if it’s happened to one person, it could happen to your employees. Finally, if you’re really ambitious, you could survey a sample of your employees with example scenarios to see if they know how to report different transactions.
The upcoming tax season is shaping up to be a confusing one for your plan participants. They will be receiving new bits of information regarding their equity transactions, all intended to be helpful. The problem with information is that it’s only helpful if you can understand it. As your company gears up for your Section 6039 reporting, don’t push cost basis reporting off as an issue that can wait until 2011 year end.
As Barbara pointed out in her June 2nd blog entry, requirements for cost basis reporting come in phases and 2011 marks the first phase. For regular stock sales, this will be very helpful. For equity compensation, however, this first phase actually provides misleading information. The cost basis that is required to be in Box 3 of the new Form 1099-B is only the purchase price of the shares, not the actual cost basis. While it is permissible for brokers to go above and beyond the requirement ahead of schedule, I doubt that it will be feasible for, especially for sales of ESPP shares, to put processes in place to capture and incorporate the necessary information to report the true cost basis for all sales in 2011.
Tower of Babel
What the communication quagmire boils down to is that employees are receiving an increasing number of communications with numbers that represent some piece of their tax puzzle, but not all the numbers will match or even be relevant. The message to your seasoned employees can be simple and clear: There is absolutely no change in the way you need to report your income or capital gains. This is true for both the Section 6039 information statements that employees may receive for this upcoming tax season as well as the changes to 2011 Forms 1099-B. Your new employees or those who still haven’t fully grasped the concepts behind tax reporting, on the other hand, will need to be given the resources to avoid making costly mistakes.
Double Trouble
Just to review, let’s talk about an NQSO exercise. At exercise, the employee realizes income on the difference between the exercise price and the FMV on the exercise date. For example, if 100 shares of an option were exercised for $10 per share when the FMV is $15 per share, the employee would pay an exercise price of $1,000 and realize ordinary income of $500. The new cost basis for these 100 shares is the exercise price plus the income, which is $1500 or $15 per share.
If the exercise in this example takes place in 2011 and the employee sells 11 shares to cover the taxes due, she or he will receive a Form 1099-B from the broker for the 11 shares showing a cost basis of $10 per share. Leaving the fees and commission on the sale out of the conversation, this means that the employee could easily misunderstand and pay capital gains taxes on that same $5 per share that is reported as income on his or her W-2–effectively paying taxes twice.
The Broker Connection
Brokers are making changes to their back-end systems and the user interfaces to accommodate lot ID for sales of shares. Some brokers already have electronic lot selection for some or all brokerage accounts, but the functionality may not yet apply to shares from employer equity plans. You will want to work closely with your broker(s) to understand what any changes will look like for employees, especially if there will be enhanced modeling features. Get educated on how the broker will determine which lot of shares is being sold through employee accounts and if or how employees can designate specific lot sales when selling online.
Now is also a perfect time to provide information to employees on the acceptable methods for determining cost basis of shares and how to plan for tax filing before they engage in a sale. Many brokers have information and FAQs already available that you can leverage to educate your employees.
Because cost basis reporting is only required for sales of shares that were acquired on or after January 1, 2011, you’ll also want to know what your broker is planning to do about reporting for shares purchased prior to 2011.
Break it Down
If possible, provide your employees with an FAQ that illustrates the cost basis of shares sold from each type of equity award that you offer this year so that next year’s conversation won’t mean starting from scratch. If you need a refresher in any of these, the Conference session, “IRS Cost-Basis Reporting: Are Your Stock Plans Ready?” includes a great list. By working to get employees familiar with the term “cost basis” right now, you help them with their tax reporting for this year, making next year’s conversation easier. If you issue ISOs or have an ESPP, any discussion of cost basis must include a refresher on qualifying vs. disqualifying dispositions, which works perfectly into any plans you have in place for educating employees on the Section 6039 information statements they’ll be receiving.
We are about half-way through the first tax year in which employers have known the income reporting, tax withholding, and valuation requirements for employees in India. Last year (2009/2010) was quite a scramble, with retroactive updates and guidance being provided late into 2009.
