How to process a shadow payroll in six easy steps How to process a shadow payroll in six easy steps

How to process a shadow payroll in six easy steps
16 May 2018

In today’s global economy, it is important that employers consider staff mobility issues when processing international payroll. Multinational companies that have employees working in numerous countries, on both short- and long-term assignments, face a multitude of payroll challenges, especially when it comes to handling taxation.

For example, if a US worker is on a long-term posting in the Netherlands, they may be liable for paying tax and social insurance in both locations. In such situations, companies use a shadow payroll to assist in meeting their reporting and tax withholding obligations for the host country if employees are to remain on their home country’s payroll system during their placement abroad.

This means that with a shadow payroll, it is vital to understand the difference between an employee’s home country and host country. The home country is the one in which staff members receive net pay. The host country is the one in which they receive no payment. But be careful about automatically assuming that the home country is the one from which they originate.

For example, if a company is based in Sweden but has placed a French employee on assignment in the Netherlands for more than 183 days, their home country will likely be the Netherlands as that is where they receive their net pay. The host country in this instance would be Sweden.

How do you know if you require a shadow payroll?

Here are two initial questions to help you determine if you need a shadow payroll:

  1. Do you have employees who are sent on global assignments?
  1. Is a given staff member’s assignment a short- or long-term one?

If the assignment requires them to work in another country for more than 183 days, it is considered a long-term assignment and a shadow payroll will be required.

Six steps for processing a shadow payroll

Once you have determined whether you require a shadow payroll, you will also need to know how to process one within your global payroll system. Here are six steps to help you do so effectively:

1. Identify which is the employee’s home country
As previously mentioned, the home country is the one in which an employee receives their net pay. For the purposes of this example, our home country will be the UK.

2. Add the employee onto the home country payroll as a new starter

3. Process your UK payroll with variable pay elements as standard
Once the employee has been added to your UK payroll as a new starter, it will be necessary to process the payroll with variable pay elements just as you would with any other local employee. Calculate tax and national insurance as normal.

4. Pass on UK payroll reports to either the necessary internal staff or payroll providers that undertake processing in the host country
As previously mentioned, the host country is the one in which an employee receives no payment. For our purposes, the host country will be Ireland. UK payroll reports must be sent to whoever processes the Irish reports.

5. Add the UK employee onto Irish payroll as a new starter
Once the UK employee has been added to the Irish payroll as a new starter, it will be necessary to apply any foreign of net tax scheme – for the employee to avoid double taxation, this ‘policy’ enables employers to apply to have the host country tax and social or pension payments removed. The next step is to include a net deduction on the payroll to reduce payment to zero. All items such as salary, bonus and commissions from the home country payroll must also be included on the host country payroll.

6. If there is no net of foreign tax scheme…

You will need to re-apply the host country’s tax payments onto the home country’s payroll as hypo (or ‘hypothetical’) tax – this involves offsetting any tax difference so that working abroad is tax neutral for the worker, so they pay taxes as if they were still a resident in their home country - in the next pay cycle. Remember, if there is no net of foreign tax scheme, it is usual for employers to pay the host country’s taxes so that the employee concerned avoids hardship.

The basic principle behind a net of foreign tax scheme is that employees should pay no more or no less tax than they would have paid had they never left home. Working abroad should be ‘tax neutral’ for them. In other words, employers should pay all related worldwide effective taxes for their employees - and complying with both domestic and international location tax laws is a must here.

Getting shadow payroll right

Processing a shadow payroll is common practice for established multinational organisations, but a complex proposition for companies that are expanding globally for the first time. However, understanding these complexities will ensure your payroll is efficient and accurate and that potential payroll issues are mitigated. 

 Lee-ann Kilroy

Lee-ann Kilroy is solutions support director at global payroll services provider, iiPay. She joined the company from a UK top 40 accountancy firm and has held key leadership roles in its operations, implementation and project management teams. Lee-ann works alongside the company’s enterprise team to provide custom solutions for all accounts.

