1

Functional Area 05

TOTAL REWARDS

International Human Resource Certification Institute

IHRCI®
IHRCI® www.ihrc.org
 Global Professional in Human Resources (GPHR) Workbook

Module Five: Total Rewards

2024 Edition

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Table of Contents

Introduction ............................................................................................................................... iii

Table of Contents....................................................................................................................... iv
Part One: Global Compensation Design ..................................................................................... 7
1. Global Total Reward Components .................................................................................. 7
1.1. Compensation ..................................................................................................... 7
1.2. Benefits................................................................................................................ 9
1.3. Work-Life Effectiveness (Well-Being)................................................................. 11
1.4. Performance & Recognition .............................................................................. 12
1.5. Development & Career Opportunities .............................................................. 12
1.6. External Influences ............................................................................................ 13
1.7. Internal Influences............................................................................................. 14
1.8. Employee Experiences....................................................................................... 15
1.9. Organizational Performance .............................................................................. 17
2. Global Compensation Form.......................................................................................... 18
2.1. Core 19
2.2. Crafted ............................................................................................................... 19
2.3. Choice ................................................................................................................ 20
2.4. Strategic Flexibility............................................................................................. 20
3. Factors affecting Global Compensation ....................................................................... 21
3.1. Culture ............................................................................................................... 21
3.2. Economic ........................................................................................................... 21
3.3. Taxation ............................................................................................................. 22
3.4. Competitive labor market ................................................................................. 22
3.5. Laws and Regulations ........................................................................................ 23
3.6. Standardization versus localization ................................................................... 23
3.7. Collective bargaining, employee representation and government mandates .. 24
3.8. Global Orientation ............................................................................................. 24
4. Global Compensation Planning .................................................................................... 26
4.1. Phase One: Philosophy ...................................................................................... 27
4.2. Phase Two: Design ............................................................................................. 27
4.3. Phase Three: implementation ........................................................................... 28
5. Global Compensation Approaches ............................................................................... 28
5.1. Headquarters (HQ) scale ................................................................................... 29
5.2. Salary scale based on location........................................................................... 29
5.3. Global base per position ................................................................................... 29
5.4. Pay-mix for Executive ........................................................................................ 30
 5.5. Qualitative Parity and Quantitative Parity......................................................... 30
6. Global Grading System ................................................................................................. 32
6.1. Job leveling ........................................................................................................ 32
6.2. Job architecture ................................................................................................. 33
6.3. Career Ladders within job leveling .................................................................... 34
7. Remuneration Surveys ................................................................................................. 35
7.1. Purposes of Remuneration Surveys .................................................................. 35
7.2. Market Select .................................................................................................... 35
7.3. Data Collect ....................................................................................................... 36
7.4. Data Analysis ..................................................................................................... 38
8. Global Pay Structure ..................................................................................................... 40
8.1. Terms and Definitions ........................................................................................ 40
8.2. Global Salary Grades ......................................................................................... 42
8.3. Global Pay Structure .......................................................................................... 43
Part Two: International Assignment Package .......................................................................... 47
1. Objectives of Expat Compensation .............................................................................. 47
2. Approaches of Expat Compensation ............................................................................ 48
2.1. Host-Country Approach ..................................................................................... 49
2.2. Global Approach ................................................................................................ 49
2.3. Home-Country Approach .................................................................................. 49
3. Balance Sheet Approach............................................................................................... 50
3.1. Base Salary......................................................................................................... 52
3.2. Foreign Service Premium .................................................................................. 52
3.3. Allowances......................................................................................................... 52
3.4. Taxation ............................................................................................................. 52
3.5. Benefits.............................................................................................................. 53
4. Localization and Local-Plus ........................................................................................... 53
4.1. Localization ........................................................................................................ 53
4.2. Local-Plus ........................................................................................................... 54
4.3. Net-to-net Approach ......................................................................................... 57
5. Expatriate Allowance and Premium ............................................................................. 57
5.1. Cost of Living Allowance (COLA) ........................................................................ 58
5.2. Hardship Premium (Allowance)......................................................................... 60
5.3. Mobility Premium (Allowance).......................................................................... 60
5.4. Foreign Exchange Rate Protection..................................................................... 61
5.5. Relocation Allowance ........................................................................................ 62
5.6. Housing Allowance ............................................................................................ 62
5.7. Education Allowance ......................................................................................... 62
 5.8. Paid Leave and Airfare ....................................................................................... 63
5.9. Others ................................................................................................................ 63
6. Tax Reimbursement ...................................................................................................... 65
6.1. Principles of Tax Treatment ............................................................................... 65
6.2. Tax Liability ........................................................................................................ 65
6.3. Approaches of Tax Treatment............................................................................ 66
6.4. Protection vs. Equalization vs. Localization ....................................................... 69
7. Tax Equalization (TEQ) Process ..................................................................................... 72
7.1. Hypo Tax ............................................................................................................ 72
7.2. Pre-Assignment Planning .................................................................................. 73
7.3. During Assignment ............................................................................................ 75
7.4. Post-Assignment ................................................................................................ 77
8. Totalization Agreement and Tax Treaty ........................................................................ 77
8.1. Totalization Agreements .................................................................................... 77
8.2. Tax Treaty ........................................................................................................... 78
9. Global Employment Company (GEC) ............................................................................ 78
10. Global Payroll Management ....................................................................................... 79
10.1. Establish appropriate data validation and controls ......................................... 80
10.2. Communicate assignee tax and social security positions ............................... 80
10.3. Carry out post-payroll analysis ........................................................................ 81
10.4. Seek continuous improvement through reporting and analytics ................... 81
Part Three: International Retirement Plans.............................................................................. 82
1. Primary Retirement Plans............................................................................................. 82
1.1. Defined Benefit Retirement Plans ..................................................................... 82
1.2. Defined Contribution Plans ............................................................................... 83
2. International Retirement Plans (IRPs) .......................................................................... 84
2.1. Expats and Retirement ...................................................................................... 84
2.2. Target Groups .................................................................................................... 85
2.3. Design ................................................................................................................ 85
2.4. Setting Up .......................................................................................................... 86
2.5. Fees and Charges ............................................................................................... 87
2.6. Exclusion of US Tax Residents ............................................................................ 88
2.7. Other Considerations ........................................................................................ 88
3. Global Equity Program .................................................................................................. 88
3.1. Stock Option ...................................................................................................... 90
3.2. Restricted Stock ................................................................................................. 91
3.3. Implementation of Global Equity Compensation .............................................. 91
Reference.................................................................................................................................. 94
 7

Part One: Global Compensation Design

1. Global Total Reward Components

According to WorldatWork - the Total Rewards association who serves, educates and
inspires those who reward and engage the workforce, Total Rewards encompasses the
elements – compensation, well-being, benefits, recognition and development – that,
in concert, lead to optimal organizational performance. When designed strategically
and executed in alignment with business goals, Total Rewards programs fuel
motivated and productive workforces that feel appreciated and rewarded for their
contributions, driving the organization to ever greater success.

Global Total Reward Elements

Source: www.worldatwork.org/total-rewards-model/

1.1. Compensation

Pay provided by an employer to an employee for services rendered (i.e., time, effort,
8

skill). This includes both fixed and variable pay tied to performance levels.

1.1.1. Fixed Pay

Fixed pay, also known as base pay, is nondiscretionary compensation that does not
vary according to performance or results achieved. It’s usually determined by the
organization’s philosophy and pay structure.

Base Pay: Fixed or base pay is the compensation paid to an employee for performing
specific job. The definition of base pay can vary by country. Base pay levels need to
take into account variations in equivalent monthly salaries vary by country. The
bottom line to fixed pay practices need to be based on a competitive strategy for each
country. Types of Base pay include

⚫ Salary: paid on a weekly, biweekly or monthly basis rather than by the hour,
generally to higher level positions.

⚫ Nonexempt / hourly rates: paid by the hour for a job being performed. An
individual’s annual pay is dependent on the number of hours worked during the
course of the year.

⚫ Piece rate: payment is based on an individual’s rates production. A payment is

received for each piece or unit work produced.

1.1.2. Variable Pay

Incentive or Variable pay, also known as pay at risk, is compensation that is

contingent on discretion, performance or results achieved. Much of the innovation in
compensation is occurring in the variable pay element. Companies are making
greater use of variable pay programs by expanding them to a significantly broader
portion of the workforce that they have in the past. These schemes are adopted by
many corporations in order to improve the employee morale and increase the
motivation to work for the employees. Based on performance measures and metrics
defined by the human resources of the specific organization incentive plans are
devised and the specific mode of incentive is decided.

Bonus or Incentives

Bonuses or Incentives are delivered through plans that predetermine a performance

and reward schedule. The incentive can be paid in an accounting period (month,
quarter, year, multi-year) or upon an event (reaching an objective, completing a
project, etc.). Organizations that seek to create a closer link between employee
 9

compensation and the risks of doing business have increased the prevalence of
group/team incentives.

Commissions

Commission is a sum of money that is paid to an employee upon completion of a

task, usually selling a certain amount of goods or services. Commission may be paid
as percentage of the sale or as a flat dollar amount based on sales volume.
Employers often use sales commissions as incentives to increase worker productivity.
A commission may be paid in addition to a salary or instead of a salary. Commissions
are cash payments, based on predetermined performance and reward schedule.
They are typically based on sales or profit margin on those sales. Commissions are
usually for sales employees. Sales incentive plans matched to type of responsibilities:
Customer identification, customer service or customer persuasion.

Profit-Sharing Plans

Profit- Sharing is a form of variable pay provided to all employees based on the
profits of the company. Companies usually have predetermined goals and formulas
for determining the amount that will be allocated to employees. Profit- Sharing is
typically implemented to achieve employee participation and identification with the
organization’s success.

Performance-Sharing Plans

A variable pay plan bases rewards on the performance of a combination of

quantitative and/or qualitative measures. The objective increase employee
identification with the organization’s success and increase employee understanding
of what is important to the organization and communicate the basis upon which
success is measure.

1.2. Benefits

Programs an employer uses to supplement the cash compensation that employees

receive. These health, income protection, savings and retirement programs provide
security for employees and their families

1.2.1. Healthcare

Healthcare systems are influenced by the beliefs, values, culture and perceptions in
different regions regarding the role of government in providing health care to its
10

citizens. The employers commonly supplement the government health programs

with health care plans influenced by corporate objectives, competitive practices and
the limitations of government programs. Limitations government-sponsored
programs may include restricted access, limits on services/facilities, payments,
reimbursement and gaps in coverage.

1.2.2. Welfare

The factors that influence health and retirement benefits may also affect other
benefits such as life insurance, disability and time off. Depending on the type of
benefit, statutory requirements, coordination with government programs, collective
bargaining agreements and other influences may shape or define the final program,
limiting employer flexibility in plan design. In addition, offer wellness programs to
employees are very useful to increase the satisfaction and healthy life.

1.2.3. Retirement and Investment Plans

Qualified retirement plans include both the traditional defined benefit pension plans
and defined contribution plans:

Defined benefit plan is based on a formula that considers pay and service (i.e. one
percent of compensation for each year of continuing service). Provide better benefits
to employees with long service.

Defined contribution plan is characterized by employee and employer contributions

made to individual participant accounts.

Hybrid plans; combine elements of defined benefits and defined contribution plans.

1.2.4. Other benefits

⚫ Housing Allowance

⚫ Transportation Allowance

⚫ Meal Allowance

⚫ Phone Allowance

⚫ Training Allowance

1.2.5. Flexible benefits

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Flexible benefits are the approach to benefits in an increasing number of American

organizations. In essence, employees are typically given choices, up to a certain dollar
limit, among a series of options for their benefits, including such things as pension
contributions, health insurance options, dental insurance, life insurance, etc. MNEs
are beginning to examine flex benefits for their global operations.