Valuations
One issue that companies continue to work with is the calculation of FMV, as a Category 1 Merchant Banker valuation is still required for companies not listed on a recognized exchange (Neither NASDAQ nor NYSE are recognized exchanges.). There were several months where it was unclear whether or not Merchant Banker valuations would be required. If your company reported and withheld based on the market value of your stock during the 2009/2010 tax year, you should have adjusted your reporting at this point.
Frequency
When it comes to Merchant Banker valuations, frequency is still a key consideration (and one that will remain so long as these valuations are required). The regulations state that valuations are only required every 180 days, so it is possible to only value your company’s shares two times a year. However, this may not right for your company, especially if the trading value of the shares has decreased significantly since the most recent valuation.
Double Standard
The difference between the Merchant Banker valuation and the trading value of the stock will remain an ongoing issue regardless of how often your company has a valuation performed. If your stock plan administration software does not permit more than one FMV on a trading date, you may have to provide custom employee communications to accommodate the FMV that was used to calculate income.
Australia
Reporting Obligations
Generally speaking, most options and RSU grants in Australia awarded after July 1, 2009 are taxable at vest. There is no withholding obligation for employers, but there is a reporting obligation of Employee Share Scheme (ESS) statements to both the employee and the Australian Tax Office (ATO). They are not unlike the U.S. Section 6039 information statements in theory; presumably they will help employees better understand how to complete their own tax returns and will help the tax authorities determine if income is being properly reported on tax returns, which they will be auditing (See this alert from Deloitte.)
Valuation
For RSUs, the trading value of the shares at vest may be the FMV for income calculation. However, options are considered an “unlisted right” and might require a valuation method (e.g.; Black Scholes) to determine the market value of the shares on date of the taxable event.
30 Day Rule
One tricky piece of determining the FMV on the taxable date in Australia is the 30 day rule. If an employee sells shares from an RSU vest or option exercise within 30 days of the original taxable event date, then the sale date might be considered the taxable event, provided the company is aware of the sale.
Employees
Individual tax returns for the 2009/2010 tax year are due by October 31, 2010. Employees may still be trying to understand the ESS statements provided to them by the company.
Taking Action
Many companies appear to have moved away from granting options in Australia as a result of the reporting obligations. We completed a Quick Survey on this in September; only 20% of respondents were continuing to grant options in Australia, 38% were not granting options to begin with, and a significant 42% were moving to share grants (like RSUs) or some type of cash compensation.
Last month I wrote about divorce and stock plan management, and today I’m going to tackle the other big “d”…death. Although (thankfully) the death of an employee is a relatively unlikely scenario, it’s one that warrants preparation. None of the issues surrounding the death of an employee can be addressed without an underlying consideration for what the decedent’s family will coping with. Not only is the death of a family member an emotional period, there is also a pretty intense amount of paperwork to be completed.
When it comes to handling equity compensation after the death of an employee, there are issues that are straightforward and those that are subject to interpretation and company policy. This week, I’m only going to cover the tax withholding and reporting since the IRS has made this relatively clear.
ISO and ESPP
For both ISOs and 423 ESPP shares transferred to the estate or beneficiary upon the death of an employee, the statutory holding periods for preferential tax treatment no longer apply. When it comes to tax withholding, this means the company is off the hook. However, there remains a reporting obligation both to comply with Section 6039 and to report ordinary income on discounted ESPP. The transfer of ESPP shares is considered a qualifying disposition. The compensation income, which is the lesser of the discount at purchase or the actual gain at the disposition, is reported on the employee’s final Form W-2. For ISOs, because any sale of shares by the estate or beneficiary is treated as a qualified disposition, the company generally has no income reporting or tax withholding obligation.
Section 6039 Considerations
The exercise of an ISO triggers the 6039 reporting obligations regardless of whether the exercise is made by the employee or by the employee’s estate or beneficiary. This means that the company should still furnish an information statement. In addition, for any exercises beginning in 2010, the company must file Form 3921 with the IRS. (Catch up on the latest regarding Forms 3921 and 3922 in Barbara’s post from Tuesday.)
