Wait and see or take action now? We look at how companies are coming to grips with recent changes in tax legislation for US expats.

The real bite of the law is in the housing allowance provision.

Recent changes to the US tax law governing expatriates have decreased the exemptions allowed under the US tax code and will potentially increase costs dramatically for US-based assignees.  The primary change in the law reduces the amount of housing allowance an expatriate can exclude to USD 11,536 regardless of the actual housing costs incurred.  Accordingly, many companies are now struggling to find ways to respond to these new tax codes and keep the costs of US-based assignees under control.


What are companies doing now?

In coming to grips with recent changes in US tax legislation around expatriate allowances, the majority of companies are adopting a 'wait and see' approach.  Most International Mobility Managers recognize that the new tax law means the cost of US-based expatriates will increase.  However, these assignees are seen to be critical to the mission of the business as a whole, and they are perceived to be worth the increased cost to the business.

Within the US, both US-headquartered firms and non-US companies alike have stepped up lobbying efforts on Capitol Hill.  These efforts have focused on making Senators and Representatives aware of the negative impact of making US-parented expatriates - already among the highest cost employees in the world - even more difficult for local operating budgets to take on.  Lobbying efforts aimed a repealing the changes are being carried out by individual companies' lobbyists, as well as through interest groups such as the Employee Relocation Council, National Foreign Trade Council and others. 

Already, a number of different bills aimed a repealing or changing the laws have been introduced into committees in both the US House of Representatives and the US Senate.  However, the process of getting these bills through committee and reconciling House and Senate versions of a law can be a lengthy and politically fraught process.  The reality is that companies must move forward assuming that the full scope of the law will apply to their expatriate operations during the 2006 tax year.

Move the Americans home?

Accordingly, some companies are already beginning to take a serious look at their recruiting techniques for expatriate staff.  These efforts are leading corporations to redouble their abilities to staff jobs locally or, more often, with expatriates based outside the USA.

In addition to carrying a lower overall tax burden, staffing an expatriate position with an Australian, South African or Canadian resource achieves several other goals.  On one level, these nationalities tend to have lower base salaries than their American peers, leading to a more competitively priced assignment for companies running home-based expatriate systems.  Moreover, the opportunity to 'internationalize' their expatriate workforce is one many companies find very attractive from a philosophical and strategic point of view. 

The overall effect of the tax law changes then may be to spur companies to employ non-US based talent where they might previously have filled a role with American resources.  In fact, some companies may consider the early repatriation of the Americans already overseas, replacing them instead with talent from other regions. 

Modifications to subsidy levels

Of course, there are situations where the business needs dictate talent that an organization can only source with US-based expatriates.  What might these organizations do to decrease the competitively disadvantageous effects of the higher tax bills coming in 2006?

As the real bite of the law is in the housing allowance provision, most of the savings to be realized in response to the legislation have to do with housing.

Many European-based companies do not withhold a home housing norm.  The home housing norm represents the amount an expatriate would have spent on housing at home prior to the transfer abroad. Asking the employee to contribute this amount to the global housing cost reduces the overall taxable value of the host housing allowance, thereby recouping some of the increased tax due the US authorities.

Home housing norms can be calculated using government data, a flat percentage of annual base salary or by third party data providers.  They are typically withheld via payroll deduction, while the host rent is paid either in cash locally or directly to the landlord, depending upon local tax advantages and customs.

The great majority of US-based corporations already withhold such a norm from their employees, making it a concept with which most American assignees are quite comfortable.  However, implementing a home housing norm carried with it several questions: Will the deduction of the norm apply only to US-citizens or to all nationalities?   Does the deduction of a housing norm imply that a company must also offer assistance in other areas associated with home housing, such as sale or rental assistance, on-going property management, household goods storage, temporary accommodation while the assignee is on home leave and increased insurance to guard against damage caused by renters?  These administrative issues may make the introduction of a home housing norm even more unpalatable than the increased US tax bill. 

For those companies already withholding a housing norm, the option of increasing these figures may be worth considering.  Typically, the home housing norm represents the average amount of money spent by a family earning a specific salary. 

So, for a family of two with an annual income of USD 100 000, the data would include young graduates who are new to the housing market as well as end of career empty nesters who paid off their mortgage long ago.  In fact, many companies find that these statistical deductions are fairly conservative relative to the amounts their assignees actually spend on housing. 

This reflects the fact that the average expatriate earns a better salary than the general population. They are also much more mobile, even in their home environment. This means that they are far more likely to have been in their residence for a shorter period of time - and that the initial purchase price would have been higher and more of the monthly mortgage payment would be dedicated to interest and fees, rather than repayment of mortgage principal.

Introducing the 'extremely mobile' home housing norm profile

To recognize this, some firms have asked their third party data providers to construct a more realistic 'extremely mobile' home housing norm profile.  These norms are typically much higher than the data drawn from government figures.  Logically, any increase of the home norm reduces the taxable benefit derived from the host rent payments.

This calculation has been standard among financial services companies for years.  With the new emphasis on cost reduction in housing, we may now see consumer goods and high tech firms take a second look at these 'extremely mobile' models. 

Lastly, many companies may find themselves reviewing the way in which housing guidelines in the host location are calculated and delivered. 

Even with increased emphasis on global compliance, housing has remained a decentralized element of expatriate remuneration.  Because of the increased cost now associated with housing payments, the time is ripe for central HR to assert more control over the provision of host location housing payments. 

This may simply mean undertaking an audit of the current methodologies employed in each host location to arrive at housing guidelines.  The idea 'one cannot manage what one cannot measure' applies to the costly proposition of housing payments.  Only by auditing the 'what is' state of global rent structures can a company identify those business sites where overly generous rental guidelines exist.

A more conservative level of support, perhaps

Moreover, companies may well use this opportunity - regardless of their current level of central control over housing budgets - to implement a more conservative level of support.  In less competitive times, the question of whether a family of four should be housed in a four or five bedroom house may have seemed inconsequential.

Consider, though, that in many markets, the difference in upgrading to a bigger house may be EUR 500 per month.  For an organization with 100 American expatriates, this means an additional EUR 50 000 per month or EUR 600 000 per year that will now attract increased taxes.  Depending on the locations involved, a company could save over USD 1 000 000 per year simply by taking a hard look at what level of housing it is willing to provide its expatriate staff.

There is little doubt that recent changes to US expatriate tax law will have many far-reaching consequences.  It is certainly a major concern for expatriates themselves, but also for HR managers and line managers to whom the excess costs will mean exceeded budgets, changes to talent recruitment, increasing levels of repatriation and, potentially, sweeping changes to expatriation policies.  It may even impact the role US-based talent has on global business in both the immediate and long term future.

The author John Pfeiffer is Manager, Client Programs Development, Associates for International Research, Inc. AIRINC, USA.

Subject: New US tax regulations, expatriate tax compliance, talent recruitment, expatriation policies.