Issues such as tax treatment of benefits, private versus state health care, employee
expectations and culture, non-standardized social benefits from country to country,
and varying company structures will need to be addressed in order to design flexible
benefit packages that might be used throughout an MNE. Nevertheless, such an
approach may help simplify worldwide complete compensation systems for
multinational firms.

1.3. Work-Life Effectiveness (Well-Being)

A specific set of organizational practices, policies and programs, plus a philosophy

that actively supports efforts to help employees achieve success at both work and
home. Work-Life Balance (WLB) is an umbrella term used to describe a variety of
benefit-related initiatives to help employees effectively manage work, family, and
personal life without extreme stress or negative impact. Many organizations report
that balancing work and family has overtaken other benefit and compensation items
as a key factor in employee satisfaction surveys. WLB is composed of offerings in the
Total rewards package that address the unique individual needs of the employee.
These offerings are important to the employee but may be less tangible than
compensation and benefits. Categories which support work – life could be:

1.3.1. Caring for depends

1.3.2. Supporting health and wellness

1.3.3. Creating a workplace flexibility

1.3.4. Flexible Work Hours

1.3.5. Financial support programs

The intent of work/life programs and services is to support the well-being of

employees and help them achieve a balance between their jobs, families, and
personal lives. Some organizations couch work/life programs in terms of diversity and
corporate social responsibility (CSR) initiatives. Others feature WLB as part of the
12

organization's brand. There are many compelling reasons for WLB. However, as with
the success of other organizational and global HR strategies, commitment and
communication can make or break success. Having work/life programs means little if
employees are unaware of them or the culture does not support the initiatives.

1.4. Performance & Recognition

Acknowledges or gives special attention to employee actions, efforts, behavior or

performance and support business strategy by reinforcing certain behaviors (e.g.,
extraordinary accomplishments) that contribute to organizational success. These
programs can be either formal or informal. A Total Rewards program recognizes the
full value of your employees’ time—both through performance management that
recognizes their in-office contributions and through policies that respect their time
away from the office.

1.4.1. Performance

The alignment and assessment of organizational, team and individual efforts towards
the achievement of business goals. A good performance management is the
alignment of organizational, team and individual efforts toward the achievement of
business goals and organizational success. It includes establishing expectations, skill
demonstration, assessment, feedback and continuous improvement.

1.4.2. Recognition

Acknowledges or gives special attention to employee efforts or positive performance.

It meets an intrinsic psychological need for appreciation and can support business
strategy by reinforcing certain behaviors that contribute to organizational success.
Awards can be cash or non-cash (e.g., verbal recognition, trophies, certificates,
plaques, dinners, tickets, etc.).

1.5. Development & Career Opportunities

1.5.1. Development

A set of learning experiences designed to enhance employees' applied skills and

competencies; development engages employees to perform better and leaders to
advance their organizations' people strategies. Talent development provides the
opportunity and tools for employees to advance their skills and competencies in both
their short and long-term careers.
 13

1.5.2. Career Opportunities

A plan for an employee to advance their own career goals and may include
advancement into a more responsible position in an organization. The organization
supports career opportunities internally so that talented employees are deployed in
positions that enable them to deliver their greatest value to their organization.
Organizations support career opportunities to effectively deploy talented employees,
enabling them to deliver their greatest value to the organization.

Development and career opportunities can be in the form of learning opportunities,

coaching/mentoring opportunities, and advancement opportunities.

The elements represent the "tool kit" from which an organization chooses to offer
and align a value for both the organization and the employee. The elements are not
mutually exclusive. Total rewards strategy involves the art of combining the five key
elements into tailored packages designed to achieve optimal engagement. An
effective total rewards strategy results in satisfied, engaged and productive
employees, who create desired business performance and results.

1.6. External Influences

Successful organizations understand that total rewards must be designed and

administered in the context of not only an organization’s internal environment (for
which organizations have direct control), but also influences external to the
organization (for which there is little or no control). This requires a seemingly
diametric skill set of simultaneous zoom-lens focus and wide-angle view.

1.6.1. Economics

The global economic landscape has a profound effect on organizations in general, and
on total rewards in particular. Total reward costs are among the highest expenses
incurred by the business. Consequently, these costs need to be monitored and, if
necessary, adjusted to ensure continued financial viability. Rapidly rising or falling
economic conditions, which can occur anywhere from a global to industry level,
require timely and measured responses from HR professionals in adjusting programs
to meet changing conditions. Total rewards is the near—universal form of exchange
worldwide between an employee’s talent, effort and skills and the employer’s ability
to attract and retain the needed skills to accomplish its mission. Thus, total rewards
becomes the crucial intersection between the supply and demand for labor. HR
professionals must understand labor market trends and movements to reach the
14

sweet spot of attracting the necessary talent at a cost that is affordable and
sustainable.

1.6.2. Cultural norms

Cultural norms and social mores are another critical component related to external
influences. Rewards that are valued and appreciated in one culture may be less
valuable (even offensive) in another. HR professionals must have a firm grasp of the
customs and drivers of the diverse makeup and expectations of the workforce to
effectively tailor programs for maximum efficacy.

1.6.3. Regulatory

Finally, in the realm of external influences, regulatory issues pertaining to total

rewards vary widely by country and region. These laws affect the design and
implementation of pay, benefits and work rules. Organization-wide programs should
be assessed to ensure they can be legally applied at the local level. This may require
adaptation or even alternative programs to ensure compliance. Also, legal and
regulatory violations can result in sanctions, damaging publicity and potential
restrictions that may negatively affect an organization’s ability to conduct business.

1.7. Internal Influences

1.7.1. Business Strategy

HR professionals agree that human resources and employee rewards strategies

should be based on the organization’s business strategy. A business strategy may
place its emphasis in one of the following key areas:

Operational excellence: a combination of price, quality, dependability and ease of

purchase that competitors cannot match. The corporate culture typically strives to
minimize waste and reward efficiency.

Product/service leadership: innovation, product development and market

exploitation. The corporate culture encourages imagination and a mindset driven by
the prospect of creating the future.

Customer intimacy: creates results for carefully selected customers. The corporate
culture encourages deep and lasting relationships with customers.

1.7.2. Organizational Culture

 15

At the same time, every business has a unique organizational culture that is shaped
not only by the external influences in the world, but also by senior leadership,
geography, employee demographics and even the business strategy itsell.

1.7.3. HR Strategy

While business strategy and organizational culture are driven by external influences,
these are the components that drive the design and execution of the all—inclusive
approach an organization takes related to every facet of its human capital, or the HR
strategy. In turn, the HR strategy drives the development and administration of total
rewards strategy.

1.8. Employee Experiences

Employee experience (which is often shortened to just “EX”) is an emerging business

function focused on tracing how employees think and feel during every single
touchpoint of their journey through the company. Many factors go into the employee
experience. Elements include the type of work, company culture, commute time, co-
workers, leadership, compensation and rewards.

1.8.1. Compensation Transparency and Understanding

Many employees expect to have a full understanding of how reward plans are
structured and how comp decisions are made at their company. A clearly stated and
easily understood plan goes a long way in creating a trusting relationship with
employees. This boosts the employee experience. However, getting that information
is not always easy for an employee.

HR professionals address the desire for transparency and fairness about how people
are paid by communicating directly with employees and managers. Many HR
professionals have a prepared document or presentation summarizing how the
company views compensation — goals, plan structure and other details that are
shared with employees.

It may be worth investing time to review that document or presentation to make sure
it is current and hits all the right notes. HR managers can use the new version as a
catalyst to emphasize the main points with colleagues.

One-on-one conversations between leader and team member can help employees
understand how compensation and rewards are determined. In addition,
16

conversations can address the potential pay in their current role and how to earn
more with the company. HR professionals can help managers be sharp and well
prepared for those conversations.

HR managers at top-performing organizations use their experience to support

managers on how to communicate with associates about the composition of plans
and how employees are rewarded. This includes the company’s policies and culture.

1.8.2. Total Rewards Communication

Total rewards are key elements of the employee experience. At best-in-class

employers, comp professionals develop and communicate total rewards information
that attracts and retains talented associates. They also make sure the communication
is relevant to employees and supports the company’s overall goals.

Awareness and understanding of total rewards by employees present an opportunity

to enhance the employee experience. It’s a chance to:

⚫ Relate compensation and rewards to the company’s operating model.

⚫ Show how associates advance the company’s principles and values.

⚫ Clearly communicate how employees help the organization achieve and sustain
dominance.

Modern total rewards communication is more than a printed list showing the value of
compensation and benefits. Instead, it is used to promote the company’s culture and
purpose. It shares fresh information that matters to employees. It is delivered how
employees want to receive their communication, which often means on their
smartphone or iPad — anytime, anywhere.

Technology today easily allows HR professionals to up their game in total rewards

communication. Putting that next level of communication in place can help drive
improved business results by strengthening the employee experience.

1.8.3. Using Compensation to Accomplish More

Comp professionals can improve business results by making sure aspects of the
organization’s compensation plans support and enhance the employee experience.
Senior leaders have always expected a great deal from comp professionals. The next
question posed to comp professionals at top companies: How can we use
 17

compensation to accomplish more? Now might be the time to try something new.

1.9. Organizational Performance

Research show that total reward design can directly influence individual
performance, and therefore influence the organizational performance. In a study of
reward practices of Fortune 1000 firms, the most widely used rewards for
performance were non-monetary recognition awards, followed by employee stock
ownership plans (ESOPs) and profit sharing.

An ESOP provides employees a reward based on the overall success of the firm and
thus effectively links employee’s activities to overall firm performance. Individuals
are motivated to help the firm perform well because they will ultimately benefit by
sharing in the profits.

Individual based rewards support an employee’s activities and actions toward things
they can directly control. Assuming managers insure that individual goals are in line
with organizational goals, the entire organization will benefit from improved
performance as the result of cumulative efforts of individuals motivated to achieve
their individual goals.

Regular expressions of appreciation by managers and leaders to employees lends

credence to the notion that frequent and visible communication about performance
is important for employee motivation. One of the basic tenets of effective behavior
modification is the application of rewards as close in time as possible to the action
taken by the employee. Regular expressions of appreciation are readily available to
managers and can be used immediately and frequently. While the individual
rewards and the ESOP rewards may have a significant time lag, regular expressions of
appreciation can provide immediate feedback to employees and thus have a
profound impact on employee behavior.

Finally linking customer satisfaction monitoring with employee rewards helps to link
an external reward component to the reward system and complements the other
three internally based measures. If an organization loses site of the customer’s
perceptions of satisfaction organizational performance will eventually suffer.
Including the voice of the customer in the reward system helps to ensure that all
employees and ultimately the organization as a whole does not lose site of their
customer.
18

2. Global Compensation Form

From a global perspective, there are substantial differences in the ways people get
paid. Consider, for example, that the pay packages offered by the same multinational
operating in both Shanghai and Bratislava are very different. In Shanghai, the package
may emphasize housing allowances and bonuses intended to retain scarce critical
skills, while in Bratislava the package will place greater emphasis on productivity-
based gainsharing and base pay. The reality is that local conditions dominate the
compensation strategy.

For organizations competing in worldwide markets, managing compensation and

reward systems has always depended on understanding the economic, social, and
political changes occurring in the countries in which they operate. What is emerging is
that some companies are adopting global compensation and reward strategies that
are aligned with and signal their global mind-sets. Rather than only reacting to and
matching local conditions, the global perspective shifts to finding how they can best
use compensation and rewards to compete on a worldwide basis.