For ESPP, however, the 6039 considerations hinge on how the company issues ESPP shares at purchase as well as the company’s policy regarding the current offering period both come into play. According to the final regulations, if the purchased shares are immediately deposited into the employee’s brokerage account, this is considered the “first transfer of legal title”. Since this is the prevalent practice for ESPP shares, many companies will provide 6039 information statements to employees and file a Form 3022 (for purchase beginning in 2010) to the IRS subsequent to each purchase. In addition, most companies do not permit the estate or beneficiary to purchase shares in the current offering period, refunding accumulated contributions instead.
This means that for most situations involving the death of an employee, the event that triggers 6039 reporting obligations on ESPP shares has already taken place. If, however, the ESPP shares are issued in certificate form or otherwise held in the employee’s name, or if the employee is not automatically withdrawn from the current offering upon death, the company may still have outstanding 6039 reporting obligations when it comes to ESPP shares.
NQSOs
For NQSOs, the company’s withholding and reporting obligations differ depending on whether the exercise by the estate or beneficiary takes place in the same year as the death of the participant or not. In either case, the company’s obligation to withhold income tax no longer applies. If the exercise takes place in a subsequent year, the company generally has no withholding obligation and reports the income on a Form 1099-MISC issued to the employee’s estate or beneficiary. However, if the exercise takes place in the year of the employee’s death, then the company withholds FICA taxes (but no FIT) on the exercise and reports the income and FICA withholding on the employee’s final Form W-2.
If diving into the latest updates on tax withholding and reporting is on your list, then you won’t want to miss the session, “The IRS and Treasury Speak: Hot Tax Topics and Updates” . In fact, we’ve got all the hottest topics lined up for you this year. If you haven’t already, register today! If you’re already registered, don’t forget to let us know which sessions you’ll be attending.
-Rachel
When all or a portion of a nonstatutory stock options is transferred to the former spouse of one of your employees subsequent to a divorce, there are no income reporting or tax withholding obligations on the transfer. However, the exercise of those option shares requires special handling by the company.
When an incentive stock option is transferred in a divorce settlement, it no longer qualifies for preferential tax treatment. Once the ISO has been transferred, the income reporting and tax withholding obligations are the same as for NSOs. However, if the transfer of the shares happens only at exercise, then the ISO shares maintain their preferential tax treatment. The transfer of the shares at exercise does not constitute a disqualifying disposition. The transferred shares are then subject to the same holding requirements from the date of grant and exercise to determine if the sale is a qualified or disqualified disposition.
Revenue Rulings
There are two important revenue rulings that govern the income reporting and tax withholding on options transferred pursuant to a divorce.
Revenue Ruling 2002-22 establishes that a transfer of nonstatutory stock options as part of a divorce settlement does not constitute an income event. For stock plan managers, this means that there is no need to establish the fair value of the option, report any income, or withhold any taxes on the date of transfer. It also establishes that the former spouse realizes income on the exercise of those option shares.
Revenue Ruling 2004-60 clarifies the withholding and reporting obligations for an exercise made by the non-employee former spouse of options that were transferred in a divorce settlement.
Withholding and Reporting at Exercise
So, we know from Revenue Ruling 2004-60 that the former spouse realizes income at the exercise of options transferred pursuant to a divorce. What’s more, FICA and FUTA are both applied to the income at exercise. But, don’t worry; you won’t need to collect a Form W-4 from the former spouse. The income and FICA tax rates are applied based on the employee’s supplemental income and the Social Security tax she or he paid in that tax year as of the exercise date.
When the former spouse exercises the option, the company withholds income, Social Security, and Medicare from the exercise proceeds based on the employee’s withholding rates. The income tax withholding is attributed to the former spouse, but the FICA taxes are attributed to the employee even though they are paid by the former spouse. The income (i.e.; spread at exercise) and the income taxes withheld are reported on a Form 1099-MISC to the former spouse. That same income amount is reported to the employee as Social Security and Medicare wages on Form W-2. Additionally, the Social Security (if applicable) and Medicare withheld are reported on the employee’s Form W-2. For a great example of this, see our Tax Withholding on Option Exercises Subsequent to Divorce alert. You can also find more information in these recorded webcasts: Death and Divorce: The Lighter Side of Equity Compensation and The 2nd Annual NASPP Webcast on Tax Reporting.
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Registrations for our 18th Annual NASPP Conference are pouring in! If you haven’t already registered, don’t miss out on the special $200 discount on registration fees. This special rate is only available through tomorrow, May 14th!