 

 

In today’s global economy, it is important that employers consider staff mobility issues when processing international payroll. Multinational companies that have employees working in numerous countries, on both short- and long-term assignments, face a multitude of payroll challenges, especially when it comes to handling taxation.

For example, if a US worker is on a long-term posting in the Netherlands, they may be liable for paying tax and social insurance in both locations. In such situations, companies use a shadow payroll to assist in meeting their reporting and tax withholding obligations for the host country if employees are to remain on their home country’s payroll system during their placement abroad.

This means that with a shadow payroll, it is vital to understand the difference between an employee’s home country and host country. The home country is the one in which staff members receive net pay. The host country is the one in which they receive no payment. But be careful about automatically assuming that the home country is the one from which they originate.

For example, if a company is based in Sweden but has placed a French employee on assignment in the Netherlands for more than 183 days, their home country will likely be the Netherlands as that is where they receive their net pay. The host country in this instance would be Sweden.

How do you know if you require a shadow payroll?

Here are two initial questions to help you determine if you need a shadow payroll:

  1. Do you have employees who are sent on global assignments?
  1. Is a given staff member’s assignment a short- or long-term one?

If the assignment requires them to work in another country for more than 183 days, it is considered a long-term assignment and a shadow payroll will be required.

Six steps for processing a shadow payroll

Once you have determined whether you require a shadow payroll, you will also need to know how to process one within your global payroll system. Here are six steps to help you do so effectively:

1. Identify which is the employee’s home country
As previously mentioned, the home country is the one in which an employee receives their net pay. For the purposes of this example, our home country will be the UK.

2. Add the employee onto the home country payroll as a new starter

3. Process your UK payroll with variable pay elements as standard
Once the employee has been added to your UK payroll as a new starter, it will be necessary to process the payroll with variable pay elements just as you would with any other local employee. Calculate tax and national insurance as normal.

4. Pass on UK payroll reports to either the necessary internal staff or payroll providers that undertake processing in the host country
As previously mentioned, the host country is the one in which an employee receives no payment. For our purposes, the host country will be Ireland. UK payroll reports must be sent to whoever processes the Irish reports.

5. Add the UK employee onto Irish payroll as a new starter
Once the UK employee has been added to the Irish payroll as a new starter, it will be necessary to apply any foreign of net tax scheme – for the employee to avoid double taxation, this ‘policy’ enables employers to apply to have the host country tax and social or pension payments removed. The next step is to include a net deduction on the payroll to reduce payment to zero. All items such as salary, bonus and commissions from the home country payroll must also be included on the host country payroll.

6. If there is no net of foreign tax scheme…

You will need to re-apply the host country’s tax payments onto the home country’s payroll as hypo (or ‘hypothetical’) tax – this involves offsetting any tax difference so that working abroad is tax neutral for the worker, so they pay taxes as if they were still a resident in their home country - in the next pay cycle. Remember, if there is no net of foreign tax scheme, it is usual for employers to pay the host country’s taxes so that the employee concerned avoids hardship.

The basic principle behind a net of foreign tax scheme is that employees should pay no more or no less tax than they would have paid had they never left home. Working abroad should be ‘tax neutral’ for them. In other words, employers should pay all related worldwide effective taxes for their employees - and complying with both domestic and international location tax laws is a must here.

Getting shadow payroll right

Processing a shadow payroll is common practice for established multinational organisations, but a complex proposition for companies that are expanding globally for the first time. However, understanding these complexities will ensure your payroll is efficient and accurate and that potential payroll issues are mitigated. 

 Lee-ann Kilroy

Lee-ann Kilroy is solutions support director at global payroll services provider, iiPay. She joined the company from a UK top 40 accountancy firm and has held key leadership roles in its operations, implementation and project management teams. Lee-ann works alongside the company’s enterprise team to provide custom solutions for all accounts.