Given sufficient variation in values among the people in the labor pools of a nation,
firms can structure compensation policies that are consistent with the firm's culture
and simultaneously attract individuals from the applicant pool who have similar
values. When considered from a strategic perspective, organizations could customize
compensation systems to help create a culture and attract a workforce that possesses
the values, knowledge, skills, and abilities that support the organization's strategic
goals and objectives.

To be sure, national laws, particularly tax and welfare regulations, are important
forces. Yet logic argues that understanding differences variability within as well as
between nations reinforces strategic concerns. Different forms of total compensation
into three sets: core, crafted, and choice. It includes any return an organization can
offer that employees see as a reward or a return for the contributions they make on
the organization's behalf.
 19

Core Crafted Choice

Strategic Flexibility

Centralization Localization Flexibility

Core

Customize

Choice

Global Compensation Forms

Source: Milkovich, G.T. & Bloom, M. (1998). Rethinking international compensation.

Compensation and Benefits Review, 30(1), 15-23.

2.1. Core

The core section of the model includes compensation and reward forms that signal
the corporate global mind-set (e.g., creating a performance/customer service culture
or a culture of ownership, insuring a basic level of services and benefits). Specific
practices may vary according to market and local conditions but must be consistent
with the core policies.

2.2. Crafted

The crafted set of compensation elements assumes that business unit or regional
leaders have discretion to choose among a menu of total compensation forms that
may be important to gain and sustain advantage in the markets in which they operate.
For example, some form of housing assistance (loans, allowances, dormitories) may
make sense in Shanghai, whereas in London or Tokyo, transportation assistance may
make more sense. A single company with operating units in San Jose and Kuala
Lumpur may find that specific elements (e.g., risk sharing, bonuses, language training,
and flexible schedules) may be more important in California than in Kuala Lumpur.

The critical focus of the crafted alternatives is to offer operating units the ability to
20

further customize their total compensation package to achieve their business

objectives. This crafted portion is created within the framework of core returns so
that it supports and reinforces corporate priorities and culture as well. Thus,
managers of R&D units can craft returns to support their goals and satisfy the
preferences of scientists, while the sales unit can craft a different set of returns
consistent with sales goals and preferences of sales personnel.

2.3. Choice

Finally, the alternatives in the choice set offer flexibility for employees to select
among various forms of total compensation. Analogous to flexible benefits, the choice
set shifts the focus of customizing compensation from managers to employees.
Examples here might include opportunities to take educational leaves to become
eligible for regional or global assignments.

The choice set recognizes the difficulties in identifying national cultures by taking the
notion of customizing to the individual level. Within a total cost framework,
employees would be given the opportunity to select from a set of returns those that
are of most value to their particular situation.

2.4. Strategic Flexibility

Strategic flexibility offers managers the opportunity to tailor the total compensation
system to fit the context in which they compete within a framework of corporate
principles. Additionally, the approach offers some opportunity for employees to select
forms of returns that meet their individual needs as well.

Strategic flexibility means that companies achieve advantage by customizing multiple

compensation and reward systems. This is already the state of practice in companies
operating in multiple markets or employing contingent and core workforces. The art is
to avoid the chaos created when multiple systems go off in multiple directions. This
results in numerous compensation systems, one for each country in which the
company operates. To overcome the chaos, the company must ensure that the
multiple deals signal the organization's global mindset and support its strategic
priorities.

In global organizations, the business units or regions often have discretion to

customize their compensation system within corporate guidelines. For some
companies, the strategic flexibility simply draws existing practices under one
umbrella. For example, it treats expatriates as simply another group, much like sales
 21

disciplines.

3. Factors affecting Global Compensation

While developing the global compensation and benefit composition, HR must deal
with many factors that are not present in a domestic environment. Developing
suitable compensation policies to meet organizational strategies, while efficiently
accommodating different types of employment terms and conditions, poses many
distinctive challenges for global HR practitioners. In order to effectively strike a
balance among all the above mentioned influences, the HR professional must be
aware of the following:

3.1. Culture

In some areas of the world, job and income security needs command paramount
interest over pay-at-risk, so in the pay mix the base salary dominates the variable
portion. For example, while China has a very aggressive sales compensation
environment, in India there is more interest in base salary and their CTC (cost-to-
company) package than variable pay-at-risk compensation.

Cultural differences necessitate understanding that the value of compensation and

benefits programs is in “the eye of the beholder”. A benefit highly valued in one
country may be comparatively worthless in another. Differences are often rooted in
subconscious beliefs, attitudes and values. We recommend that:

3.1.1. Engross local contacts to understand usual and traditional compensation and
benefits practices.

3.1.2. Circumvent headquarter biases or imitation of headquarters (HQ) country

policies and procedures (for example, paying sales commissions in risk-averse
cultures or reward and recognition programs that reward individual contributions in
cultures that places greater prominence on team or group contributions or prefer
private gratitude).

3.2. Economic

When you’re dealing with country-specific inflation rates that range from flat to
20%+, do you really want to offer the same percentage salary increases? What if
one country is in the grip of recession (US), while another remains relatively
unscathed (Australia)?
22

Many differences subsist from country to country, in terms of the Influence of politics
and power, Distribution of wealth across country’s citizenry and Unpredictability of
events (i.e., sometimes rapid changes in rates of inflation, currency). We recommend
that:

3.2.1. Conduct a risk analysis of economic factors and their consequences.

3.2.2. Recognize that unofficial sources of authority in a community or region and

official governmental personnel may have large impact on what is considered
acceptable.

3.2.3. Make allowances for local inflation/deflation or currency fluctuations.

3.2.4. Create contingency plans to mitigate the risks associated with probable
changes in economic factors.

3.2.5. Contribute to the local area to support educational facilities, internal training,
and child care or other local services.

3.3. Taxation

Tax regulations vary extensively from country to country. Some countries have no
income tax, while others have income tax in excess of 50%. Some benefits that are
taxable in one country are not taxable in the geographically adjacent country or vice-
versa. We recommend that:

3.3.1. Comprehend the taxation of cash and noncash compensation, benefits and
perquisites – what is taxed, at what rates and at what levels.

3.3.2. Engage experts in local compensation and benefits laws and practices.

3.3.3. Distinguish that a benefit may be undesirable, depending on how it is taxed.

3.4. Competitive labor market

Companies react to the cost of labor vs. the cost of living. If the market they are in
rewards in a certain fashion (pay mix, commission vs. bonus, quarterly vs. annual
rewards, etc.), companies who provide a different approach risk lower employee
engagement as well as a talent drain.

At a broader level, the compensation and benefits required to magnetize and sustain
 23

talent are determined by the aggressive demand for that talent. However, the nature
of the competition for talent may differ across countries and regions, depending on
factors such as: Type of talent sought, Geographic scope of the talent market,
Industries in which the talent may be found and Mix of remuneration components.
We recommend that:

3.4.1. Employ people with similar skills when industry-specific expertise is in short
supply or competition is high; retrain or coach the hires on the job.

3.4.2. Lead, lag or match the rates of pay in the relative marketplace based on the
skills needed, the demand for required talent and the best way to compensate those
types of workers.

3.4.3. Recommend suitable blend of pay and benefits that will appeal to current or
potential employees.

3.5. Laws and Regulations

Laws and regulations impact the remuneration of employees in many areas, such as:
Work hours and compulsory time-off (paid and unpaid), Minimum wage, Overtime,
Compulsory bonuses, Employment at will and Acquired rights. There are remarkable
country-to-country variances as well as some regional differences. We recommend
that:

3.5.1. Identify benefits that are government-provided, mandated by the government

or chosen by the employee.

3.5.2. Recognize the differences and similarities in each market.

3.5.3. Involve experts in local compensation and benefits laws and regulations.

3.6. Standardization versus localization

Characteristically, strategies are standardized in keeping with the organizations’

overall compensation and benefits philosophy. Definite practices tend to be localized
to fit the context of country, regional or local conditions. We recommend that:

Have a long-term program to sustain the organizational compensation philosophy but

also mull over local restrictions, tax regimes and culture.
24

3.7. Collective bargaining, employee representation and government mandates

National unions often dictate pay actions that could reverberate up the hierarchy as
companies strive to maintain equitable treatment with their other employees. Works
Councils will have their impact as well.

Employees in most parts of the world are protected from actions that impact their
wages and employment conditions. Unions play a very strong role in many countries
and sometimes include provisions for management as well as employees. Work
councils also offer worker protection. We recommend that:

3.7.1. Appreciate the inferences for minimum wages, severance packages and
pensions.

3.7.2. Meet requirements of a third-party representation.

3.7.3. Distinguish related government regulations and mandates and industry-wide

collective agreements.

3.8. Global Orientation

In addition to above listed factors, the organizational approach to global staffing also
influences the compensation and benefit strategies. Relation between global
orientation of the organization and its impact on global compensation and strategies
is discussed here.

Culture

Collective Global Orientation

bargainin

also influences the global

Economic
compensation and benefit
Context Standardization
strategies
& localization
Ethnocentric
Regiocentric
Taxation Regulations
Polycentric
Labor market Geocentric

Factors affecting Global C&B and Global Orientation

 25

Source: Gomez-Mejia, L. & Werner, S. (2008). Global Compensation: Foundations and

Perspectives (Global HRM). New York: Routledge.

3.8.1. Ethnocentric

Tight control of international operations; little autonomy; key positions held by

headquarters (HQ) personnel. This may lead to transfer of headquarters total
compensation policies with insufficient contemplation of local legal cultural
differences. Dictates to local country management may result in superficial
conformity but actual rejection of headquarters practices.

3.8.2. Regiocentric

Operations managed regionally; communication and coordination high within the

region and less between regions. There is greater potential for uniformity of
remuneration approaches within regions. The proximity of countries may lead to the
perception that remuneration practices are more similar than they really are. Also,
regional headquarters may suffer blind spots with respect to country differences,
leading to ethnocentrism at the regional level.

3.8.3. Polycentric

Subsidiary treated as own entity; local personnel manage operations; few promotions
to headquarters. Local cultural and legal compensation norms are more likely to be
understood and implemented. Remuneration policies are likely to be steady and
incorporated within each subsidiary. Incentives may tend to maximize achievement of
local rather than global objectives.

3.8.4. Geocentric

Organization seen as single international enterprise; management talent comes from

any location; strategic plan global in orientation. Local compensation strategies are
more likely to be consistent with global policies. A desire for too much global
consistency can lead to the imposition of inappropriate policies at the local country
level. The development of consistent and equitable remuneration policies among
global managers may be challenging as top-level managers move from one country to
another.

Compensation, including the overall system of rewards – formal and informal –

26

provides the driving force for effectively attracting, retaining, and encouraging human
talent at home and abroad. Important and fundamental practices for managing
compensation on a global scale include managing global compensation strategically,
considering performance-based pay where appropriate, anticipating the influence of
local culture, using a total rewards system perspective, and addressing the duality
challenge of global integration and localization.

To varying your practices according to country-specific conditions could cause a

degree of consternation with the back office staff and their computerized systems. If
you force international operating units to convert their practices to an uncommon
format and methodology, the result could be more than just confusion and local
administrative difficulties. It could also mean the greater likelihood of overpayments
in some quarters while paying less in others – all for the sake of sameness and
common report generation. This would result in a combination of hurting employees
while also hurting the business. Remember that ease of administration is rarely an
effective rationale for making good business decisions.

4. Global Compensation Planning

The most effective strategy to achieving both short- and long-term objectives of a
global compensation planning is of a two-pronged service structure: First, company
should appoint a “home" country international human resources (IHR) contact who is
responsible for overall service delivery of HR programs to the company while
coordinating efforts on a global basis. The advantage of this approach is that the
company has a single focal point of contact for all global HR requirements.