Domestic mobility can be as complex as international mobility, but it certainly gets less press. With state governments dealing with budgetary difficulties, state tax authorities will be looking to capture as much “lost” tax revenue as possible. There are many situations where an individual may be required to report income and pay taxes in one or more states other than their state of residence, and stock option income is no exception. Most states follow federal income tax treatment for equity compensation, but only some specifically address how equity compensation should be sourced when mobility is an issue. For this reason, it really is best to get tax advice before creating a policy on domestic mobility.
Identifying Mobile Employees
There are three main situations that can lead to equity compensation being sourced to more than one state. The first, and probably easiest, is a permanent move made by an employee or former employee. When an employee or former employee moves from one state to another, you generally only need to assess the income sourcing once and then apply it to equity compensation going forward. Next on the list are employees that work outside their state of residence. This is most likely in the New England states where commuting across state lines can be quite common. Finally, there are employees who perform services for the company in more than one state. These situations can be the most challenging for stock plan mangers not only in determining compliance, but also in simply obtaining the travel information. Unlike with moves or permanent transfers, the details surrounding business trips or temporary assignments may not be evident in standard employee demographic details and must be communicated to the stock plan management team separately.
Sourcing Issues
When it comes to equity compensation, the key to handling domestic mobility is identifying when your company has an obligation to report or withhold on income from stock plan transactions in more than one state, or in a state other than your employee’s state of residence. Once that is established, the next step is to understand how each state sources the income. In many cases, the sourcing is between the grant and the exercise date for options (or vesting date for restricted stock). However, some states only consider residency at grant or at exercise and some completely have unique parameters.
Just like with international mobility, there will likely be situations of double taxation. States generally tax residents on all equity income, regardless of where it was earned. Alternatively, many states will also tax non-residents on equity income considered to be earned in that state. To address double taxation, there may be tax credit available to employees in either their state of residence or the non-residence state where equity income is earned. Additionally, some states have specific reciprocity agreements between them to avoid double taxation. It may be possible for your company to rely on these arrangements when reporting and withholding on equity compensation.
Steps to Compliance
A great way to tackle domestic mobility compliance is to start with the most visible (i.e. riskiest) and most common situations. Check to see if you have particular locations or employee segments where mobility is more common and determine which types of sourcing issues you are dealing with. Once you have an idea of what mobility issues you are going to address first, get informed on the sourcing and taxation requirements for the states in question. You can find information on our site in the State and Local Tax portal, but before making any decisions, consult your company’s tax advisor. Once you’ve made decision on how your company will handle specific situations, document a clear policy and run it past your auditor for confirmation.
This is the third and final installment in my short mobile employee glossary. I’m going to include the same disclaimer as with the other two: This short glossary is intended only to help you understand what you are hearing or reading when it comes to global mobility. Always consult your company’s tax advisor when making decisions about tax withholding and reporting.
In this entry, I am going to touch on some definitions that are specific to the United Kingdom. First, however, there are a few general terms that I missed in my first blog.
Certificate of Coverage: This is a document issued by the home country social security administration authority under the Totalization agreement (see below) that serves as proof that the employee and employer are exempt from Social Security taxes in the host country.
Hypothetical Tax: This is the aproximate income tax that an employee would have incurred assuming continued employment in the home country. It is used for calculations in situations where cross-border employees are tax equalized (see below).
Long-Term Assignment: Generally an assignment period greater than one year.
Short-Term Assignment: Generally an assignment period of one year or less.
Tax Equalized: Some companies implement a tax equalization policy for employees who are sent overseas on assignment. A tax equalization policy is based on the premise that an employee accepting an overseas assignment may incur additional home and host country taxes because of the international assignment. A tax equalization policy works to ensure that an employee will neither suffer a financial hardship nor realize a financial windfall as a result of the tax consequences of an overseas assignment. Tax equalized employees typically pay only the hypothetical tax (see above), while the company covers any additional required income tax withholding (grossed-up so that it does not result in additional income tax payable by the employee).
Totalization Agreement: To help address the issue of double taxation for social tax purposes, many countries have entered into bilateral Social Security (or Totalization) agreements. These agreements coordinate the payment of social taxes as well as the receipt of benefits for cross-border employees. Although the details of each Totalization agreement are unique, they all assign social taxes to one country and exempt both the cross-border employee and the employer from paying social taxes in the other country. For a list of countries with which the United States has Totalization agreements, along with links to each agreement, visit the Social Security Administration site HERE.