Philosophy Design Implementation

• Goals and needs • Work Conditions • Further establish

operations in their
• C&B Plans • Labor Law locations
• Alternatives • Social Security • Survey selected
• Acceptable • Competitive hiring company
competitors as
• Talent pool and identified in each
gaps location.
• Mobility

Three Phases of Global Compensation Planning

Krupp, K. (2002). Global Compensation Planning: Establishing and Maintaining a

 27

Competitive Edge in the international Marketplace. Compensation & Benefits

Management, Spring, 54-56.

Second, to complement home country efforts, the company should identify a local
“host" country HR consultant at each location who is accountable for the delivery of
results. This individual will coordinate local efforts for the company operations and be
available locally on a day-to-day basis for advice and problem resolution.
Establishing a strong overseas presence typically encompasses three phases:

4.1. Phase One: Philosophy

In the phase, activities center around four main objectives:

4.1.1. Understanding strategic global/regional/local goals and needs.

4.1.2. Addressing global compensation and benefits plans.

4.1.3. Considering program alternatives.

4.1.4. Determining how to implement programs that are culturally acceptable yet
competitive blending global strategies with local practices

4.2. Phase Two: Design

The design phase has two major components:

4.2.1. Determining

Employment and working conditions.

Labor laws and contracts of employment.

Statutory and social security benefits.

Competitive hiring practices.

Existing talent pool and gaps.

Mobility of local workforce

4.1.2. Detailing or discussing

28

Economic trends.

Compensation guidelines.

Other legal requirements.

Employment costs.

Global payroll options

4.3. Phase Three: implementation

In this stage, IHR professionals work within their company to:

4.3.1. Further establish operations in their locations based on information gathered in

the design phase-recruiting, hiring, compensating, incenting, paying, and
administering company local national employees.

4.3.2. Survey selected company competitors as identified in each location. Then,

based on survey data, form recommendations of best practices and complete a
“total" compensation/benefits study of these positions in each country.

5. Global Compensation Approaches

MNEs (Multi-National Enterprises) often create two classifications ─ local and

international with regard to compensation. All local nationals above a certain level are
placed on the headquarters scale, with salaries that are at least partially performance
based. The rest of the employees are paid on a local scale. Practices can vary enough
so as to make this strategy difficult to implement and may lead to two common
problems for host country nationals in the subsidiaries.

The first problem relates to a possible in-country gap in compensation between the
highest and lowest paid employee. In most Western countries, there is typically a
fairly constant differential between job classifications. (e.g., there is typically about a
15 percent increase in salary from job class to job class, and this tends to be the case
across all job classifications). In many developing countries and emerging markets,
where there tends to be more unskilled labor, it is common to have low pay at all of
the lower job classifications, with very little differential between them and then a
major jump in compensation only at the upper few classifications. This creates a
situation where there can be a much greater ratio between top management and
lower level employees than would be the case for the typical Western, or other
 29

developed-country, MNE workforce.

The second problem relates to the gap in executive compensation of the senior
managers of the MNE between countries. A study comparing the total compensation
of CEOs in 12 different OECD countries found that US executive compensation is the
highest, followed by the UK. Japan has the lowest executive compensation and
Continental European is somewhere in between. In addition, the propositions of base
compensation (including bonus), long-term compensation, and all
benefits/perquisites of executives are also wide ranging, indicating that executive
compensation practices are contextual in terms of practices and taxation.

MNE must examine its compensation and benefit programs among its foreign
employees at each and all of its foreign operations. The greater the number of foreign
subsidiaries and joint ventures and the greater the number of countries within which
the MNE operates, the greater will be the problems associated with establishing,
monitoring, and controlling compensation programs on a worldwide basis.

A number of different options (for establishing a worldwide compensation system)

have been used by various MNEs. These include basing global employees’
compensation on:

5.1. Headquarters (HQ) scale

Worldwide salary levels are established at HQ with differentials for each affiliate
subsidiary according to the local cost of living. This option is usually reserved for
managers and executives.

5.2. Salary scale based on location

Wages or salary levels are based on location-the local scale and norms. This option is
primarily for the broader base of employees and usually excludes executives and
globally mobile employees.

5.3. Global base per position

A form of equal pay for equal work exists on a worldwide basis, with possible
differentials for locations. Typically, this option is used when there is a global labor
market for the type of talent sought.
30

5.4. Pay-mix for Executive

In a truly global organization, the ideal structure would be a single executive

compensation program applied worldwide. However, wide variations in costs of living,
tax liabilities, mandated benefits, standard of living, etc., among the countries of the
world make such an arrangement virtually impossible. To achieve the "global link"
between its executives, most organizations now have a consistent long-term incentive
program. However, for practical reasons, salary and short-term incentives are linked
to a local-based system.

Headquarters Salary scale based

(HQ) scale on location
Global
Compensation
Approaches

Global base per Pay-mix for

position Executive

Four Approaches of Global Compensation

Source: Briscoe, D., Schuler, R., & Tarique, I. (2012). International Human Resource
Management: Policies and Practices for Multinational Enterprises; 4 edition, (Global HRM).

5.5. Qualitative Parity and Quantitative Parity

One approach to a global benefit program suggests that the MNE develop both
qualitative parity and quantitative parity.

5.5.1. Qualitative Parity

Qualitative parity is a commitment to offer something from each core category of

benefit to every employee worldwide. This would include:

Core benefits, a basic item that the company commits to making available to all
 31

employees worldwide, such as a certain level of health care.

Required benefits, a compensation item or non-cash benefit required by local law.

Recommended benefits, a less essential compensation or benefit program to be made

available wherever cost considerations permit, such as life insurance.

Optional benefits, a non-essential compensation item to be made available if it is a

competitive practice in the local marketplace, such as local transportation or meal
support.

5.5.2. Quantitative Parity

The use of qualitative parity is one component of a firm’s global benefit approach that
provides a means of making a commitment to the entire workforce while still
preserving local variations in pay for the less skilled and less mobile employees.

Implementing a program of quantitative equity is usually done only for key global
executives. After the elimination of all justifiable differences, any remaining variations
are, by exclusion, vestiges of the old system that should be methodically smoothed
out. Through eliminating over time the differences that came from different
countries’ approaches and from the uncoordinated approach to compensation, what
is left is a process that assures executives that they are being compensated for their
skills, abilities, and contributions – rather than for their choice of address.

However, even the best global compensation program will not eliminate future claims
by employees of perceived continued inequity. That is because variations in local
labor laws, tax systems, and the cost of living will ensure that dissimilar programs and
varying gross pay levels will continue to be a fact of life in a global organization.

The goal, though, of a global compensation system is not to eliminate employees’

questions about compensation, but rather to remove the de-motivational impact of
inexplicable variations in compensation across borders. Designing a global
compensation program in this way can enable IHR to create a working environment
that hopefully will retain good employees and keep them focused on performance.

One major problem that arises is the establishment of host-country nationals’ salaries
on some form of consistent yet global basis. The solution often is to create two
classifications – local and international. All local nationals above a certain
classification level are placed on the headquarters scale, with salaries that are then
32

performance-based.

In most developed countries, there is typically a fairly constant differential between

job classifications, i.e., there is typically about a 15 percent increase in salary from job
class to job class, and this tends to be the case across all job classifications. In many
developing countries, where there tend to be many people with low levels of
education and training and few with high levels of education, it is common to have
low pay at all of the lower job classifications, with very little differential between
them and then a major jump in compensation only at the upper few classifications.
This creates a situation where there can be a much greater ratio between top
management and lower-level employees, such as between the top manager and
his/her secretary, than would be the case in the typical US-based, or other developed
country, parent-country MNE workforce. Not only is there great disparity between
wage rates and salary levels in different countries, but it is also difficult to get reliable
data on what those rates and levels are.

6. Global Grading System

As a company matures and expands its global footprint, the approach it takes for
organizing its workforce will have a lasting cultural and financial impact.
Organizational structure and design affects every aspect of a business, including talent
mobility, compensation programs and even the speed of innovation. When headcount
grows, it quickly becomes incumbent upon companies to find effective ways to
organize jobs into job families where similar work is performed. A solid approach to
job evaluation (also called job leveling) translates into better communication with
employees, more clearly defined career paths, and salary structures with greater
market alignment, among many other benefits. Job evaluation is a structure that has
articulated career paths for various job families and which can support a global
organization. However, this system is underpinned by job architecture, which is a
method of organizing jobs into job codes, job titles and functional areas all before
assigning a grade level.

6.1. Job leveling

Job leveling is a process of determining the relative worth of a job within an

organization and accordingly aims at:

6.1.1. Reducing inequalities in salary structure by bringing about external and internal
consistency in salary further motivating employees within an organization.
 33

6.1.2. Enabling structured approach to division of labor or specialization by defining

specific jobs and salary levels.

6.1.3. Helping in selecting employees by defining jobs and responsibilities.

6.1.4. Developing harmonious relationship between employer and employees to

avoid any conflicts on salaries.

6.1.5. Creating standardization by determining salary differentials for different jobs

further helping to bring about uniformity into salary structure.

6.1.6. Generating relevance and relative value to new jobs.

6.2. Job architecture

A job architecture model combines job leveling structures with career paths and job
families! job functions to provide a comprehensive platform for supporting global
growth across an organization.

Source: radford.aon.com
34

6.3. Career Ladders within job leveling

Global job grading approach recognizes this organizational reality by aligning job
levels with both the internal value companies place on individual contributor
positions relative to managerial positions, as well as the value the market places on
each type of job. The system combines individual contributors and managers into
global grades where market pay suggests equivalence. Below is an example of how
different job families are graded and grouped into two tracks—one for management
and one for individual contributor.

Source: radford.aon.com

An increasing number of multinational companies are using global leveling systems as

a way to determine eligibility for all manner of compensation and benefits programs,
not just for setting base salary levels. Global levels can be used to determine a
position's bonus eligibility, bonus target and equity grant guidelines. While regional
differences in pay levels exist, the global leveling system enables a company to be
consistent in its determination of program eligibility by considering the internal equity
of the positions in a given grade and then letting market practices dictate actual
compensation levels.
 35

7. Remuneration Surveys

As discussed earlier, Job evaluation which is considered to determine the relative

worth of a job within an organization focuses on internal equity of compensation.
Now we would then talk about external competitiveness which can be analyzed by
up-to date Remuneration survey.

Remuneration surveys collect information on prevailing market compensation and

benefit practices, including base pay, other cash payments (statutory and market),
variable compensation (e.g., short- and long-term incentive plans), and time off.
Remuneration surveys allow organizations to recognize and relate their remuneration
structures to global and local trends.

7.1. Purposes of Remuneration Surveys

7.1.1. Adjust the pay level in response to changing rates paid by competitors.

7.1.2. Set the mix of pay forms relative to that paid by competitors.

7.1.3. Establish or price a pay structure.

7.1.4. Analyze pay-related problems.

7.1.5. Estimate the labor costs of product/service market competitors

7.2. Market Select

To determine the prevailing rate for a job, companies can "benchmark" jobs against
compensation surveys that are detailed and specific to the companies' industries and
regions. A good compensation survey uses standard, proven methods of data
gathering and statistical analysis to determine how much companies pay for a specific
job in a specific industry. Match your job descriptions to the descriptions in the salary
survey. Only match those which strongly resemble the survey description. Not all
positions in your organization will match descriptions in the survey. Relevant labor
market includes employers who compete:

7.2.1. For same occupations or skills.

7.2.2. For employees in same geographic area.

7.2.3. With same products and services

36

7.3. Data Collect

Once an organization decides that it needs a remuneration survey, it must decide how
the survey should be designed and conducted. The organization has two choices: It
may develop and conduct an internal survey, or it may look to an external source. In
the global environment, the use of external third-party data prevails.

There are many sources for global and country-specific compensation and benefits
data. Typical sources include:

7.3.1. Government sources (e.g., ministries of labor or government statistical offices.

7.3.2. International organizations (e.g., the International Labor Organization).

7.3.3. Private firms (e.g., consulting organizations around the world that provide
current global and local information for a fee).

7.3.4. Membership-based business organizations (e.g., employer federations and local

chambers of commerce).

7.3.5. Professional, trade, and industrial associations.

Here are some considerations to weigh for a company who is deciding whether to
purchase a compensation survey.

• The background of the survey research firm and cosponsors, if any. Look for
reputable firms that follow proven methods to gather and analyze compensation
data.

• The scope of the survey. Look for studies that cover industries, jobs, and regions
that are most applicable to your purposes; and that provide data on enough jobs
to be cost-effective.

• The survey methodology. Review the summary of the methodology to make sure
it's consistent with standards set forth by reputable industry associations. Be
especially sure the research organization is surveying human resource
professionals or other people knowledgeable about compensation information
within a company, rather than individuals.

• The number of participants in the survey. A good survey should cover a

representative number of companies for its target population. A survey doesn't
have to cover the entire industry or region to be robust; even a few dozen
 37

responding employers in some industries can provide enough data for a valid
survey.

• The names of participants. Look for your competitors and peers. For many jobs,
you may be competing for candidates with companies in different industries but
the same geographic area. Some firms reveal a list of participants, or at least
those well known within the industry. The surveying company may disclose big-
name participants to draw more interest from smaller companies. A list of major
employers can also add credibility to the survey. An important exception to note
is that if a compensation analyst or compensation consulting firm is using
multiple surveys to produce their own derivative market numbers, they will
aggregate the data by combining the surveys, placing differing weight on different
sources and sometimes even making a qualitative adjustment. When the data has
been aggregated in this manner, it is not customary to report numbers or names
of participants. The usefulness and relevance of a salary survey depends largely
on the survey participants.

• The number of incumbents covered by the survey; and the sample size for each
salary. Make sure the participants are a good sample of the recruiting market.
Generally, eight to ten participating companies is a good sample for positions
below the management level. The sample size should increase the more senior
the positions being surveyed, both to get a good representation and to allow for
more job matches, since each company is organized differently. There could be
limited pay data in some industries, or the available data might not be
representative of the industry because of a low participation rate in the survey.

• The relevance of the job descriptions to the positions being benchmarked. Look
for a good match between the survey and your company. Be sure to compare job
descriptions, not just job titles.

• The effective date of the survey data. The date a survey is published is always
later than the effective date of the data within the survey. If necessary, age the
data from the effective date to the current month.

As with any form of research, it is important to use multiple data sources to narrow in
on the "true" answer. Relying on a single source can be misleading if that source
doesn't perfectly reflect the market in question. WorldatWork suggests that
compensation analysts should use multiple data sources wherever possible;
consulting firms and academics agree. The exceptions come when there is only one
data source, or when there is a spot-on data source, such as a custom survey, that
truly describes a precise market.
38

7.4. Data Analysis

7.4.1. Effective Date

For those surveys conducted on a regular basis, such as annual surveys, the effective
date will be until the next survey is released in the following year. Otherwise, knowing
the effective date of the survey can prevent companies from using outdated salary
figures and causing error in pay budget forecasts.

If the survey is not current, the person using it should age the salaries to the current
date. If a survey was conducted in September, the salaries are likely to be as of
September or even August. If you are using the survey in December to benchmark for
a new position in the company, you will have to age the number. A simple way to do
this is to take the annual rate at which salaries are moving for this job and prorate it,
salary increases overall this year are around 3.5% but this may vary by job title.

A similar approach is used in setting pay levels across a company. Sometimes these
figures are set at the beginning, middle, or end of the company's payroll year by aging
the appropriate compensation data to those dates. When salary data is aged,
movement in market rates is used to adjust outdated data.

7.4.2. Job Description

If a job on a survey is similar but not identical to one in the organization, the data can
be weighted or leveled for a better match. Therefore conduct job analysis or review
job descriptions is important for job matching.

When consulting a compensation survey, match the job descriptions rather than the
job titles, even if the survey uses generic or widely used job titles. For example, an
associate could be an entry-level position at one consulting firm, or it could be the
title for someone with an MBA at another. Companies are structured differently, and
different companies use different names for the same jobs, so job descriptions are
the best way to match positions. Beware of surveys that use only job titles, as it is
unlikely the data will be a reasonable representation of the jobs you're interested in.

A survey job description should list the primary job function in one or two sentences,
followed by key responsibilities. While the descriptions should be generic and not
specific to any one company, they should contain enough information for participants
to match appropriately to ensure the data is accurate. It is also important to match
the organizational level of the positions be surveyed. A position that is at the group
 39

level at one company may be at the subgroup or the sector level at another.

Job titles are broken down differently in different surveys. Some surveys break them
down by levels within the organizations, i.e., senior management, middle
management, and entry level. Positions may also be broken down by job families or
the types of responsibilities, i.e., business development, marketing, product
management, and sales.

7.4.3. Geographic area

Some salary surveys do not provide data for a specific geographic area since wage
rates will vary by location, and organization should factor for geography any national
salary survey data for the local or regional recruiting area to approximate local wage
rates.

7.4.4. Compensation data.

There are many things to consider when analyzing the compensation components of
a salary survey. Because companies have different pay structures, compensation data
is collected in ranges as well as actual pay. Salary surveys can provide employers more
information on the marketplace and how to set competitive pay without overpaying
or underpaying employees. Surveys should ask for the minimum, midpoint, and
maximum for the surveyed positions, in addition to the actual base salary paid.

Usually, the prevailing practice for any one job is to pay a range of incomes. As a
result, although the median pay for a job is likely to be a definable number, the range
is just as important. Companies pay employees differently for various reasons. It
could be the company's pay philosophy; or it could be the geographic location or the
industry practice; or it could be the incumbent's length of service or proficiency in the
job. Whatever the reason, it is unlikely that two companies will pay an employee
doing the same job exactly the same amount.

When reading the base pay figures, it's important to check how the numbers are
calculated. The surveying parties can dictate to the participants how the numbers
should be reported. Salaries can be on an annual, monthly, or hourly basis. For
example, if the incumbent is a contract employee, hourly salaries are more relevant
than an annual figure. The survey may request pay data for individual incumbents or
averages for all incumbents matching a specific job description, depending on the
types of surveys and their objectives.
40

8. Global Pay Structure

When a company has planned to expand into new countries, it is necessary to

establish a global pay (salary) structure. With all the different economic situation,
cultures and exchange rates, it is difficult to come up with one structure that works
everywhere. In the following, we will introduce more details with regard to pay
structure. There are several terms and definitions to acknowledge first:

8.1. Terms and Definitions

8.1.1. Policy Line

A job structure orders jobs on the basis of internal organizational factors. The pay
structure, on the other hand, is anchored by the organization’s external competitive
position, reflected its pay policy line.

The pay level that a company sets its pay at compared to the market pay line, typically
the midpoint of the pay structure is set to judge the going market rate. In building pay
structure scientifically, the line is a statistically computed least-squares-regression
line.

8.1.2. Pay Grades

Pay grades are used to group jobs that have approximately the same relative internal
or external worth; in other words, all jobs within a particular grade are paid the same
rate or within the same pay range. Grades enhance an organization's ability to move
people among jobs with no change in pay.

3.1.3. Pay Range

Pay range typically means high to low or minimum to maximum pay for a certain job
grade. The range midpoints, minimums, and maximums reflect career paths,
promotions, and other management systems and philosophy within the organization.
The differential must be large enough to induce employees to seek and/or accept the
promotion or to undertake the necessary training required.

Range spread subtracts the minimum amount from the range maximum and then
divides that figure by the minimum. In general, lower-level jobs typically have a
narrow range between mil1imumand maximum salaries, while the salary ranges for
higher-level jobs will be wider. People in entry-level jobs have more promotion
possibilities and tend to stay at the entry level for shorter periods of time, while
 41

people in higher-level jobs tend to stay in their range for a longer period of time.

Range overlap in salary ranges that will allow career development and pay increases
without promotion at each level and the percentage of increase the organization will
offer an employee for a promotion.

Overlap= (max rate of lower grade – min rate of higher grade) / (max rate of higher
grade-min rate of higher grade)

3.1.4. Compa-ratios (CP)

CP is a salary expressed as a percentage of or indexed to the salary range

midpoint/market rate (salary/midpoint or market rate = CP). The CP may be used as
an indicator of how an individual is doing against plan.

3.1.5. Broad banding

Broad banding, called fat grades, means collapsing pay grades and ranges into just a
few wide levels or a band, which includes one minimum and one maximum range,
while midpoint often not used. The purposes of using broad banding as follow:

• Provide flexibility to define job responsibilities more broadly.

• Foster cross-functional growth and development.

• Ease mergers and acquisitions.

The most important difference between grades and broad banding is where the
controls are located.
42

Pay Level

Broadband
Policy Line

Max 2

Max
Spread
Overlap Max-Min 2
Pay Range

Max-Min Mid Max 2-Min 2

Min 2
Min

Min Grade Level

Grade 1 Grade 2 Grade 3 Grade 4

Pay Structure

8.2. Global Salary Grades

Global Salary Grades refers to a standardized method of classifying positions across a

global enterprise. Alternative titles would be global bands or global job evaluation.
Employers often adopt global salary grades to enable internal comparisons and
standardize certain elements of compensation and benefits, such as short- and long-
term incentives. For example, global salary grades helps answer the question “is the
Brand Manager position in Greece equivalent to the Associate Brand Manager in
France or the Marketing Manager in Kenya?” Or, all staff in band C or higher are
eligible for equity compensation awards.

Salary Structure is the term used to refer to the salary ranges associated with salary
grades. A Global Salary Structure, by it’s very name, would imply a single structure
for all locations globally. Sometimes you may also see this referenced as an
international salary range. Some companies use a global salary structure to manage a
cadre of international assignees (usually based on the headquarters market).
International organizations such as the World Bank and the United Nations, and many
international NGOs, use international salary structures in managing their
international (expatriate) staff as well. But it would be very unusual to have a global
salary structure applicable to all staff in an organization.
 43

If you are managing a global enterprise, global grades can be very useful in several
respects. In addition to the examples above allowing comparison of equivalent
positions across different markets with varying titles, and standardization of executive
compensation programs, global grades allow the organization to establish leading
talent management processes. The global grades will help establish competencies
and career tracks, and the related training and development that is required to train
future leaders. Global grades also help companies manage succession planning
more easily, by providing a common language to describe the challenges and
complexities of an individual position.

8.3. Global Pay Structure

Salary structures are a very useful tool for all organizations. They help ensure
consistency and avoid discrimination, control costs, and together with a strong
performance management process, allow managers to differentiate between
different positions and varying levels of performance amongst the team. Each
country is a different market, however, and therefore, you need to build your
structure separately for each one. Market data plays a key role here, since the
structure must be anchored to the market in which you are competing for talent.

In the end, if you design a global grading system with local pay structures, you’ll get it
right. The grades will give you global consistency while the structures will be
tailored to the local market, guided by your global compensation philosophy, which
provides standards for each country to meet.

A salary structure is commonly used by employers to set out the range of pay, from
minimum to maximum, associated with each salary grade or band. By associating
each position with a grade or band, employers can use a salary structure to help
manage compensation in an optimal way.