The following terms are specific to the United Kingdom:
HMRC: Her Majesty’s Revenue & Customs (HMRC) is similar to the IRS in the United States. The HMRC collects direct and indirect taxes as well as pays and administers certain income tax benefits and credits in the UK. You can find more at http://www.hmrc.gov.uk/index.htm.
Resident: Unlike the IRS, the HMRC does not provide a specific definition for resident. The issue of “intent” is important when determining residency in the UK. Very generally speaking, a resident is someone who is present in the UK during the tax year (which is April 6 to April 5) and intends to remain in the UK for some time. Although it does not cover all the ways in which an individual may be considered a resident in the UK, the general rule is that employees are tax resident in the U.K. if they:
spend 183 days or more in the UK during any tax year, or,
spend or intend to spend an average of 91 or more days per tax year in the UK over a period of three years, or,
arrive in the UK intending to spend two years or more in the UK.
Ordinarily Resident: Employees who are resident in the UK “year after year” are ordinarily resident. The HMRC does not provide a specific definition for individuals who will be treated as ordinarily resident. Employees who leave the UK to work abroad may lose their status as ordinarily resident after one full tax year (from April 6 to April 5), providing their return visits do not exceed the maximum allowable days. Employees who move to the UK may be considered ordinarily resident from the day they arrive if they intend to remain a minimum of three years in the UK. Otherwise, they may be considered ordinarily resident after a period of time. Employees who stay in the UK for four years will most likely be considered ordinarily resident regardless of their intentions.
Not Ordinarily Resident: Employees who are resident in the UK, but do not fall in the category of ordinarily resident are resident, not ordinarily resident.
Domicile: Employees may be resident of multiple countries, but may only be domiciled in one country. There are many parameters that come together to determine where an employee is domiciled. But, generally speaking, domicile is the country of permanent residence. UK employees who work in another country are “domiciled abroad”.
Last week, I introduced some common terms that are used when talking about global mobility and cross-border taxation. This week, I’d like to offer some terms that are specific to the Unites States.
These are only intended to be a simple glossary reference to help you understand documents, opinions, or presentations on global mobility. Both bringing employees to the U.S. and determining the most appropriate income reporting and tax withholding obligations are complex and any decisions made by you and your company must be based on the particular circumstances of each situation. I have provided links to government sources for some definitions below, but I will not be updating this blog entry should either the links or the definitions change in the future. Always refer to your company’s tax advisors when determining income reporting and tax withholding obligations!
Citizen: There are basically two types of citizens in the U.S.: those that are citizens by birth and those who became citizens through naturalization.
Permanent Resident: Employees who come to the U.S. typically do so by obtaining a work visa. Although the term “resident” loosely applies to anyone living in the U.S., a permanent resident is one who has obtained a Green Card. Legal U.S. residents may apply for citizenship.
Non Resident Alien: Employees who work in the U.S. are nonresident aliens for any period of time that they work in the U.S. and are not considered resident aliens.
Resident Alien: There are two tests to determine if employees are considered resident aliens in the U.S. First, if an employee receives a Green Card, they will be considered a resident alien for the entire calendar year. The second method is called the “substantial presence test.” For more information, see Topic 851 on the IRS site. Employees who are considered resident aliens because of the substantial presence test may qualify for dual-status in that calendar year.
Substantial Presence Test: The IRS states that an individual will be a U.S. tax resident in any year if he or she has spent at least 31 days in that year and 183 days over the past three tax years in the U.S., calculated using the following formula:
All the days he or she has been present in the current year, and
1/3 of the days he or she was present in the first year preceding year, and
1/6 of the days he or she was present in the second preceding year.
You can find example applications of the substantial presence test in the IRS website HERE.
I’d like to give a special thank you to Valerie Diamond of Baker McKenzie for her assistance with this post! When I need help with international issues, I always turn to one of the members of our Global Stock Plans Portal Task Force. If you have questions, feel free to post them to our Global Stock Plans Discussion Forum, or contact any of the Task Force members directly!