Here are ten steps to develop a salary structure for your organization, with some
special considerations for international developing markets:

8.3.1. Establish your compensation philosophy

Each employer needs a policy which outlines their desired market position. What
percentile of the market is your target? Which comparators are appropriate? Is the
target the same for all grades? A well-articulated compensation policy provides
valuable guidance for the development of a pay structure. In large organizations,
there is often a corporate policy which forms the basis for local policies.
44

8.3.2. Gather market data

Identify surveys with your desired comparators (as specified in your company policy).
Most employers prefer at least two survey sources. In international markets this can
be challenging, especially in developing countries and smaller markets. Consider
sector-specific surveys as well as multi-sector options – certain jobs are found across
many employers, not just your sector. In smaller international markets, leading
employers often provide a better proxy for the most competitive market than do
sector surveys with many less sophisticated employers. Don’t overlook international
organizations; they pay very competitively and are often well-established in the
smallest of countries.

8.3.3. Identify benchmark jobs

Benchmark jobs are those that are representative of roles found across many
organizations – standard roles such as Manager, Accountant, Payroll Administrator,
Secretary, Clerk and Driver. Benchmark jobs are easy to understand and match to, and
will appear in multiple surveys, enabling the use of multiple sources. For professional
roles specific to your sector, sector surveys could be a good source. In other cases,
and with multi-sector survey sources, look for those that utilize well-developed career
ladders, enabling easy cross-occupational job matching. As an example, such an
approach would examine Analyst positions across different functional areas (e.g.,
finance, HR, procurement, marketing, etc.).

8.3.4. Measure your market position

There are several ways to do this. If you have a lot of benchmark jobs, tabulate the
average of all of the roles in the same internal level or grade. Weighted averages
incorporating number of incumbents associated with each survey data point is a
common approach. Select the market reference from the survey most appropriate
under your policy. In developing countries market data is more volatile. A good
approach is to use minimum and maximum values to “bookend” the data in these
markets. This helps eliminate outliers and capture more realistic market survey
values.

8.3.5. Calculate the compa-ratio

Calculate the compa-ratio. This is the ratio of your data to the market — 100 means
fully comparable, while a ratio under 100 indicates a below market position, and over
100, above market. There are different approaches to summarizing the data — by
 45

position, by grade, etc. Whatever approach you use, the compa-ratio analysis will
illustrate which parts of the organization are competitive against the market and
which ones require some attention!

8.3.6. Check your budget

This is a critical step. In 8.2.5., you can calculate the average difference between your
current scale and the market. This indicates about how much of an increase would be
required to make your scales fully comparable to the market. Your internal budget
constraints, though, will dictate how close to this ideal you can achieve. In addition to
internal budgets, consider the average market movement in your surveys, and the
general inflation rates (never use inflation to determine how much more to pay staff –
this is determined by cost of labor, not cost of living).

8.3.7. Start allocating

This is the start of an exercise which will repeat many times, until you get the desired
result. Build a model of your organization, ideally with the number of incumbents in
each grade. Using your overall percentage of market and budget number, start
increasing your scale (use Mid points, or the Mins and Maxs). See how close you can
get to fully comparable to the market, and how much it will cost. Does it jive? If not,
tweak the data a bit. You can adjust the percentage each grade is increased, as well as
examine the spans (range from min to max) and inter-grade differentials, in order to
gain better market alignment. Obviously, the incumbent count of each grade will
impact the overall costing model.

8.3.8. Final adjustments

Once you have built your new scale and matched it to the market as closely as
possible, and within your budget, give it a once over. Does it make sense? Are the
increase amounts distributed in a pattern which will cause unrest amongst your staff?
Strive to achieve a scale which will reflect your comp policy and enhance internal
cohesion in the organization. This step is the art of compensation, not the science.

8.3.9. Management approval

Review your proposed scale with management, presenting your rationale, budget and
overall market comparisons. Discuss concerns you may have uncovered about specific
positions or grades, and educate your management about the process used. Outline
your implementation plans.
46

8.3.10. Communicate

Develop appropriate communications for managers and staff. Let them know all of
the work that went in to the exercise, and how the organization compares to the
market. Be careful here — you need to obviously put on a positive spin — that’s why
statistics are so flexible!
 47

Part Two: International Assignment Package

1. Objectives of Expat Compensation

Designing a pay system is always a challenging process, but doing so in multinational

corporations (MNCs) is particularly complex and difficult. A set of situational factors
not normally encountered in a strictly domestic situation must be taken into account
when designing the compensation package of an expatriate. For example, the
nationality of the individual, their family situation (number and ages of their children,
work situation of the spouse), floating exchange rates, differences in living costs, taxes
and inflation rates, the need to reconcile home and host-country laws and regulations
for compensation and benefits, and the geographically imposed problems of
communication and control are all of great importance. These issues increase the
complexity of the situation, and the information needed as regards the individual and
his/her destination. In addition to these situational factors, there are a number of
objectives that must be incorporated in the design of expatriates’ pay packages

• To attract personnel in the areas where the multinational has its greatest needs and
opportunities

• To facilitate the transfer of international employees in the most cost-effective manner

• To be consistent and fair in the treatment of all its employees,

• To facilitate re-entry into the home country at the end of the foreign assignment

• To contribute to organizational strategy (that is, to support organizational goals, foster

corporate culture and help motivate employees to contribute their efforts to further
organizational success).

Attracting personnel to international service by offering generous compensation

packages is a widespread practice in many MNCs. This initiative is designed to break
the frequent barriers to international mobility. In addition to family and personal
issues (such as the growing unwillingness to disrupt the education of children and the
growing importance of quality of life considerations), and the continued uncertainty
regarding international terrorism and political and social unrest of certain
destinations, it is well documented that the career implications of international
assignments are often frustrating. A lack of respect for acquired skills, loss of status
and reverse culture shock upon return are recurring problems in many companies.
Because of these barriers, a logical way of encouraging individuals to accept a foreign
assignment is to provide generous compensation packages for expatriates.
48

Yet this way of attracting individuals to the international service may conflict with
other objectives of the system. Firstly, it leads to costly assignments. This, in turn, puts
an economic strain on the company, and finally leads it to reduce the costs of
assignments, in an attempt to save money.

In doing so, the company might also reduce the pool of qualified candidates, thereby
making the recruitment process all the more difficult. Thus there is tension in the
achievement of the first two objectives of the system. Second, it might also conflict
with the repatriation objective. The incentives and allowances designed to encourage
employees to take up a foreign assignment are not sustained when the expatriate
return home, leading to a substantial loss of income.

In fact, such a loss of income is cited as one of the main difficulties upon return. In
other words, a less attractive pay package facilitates re-entry but reduces the ability of
the company to attract employees for the international service. Finally, the generous
incentives designed to help attract overseas employment have the side-effect of
creating large pay gaps between expatriates and local employees. The less fortunate
position of the local employees relative to that of the expatriate may damage their
perceptions of the company’s procedural and distributive justice, thus failing to
achieve the objective of fairness.

As in many other areas of human resources, the compensation policy for

multinational expatriates is bound to confront various dilemmas and conflicts. For
example, the company faces the potential conflict of maintaining some form of
internal equity while providing sufficient incentive to attract and motivate oversees
assignees. There is no magic formula that can solve these dilemmas, and so one
should be wary of those who present this area of management as a science, with
which one can limit oneself to applying technical solutions.

2. Approaches of Expat Compensation

Bearing in mind the situational factors and objectives outlined above, the MNCs have
a number of ways to deal with the retribution of expatriates. Each way reflects the
MNCs’ priorities when paying expatriates. Three main approaches, each with its
strengths and weaknesses in achieving the five objectives (see the below Table), have
been developed.

Retribution approaches and their Impact on compensation objectives

 49

Objectives Retribution approach

Host Country Home country Global
1.Attract talent - + +
2. Cost effective + - -
3. Be fair
with respect to local employees + - -
with respect to other expats from a
different nationality in the same location + - +
with respect to other expats in another
locations - + +
4. Facilitate re-entry - + -
5. Support the corporate strategy 0 0 0
+ positive impact, - negative impact, 0 irrelevant

2.1. Host-Country Approach

The first is the host-country approach. The main intention of this approach is to fit
the expatriate into the assignment location salary structure. This approach is
satisfactory when a number of eligible candidates for the particular position have a
personal interest in living abroad, and so a local salary does not seem unattractive. In
addition to reducing costs, this approach helps to create a sense of equity between
expatriates and local employees, since nobody feels underprivileged. However this
method only has limited use in motivating international mobility, as worldwide
variations and the consequent inconsistencies may inhibit the transfer of expatriates.
This approach is usually adopted when the expatriate has become replaceable by a
local hire but wants to remain abroad for personal reasons.

2.2. Global Approach

The second is the global approach. The intention is to pay on an international scale,
with allowances derived from that base. An international basket of goods would be
used across all expatriates regardless of country of origin. This approach is most
relevant in the case of expatriates who are expected to move to more than one
foreign country, thereby losing direct connection with either their home country or
their host country grading and pay structure. The high costs and difficulties of re-
entry are often mentioned as the main shortfalls of this system.

2.3. Home-Country Approach

The third is the home-country approach. The idea of this approach is to provide the
50

expatriate with equivalent purchasing power abroad in order to maintain his/her

standard of living in his/her home country. This is consistent with the so-called
balance sheet approach. This system applies home country deductions and pays
differential allowances (cost of living differential, housing allowance) to arrive at net
disposable income which should maintain the expatriate’s home country standard of
living.

3. Balance Sheet Approach

To date, most companies compensate their expatriates based on either a home- or

host-country philosophy as discussed above. The home-based balance sheet
approach is used by most firms, particularly in situations where the expat is opening
new markets and new operations, transferring technology, and training local staff.

This home country based approach equalizes purchasing power across countries so
employees can enjoy the same living standard in their foreign posting that they
enjoyed at home. In addition, the approach provides financial incentives to offset
qualitative differences between assignment locations.

The figure shows a typical balance sheet. Note that home-country outlays for the
employee are designated as income taxes, housing expenses, expenditures for goods
and services (food, clothing, entertainment, etc.), and reserves (savings, pension
contributions, etc.). The balance sheet approach attempts to provide expatriates with
the same standard of living in their host countries as they enjoy at home plus a
financial inducement (i.e., premium, incentive) for accepting an overseas assignment.

The balance sheet approach to determination of an expat’s compensation (which is

still pretty much customized, in most firms, for each expatriate, although there will be
standardized options) begins with the employee’s existing parent-company
compensation (salary, benefits, and any other forms of monetary or non-monetary
remuneration). To this is added two other components: a series of incentives to
accept and enjoy the foreign posting and a series of equalization components that
ensure the expatriate does not suffer from foreign-country differences in salary or
benefits. Interestingly, today, even with pressure to reduce the high cost of expat
compensation, most MNEs still find it necessary to provide significant incentives to
encourage potential assignees to accept foreign postings.
 51

Home -
and Host-
Country
Income Income
Taxes Taxes Premiums
and
Incentives
Housing
Income Income
Taxes Housing Taxes
Housing Housing
Goods
Goods and Goods
Goods and
and Services and
Services
Services Services
Reserve Reserve Reserve Reserve
Home Host Host-Country Home-Country
Country Country Costs Paid by Equivalent
Salary Costs Company and Purchasing
from Salary Power

Additional Costs Paid by Company

A Typical Balance Sheet

Source: Reynolds, C. (1986). "Compensation of Overseas Personnel," in Handbook of Human

Resource Administration, 2nd ed., ed. J. J. Famularo, pp.47-61. New York (USA): McGraw-Hill.

As argued by scholars regarding expatriate compensation practices, such adjustments

are made using the ‘no loss’ approach: expatriate compensation is adjusted upward
for higher costs of living, but is not adjusted downward if the cost of living in the host
country is less than in the home country.

The components of the typical expatriate compensation package are a base salary, a
foreign service premium, allowances of various types, tax differentials, and benefits.
We shall briefly review each of these components. An expatriate's total compensation
package may amount to three times what he or she would cost the firm in a home-
country posting. Because of the high cost of expatriates, many firms have reduced
their use of them in recent years. However, a firm's ability to reduce its use of
expatriates may be limited, particularly if it is pursuing an ethnocentric or geocentric
staffing policy.
52

3.1. Base Salary

An expatriate's base salary is normally in the same range as the base salary for a
similar position in the home country. The base salary is normally paid in either the
home-country currency or in the local currency.

3.2. Foreign Service Premium

A foreign service premium is extra pay the expatriate receives for working outside his
or her country of origin. It is offered as an inducement to accept foreign postings. It
compensates the expatriate for having to live in an unfamiliar country isolated from
family and friends, having to deal with a new culture and language, and having to
adapt new work habits and practices. Many firms pay foreign service premiums as a
percentage of base salary ranging from 10 to 30 percent after tax with 16 percent
being the average premium.

3.3. Allowances

Several types of allowances are often included in an expatriate's compensation

package including hardship allowances, housing allowances, cost-of-living allowances,
and education allowances, etc. A hardship allowance is paid when the expatriate is
being sent to a difficult location, usually defined as one where such basic amenities as
health care, schools, and retail stores are grossly deficient by the standards of the
expatriate's home country. A housing allowance is normally given to ensure that the
expatriate can afford the same quality of housing in the foreign country as at home.
In locations where housing is very expensive (e.g., London, Tokyo), this allowance can
be substantial--as much as 10 to 30 percent of the expatriate's total compensation
package. A cost-of-living allowance ensures that the expatriate will enjoy the same
standard of living in the foreign posting as at home. An education allowance ensures
that an expatriate's children receive adequate schooling (by home-country
standards). Host-country public schools are sometimes not suitable for an expatriate's
children, in which case they must attend a private school.

3.4. Taxation

Unless a host country has a reciprocal tax treaty with the expatriate's home country,
the expatriate may have to pay income tax to both the home- and host-country
governments. When a reciprocal tax treaty is not in force, the firm typically pays the
expatriate's income tax in the host country. In addition, firms normally make up the
difference when a higher income tax rate in a host country reduces an expatriate's
 53

take-home pay.

3.5. Benefits

Many firms also ensure that their expatriates receive the same level of medical and
pension benefits abroad that they received at home. This can be very costly for the
firm, since many benefits that are tax deductible for the firm in the home country
(e.g., medical and pension benefits) may not be deductible out of the country.

4. Localization and Local-Plus

From an organizational perspective, thinking about expatriation often starts with

thinking about expatriate compensation. Compensation packages should attract,
retain and motivate employees, while at the same time balancing these costs with the
expected returns for the organization, which is not an easy task.

Although different situational factors such as the attractiveness of the assignment

destination and the number of potential candidates require flexibility in
compensation practices, some general guidelines and methods exist. Broadly
speaking, we can differentiate between two different approaches to expatriate
compensation: the balance sheet approach and the going rate approach.

Other than home-country approaches, the focus here is on the host country based
package, “localization (Going rate)” and “local-plus”, which have emerged as viable
and popular alternatives to the traditional balance-sheet approach.

4.1. Localization

Contrary to the balance sheet approach, there is a second approach, the going rate
approach, which is also known as the ‘localization’, ‘destination’ or ‘host country-
based’ approach. As these names suggest, the core of this approach lies in linking the
expatriate compensation to the salary structure of the host country, taking into
account local market rates and compensation levels of local employees. The going
rate method aims to treat the expatriate employee as a citizen of the host country,
encouraging a “when in Rome, do as the Romans do” mentality.

Localization is an approach in which assignees are paid according to the salary levels,
structure, and administration guidelines of the host location where they are being
sent to, or are already living and working. Localization involves the removal or
absence of an assignee’s “expatriate” status from a policy standpoint, including
54

benefits and allowances. In practical terms, it means that ties back to the home
country from where an assignee has come from, or from where they may have
originally been remunerated, are severed and the assignee becomes a “local” in the
host-country. It almost always involves replacing a salary package (e.g. base salary,
incentives, allowances, perquisites, social security, and retirement plans) with
compensation comparable to that offered to locally hired employees. Thus, the
Balance Sheet and Going Rate approaches have different foci and hence also different
advantages and disadvantages (see the following table):

Going Rate Approach Balance Sheet Approach

Advantages • Equality with locals nationals • Equity between different assignments and
• Simplicity between assignees of the same nationality
• Identification with host country • Facilitates assignee re-entry
• Equity among different nationalities •Easy to communicate to employees

Disadvantages • Variation between assignments for • Can lead to disparities between assignees of
same employee different nationalities in the same host country,
• Variation between assignees of same and between assignees and local nationals
nationality in different countries • Administration can be complex
• Potential re-entry problems

Source: Reiche, S., Harzing, A.-W., & García, C. (2009). Management of International Staff.
IESE Technical Note, DPON-79-E, IESE Publishing

Apart from the stated differences in the two approaches and the related benefits and
drawbacks, the going rate approach seems to be more cost-effective than the balance
sheet approach. In other words, ‘going local’ may reduce the host-country market
adjustment costs, which may be especially tempting for Western multinationals
sending people to countries with lower salary levels. Despite these advantages, the
balance sheet approach continues to be the most widely used method.

4.2. Local-Plus

Local-plus is an approach in which expatriate employees are paid according to the

salary levels, structure, and administration guidelines of the host location, as well as
being provided, in recognition of the employee’s foreign status, with special
expatriate benefits such as transportation, housing, and the costs of dependents’
education. It is worth noting that not all expatriates on local-plus receive the full
range of additional benefits, these being at the discretion of the employing
organization and largely determined by the location of the assignment (e.g. hardship
versus non-hardship location), among other factors.
 55

Local-plus and localization is offered in one of two ways. When it is “delayed”, an

expatriate commences an international assignment on a balance-sheet approach and,
after a period of between three to five years, then transitions to local-plus or is fully
localized directed by either the employer or employee. Some assignees relocate, for
example, with full knowledge that local-plus will be offered, or localization will occur,
after two years in the host-country as pre-determined in their contract, whereas
other assignees may not be transitioned to local-plus or localized until completion of
the initial, or subsequent extension(s) of, the assignment which may be five to seven,
or even ten, years after it first began.

Transitioning to a reduced compensation package usually involves a phasing out

period during which special expatriate benefits (such as transportation, housing,
health care, and the costs of dependents’ education) are reduced over a “wind-back”
period (e.g., 50% phased out in Y1, and 50% in Y2). For fully localized assignees, it is
essential for them to resign from his/her home country office and to be formally
hired by the host country office of the same company for accounting purposes. This is
also a typical requirement for local-plus assignees, but not always enacted.

Reduced compensation can also be offered immediately at the onset of an

assignment, typically in the form of a “permanent” or “one-way” transfer. In this
scenario, employees know from the outset that they will be on local-plus or fully
localized which removes the company’s obligation to repatriate or reassign them
elsewhere. Companies typically use reduced compensation approaches as a cost
cutting measure in terms of maximizing both talent management and cost
containment. A recent study found that reduced expatriate compensation is used
when the assignment has a combination of: (a) a permanent position in the host
country; the assignment location is in the same region as an employee’s home-
country; (c) there is not likely to be a suitable role in the home-country for an
employee to return to; and (d) cost reduction is a priority.

A recent assignment trend directly related to reduce compensation is the increase in

“permanent transfers” resulting in the localization of expatriates. A research found
that more than one-third of the participating firms in their survey used permanent
transfers, which is viewed as a cost effective alternative to the traditional (balance-
sheet) international assignment.
 56

Policy Name Strategy Description of Policy Purpose Used For

Balance-Sheet Development •Full ‘bells and whistles, i.e. generous remuneration •Targeted at executives for career development who posses
(full package (including bonus and incentives) and benefits (including universal skills and considered high potential
home-based) tax equalization, look-see trip, cost of living allowance, •Used for ‘cadre’ approach to develop careers of elite group of high
housing, education, spousal allowance, car, home leave, performers whose permanent mobility is long-term strategic goal
club memberships) •Used for retention purposes where goal is to repatriate to
•Designed to ensure employee life style in comparison to corporate headquarters or business group headquarters
‘home’ not disadvantaged by relocating •Used sparingly as reward for key individuals
•Based on notion that there is a ‘home-country’ from •Complex to administer with many home-host country combinations
where the expatriate originates

Balance-Sheet Skill / •Reduced version of full package, i.e. generous •Expatriates with deep technical skills or competencies
(light package Secondment remuneration with / without bonus and incentives, and •Specific goal is to transfer skills and knowledge for duration of
home-based) inclusion of some benefits(e.g. housing, education, car, assignment only (no more than 2 years)
home leave) but not others (e.g. club memberships, •Expatriate relocates for fixed period and repatriates with no
spousal allowance, cost of living) intention to relocate again unless a specific skill need arises
•Used to service clients in location where local skills not available

Local-Plus Cost savings •Provides some benefits of developmental strategy but •Combination of developmental and skills / secondment expatriates,
(host-based) on greatly reduced basis but generally targeted at middle management executives who are
•Expatriates often localized with some additional benefits specialized, functional people, or broad business managers and / or
provided to sustain retention generalists who move between variety of different positions (and
•No on-going allowances (e.g. cost of living) locations) throughout their career
•Typically offered to managers initiating relocation or indicating
willingness to relocate

Localization Cost savings, •Initial allowances from any of above phased out over •Offered to managers initiating relocation and long-term assignees
(host-based) functional period of assignment (50% benefit Y2, 30% benefit Y3) to exceeding term of contract (i.e. beyond initial assignment) but who
retention achieve full “local” remuneration wish to remain in location or firm does not wish to repatriate

Permanent Self-initiated •One way relocation package to host-destination •Self-initiated / employee-initiated relocation
Transfer transfers •Salary, incentives and benefits from local payroll
(host-based)
 57

4.3. Net-to-net Approach

Integrates employees who make a permanent or indefinite move into local pay
programs, adjusting home-country net pay for any cost-of-living difference, then
grossing up for local taxes and housing. This approach is best used for integrating
assignees into local pay programs when the relocation is permanent or for an
indefinite period. Starting from the employee’s current home-country compensation
package, a computation is carried out to take into consideration differences in income
taxes, housing costs and cost of living to arrive at a local salary in the host country
that would provide an approximately equivalent standard of living to the transferee.
This is not an inexpensive approach, but its primary goal is to preserve the assignee’s
standard of living in the assignment location.

In the end, it is important to consider the concept of ‘wholeness’ with regard to the
goals of compensation packages. The concept refers to the organization’s desire to
ensure that the expatriate does not experience an overt gain or loss when all
elements of the compensation package are combined. While finding a balance
between the organization’s and expatriates’ perceptions of ‘wholeness’ can
sometimes be difficult, the intentions of ‘keeping the employee as a whole’ by not
letting expatriates experience drastic lifestyle changes are paramount.

5. Expatriate Allowance and Premium

Once the base salary has been determined, then the firm must decide which
incentives it feels are necessary to convince its employees that it will be to their
financial advantage (or, at least as is being increasingly maintained, not to their
disadvantage), to take the foreign assignment. One of the key issues that have arisen,
here, at least for more experienced MNEs, is the high cost of expatriation. In the past
(and still normally for less developed multinational firms), many incentives were
offered, often with sizable monetary benefit to the expatriate as follows:
58

• Efficient Purchaser Index

• Standard Purchaser Index
• Convenience Purchaser Index
Cost of Living (COLA)
• Global Index

Hardship Premium
Relocation Allowance

Mobility Premium
Housing Allowance

FX Rate Protection
Education Allowance

Paid Leave & Airfare

Expatriate Allowance and Premium

Source: Reynolds, C. (1986). "Compensation of Overseas Personnel," in Handbook of Human

Resource Administration, 2nd ed., ed. J. J. Famularo, pp.47-61. New York (USA): McGraw-Hill.

5.1. Cost of Living Allowance (COLA)

MNEs often provide a number of what are referred to as equalization adjustments.

These are payments whose purpose is to adjust for differences (generally in a higher
direction) in mandated payments that expats have no control over – some of which
are paid by the expat and some of which are paid to the expat. The most common
and probably significant of these adjustments is the cost-of-living adjustment (COLA).

The purpose of the COLA is to enable expatriates to maintain as closely as possible

the same standard of living in the foreign assignment that he or she would have had
at home (or better, if coming from a low-cost-of-living city or country). The COLA is
determined by calculating the costs for typical goods and services in the home
location as well as in the foreign location and adjusting accordingly. These
adjustments also vary according to the techniques that the consulting firm uses to
determine the cost of living in various foreign locations.

5.1.1. Efficient Purchaser Index

Mean-to-mean index compares the mean prices (the average of the price range of
each item) in the base city to the mean prices (the average of the price range for each
 59

item) in the host city.

This index is not biased in any direction and gives a good indication of overall price
levels in the two cities.

It is reversible. If Singapore is 100 and Tokyo is 120, then when Tokyo is 100 Singapore
is 83 (=100/120).

This index is the best indicator of overall differences in prices between two cities as it
compares the average of the price range for each item both at home and abroad.

The efficient purchaser index assumes that an assignee is no longer completely new
to the location and has learned to purchase better and can secure prices that are
lower because of his or her increasing familiarity with the location.

5.1.2. Standard Purchaser Index

Compares the average of the low and median price level in the base city to the
average of the price range in the host city.

Higher than the efficient purchaser index.

This index may reflect cost of living differentials as they should apply to very
experienced shoppers in their home city and who, due to the short-term nature of
the assignment, may not develop the same level of efficiency.

5.1.3. Convenience Purchaser Index

Compares the average of the low and median price level in the base city to the
highest prices for selected categories or items in the host city.

Higher than the standard index.

It allows the expatriate to purchase food, beverages, domestic supplies, personal

care, sports and leisure items at the more expensive or convenience stores.

This index can be used in locations where even the slightest bit of adaptation is not
always evident, or where shopping convenience is essential.

5.1.4. Global Index

A recent development in the field of global human resources is to maintain a cadre of

60

"globally mobile" employees. The weights in this type of "goods and services" index
reflect the consumption pattern of an internationally mobile executive who has
adopted a flexible approach to lifestyle and who no longer retains any ties to a
specific home location.

5.2. Hardship Premium (Allowance)

The hardship allowance refers to a premium payment in order to provide special

compensation to expatriates who would experience a significant deterioration in
living conditions in their host country. The allowance is calculated based on quality of
living differentials of home city compared with host city.

Quality of living differentials are calculated based upon variable categories, such as
political and social environment, economic environment, socio-cultural environment,
medical and health considerations, schools and education, public services and
transport, recreation, consumer goods, housing, and natural environment.

The three broad areas typically considered in evaluating the extent of hardship
include physical threat, level of discomfort, and inconvenience. The physical threat
category includes potential or actual violence, hostility to foreigners from the local
population, prevalence of disease, and the adequacy of local medical facilities and
services. The discomfort category evaluates the physical environment and climate, as
well as geographical, cultural, and psychological isolation. And the inconvenience
category rates the local education system, the availability and quality of local housing,
access to recreational and community facilities, and the availability, quality, and
variety of consumer goods and services.

This allowance will be adjusted or removed by a Company in its sole discretion in

accordance with continually updated information provided from multinational
consultant firms. The expatriate will not gain the allowance as a result of higher or
equivalent quality of living levels in the host city compared to the home city.

Hardship allowances typically range from 5 percent to 25 percent of base pay with
danger pay maybe adding another 15–20 percent to base pay. Many US MNEs use the
US State Department tables for determining these amounts.

5.3. Mobility Premium (Allowance)

A company pays a foreign service premium to expatriates to compensate their life

style adjustments, family’s hardship, dependent care, maintenance of residence in
 61

home country, and other costs due to the assignment, while providing an incentive to
take the assignment.

This incentive is used to (1) compensate the expatriate for all the adjustments that
s/he will need to make; (2) compensate the expatriate and her/his family for the
“dislocation” of having to move to an unfamiliar country and to live in what might be
seen as an uncomfortable (i.e., different) environment; (3) provide an incentive to
take the foreign assignment; and (4) keep up with the practices of other MNEs. These
premiums used to average about 15-25 percent of the expatriate’s base pay.

Where applicable, such premium will be specified in the Assignment Agreement, and
shall be based on date from the most recent compensation survey of international
assignments.

Increasingly, firms are questioning whether it is necessary to pay this premium for an
overseas assignment (or, at least, for most overseas assignments). Critics argue that in
a truly global economy with improved communication and transportation, general
availability of global consumer products, and accepted international business norms,
there is no longer as much trauma and dislocation associated with an overseas
transfer.

5.4. Foreign Exchange Rate Protection

When home-country currency strengthens, it takes less of it to purchase goods

abroad; when home-country currency weakens, it takes more of it to purchase goods.
Currency fluctuations leave assignees wondering if their home-based compensation
packages are sufficient. A company can protect their international assignees’
purchase power by following:

It is important that the exchange rate be determined using a transparent method that
can be explained and supported easily. The COLA should be updated regularly
following a predetermined schedule. Regular updates let the allowance be adjusted
automatically depending on exchange rate changes. An easy way to stay on top of
exchange rate movements is to adopt a quarterly COLA update schedule.

Exchange rate monitoring is conducted between COLA updates, and it can trigger a
new allowance linked to automatic updates if the exchange rate change meets a
predetermined threshold (usually 5%).In conjunction with regular COLA updates,
exchange rate monitoring helps to ensure that action is taken promptly if the rate
moves significantly.
62

Split payroll (or split pay) can also protect against interim changes. Rather than paying
employees entirely in home currency, split pay allows an employee to draw a portion
of his or her compensation in host currency and the remainder in home currency.

5.5. Relocation Allowance

A company may pay for expenses including household shipping and purchase of daily
necessities for expatriation or repatriation. After an expatriate confirms and signs an
international assignment agreement or receives a repatriation notice, s/he is eligible
to have some days personal leave with full pay to arrange moving, housing, schooling,
and other personal issues in home/host country. The flying time between the home
and host country/city may be excluded from the relocation leave.

5.6. Housing Allowance

A Company may establish a housing standard on the rental cost of the host country
accommodation. The accommodation costs guideline is usually based upon the
recommendation of an independent consultant firm. The housing standard often
reflects family size and Home Country job grade level.

Housing Allowance will be paid equal to the amount of actual, reasonable and
necessary the host country housing and utilities costs, subject to the housing
standard. If the Company provides the housing, the allowance will be zero.

When it is tax-effective, the lease may be in the name of the Company’s legal entity in
the host country.

When a company uses the balance- sheet approach, it typically agrees to pay any
increased cost of housing in the host location. The most common approach is for the
company to lease the housing in the host location and collect a home-country
housing norm (contribution) from the employee. The home-country housing norm is
the amount that a typical family pays for housing and utilities in their home country.

Actual, reasonable expenses incurred in retaining an agency to find living quarters,

where such services are normal and essential (such as the one-time fee charged by
rental agents at the beginning of a rental contract, including special legal fees for the
lease and other documents) will be reimbursed by the Company.

5.7. Education Allowance

It is the cost of primary and/or secondary education for the eligible dependent
 63

children residing in the Host Country with the expatriate. The educational assistance
will include tuition and registration, textbooks, required donation fees, and uniforms.

5.8. Paid Leave and Airfare

Annual leave for the expatriate is as according to the working regulations of the home
country.

Home leave was intended to help minimize the effects of the culture shock of an
international assignment. It allows assignees to maintain family ties and stay current
with home business contacts and associates; and keep connected with their
community and culture.

Expatriates are eligible for home leave after several months on initial assignment in
the host country. This regulation does not apply to travel for home business
assignment, family emergency, medical necessity, or due to legal regulations
approved by the host country Head.

If the expatriate is eligible for home leave, the Company will reimburse the assignee
and immediate family for the expense associated with the airfare of the round trip
between home and host countries.

A period of leave, usually in addition to the normal vacation entitlement, given to

employees posted to certain locations which are considered “challenging” enough to
require brief periods away from the assignment location.

5.9. Others

5.9.1. Completion Bonus

A bonus paid at the end of an assignment to reward the successful completion of an

international posting.

5.9.2. International Cadre/Career Expatriate Premium

A premium paid to international cadre/career expatriates as an incentive to remain

mobile.

5.9.3. Per Diem Allowance

A daily allowance designed to cover miscellaneous expenses incurred on meals out,

64

local transportation and incidentals while on assignment. Where hotel

accommodation is necessary, a per diem will usually also cover the cost of a room and
breakfast. It is usually used for short-term expatriate or business trip.

5.9.4. Healthcare Services

Those service offer employees and expatriates support to access non-urgent and
primary medical care, especially in regions that lack a reliable medical infrastructure.
A Company may cover the assignee's enrollment in the global medical and health
service system, including emergency medical repatriation.

5.9.5. Insurance

Insurance is another area of benefits that can add complexity to the design of
compensation programs for expatriates. Most big firms provide their managers and
senior technicians with life insurance as part of their employees’ benefit packages.
But many life insurance policies have clauses that in case of declared or undeclared
war the insurance are null and void (which may be more likely to happen in a foreign
assignment). Thus the firm may need to purchase special coverage while the
expatriate is overseas.

In addition, the typical travel coverage (such as that provided when buying airline
tickets through a credit card) may not be valid if going abroad for an extended period
of time. Again, the firm may want to consider purchasing special travel insurance for
its expatriates and their families.

Depending on the location of the overseas assignment, the firm may also have to
provide special “work risk” insurance, for more dangerous or remote locations and,
possibly, other forms of special insurance, e.g., kidnapping insurance.

Multinational pooling allows multinational companies to benefit from favorable

insured claims experience on a world-wide basis. In contrast if each country office
had to pay for policies based on their individual experience ratings, this can become
very costly as a whole for the company. A multinational pool brings together
insurance plans that have been set up locally for two or more countries. Premiums
can then paid by subsidiaries on a purely local basis, and claims are settled on a
purely local basis. The advantage of this arrangement is that organizations can spread
the risk across its offices and achieve optimal cost savings.

5.9.6. Loan-bonus
 65

A loan-bonus program is an alternative to the employer paying tax on the expatriate

employees grossed-up income (which would include any tax reimbursements paid to
the employee). Instead, the employer arranges for the employee to obtain an
unsecured loan to cover his or her individual tax bill plus interest due on the loan.
After the employee’s assignment has ended and he or she is no longer a resident of
the host country, the employee receives a bonus equal to the outstanding loan. A
number of banks can provide this service; however, this strategy is accepted only in
certain taxing jurisdictions. Companies that wish to use this approach must seek
guidance from a tax adviser to determine its viability (in a given location) and its
structure and implementation. Additionally, the Sarbanes-Oxley Act could potentially
restrict loans given to executive officers.

6. Tax Reimbursement

International assignments are complicated by tax regulations both at home and

abroad. Home-country and foreign tax laws, as well as company policy, determine
how an employer will treat assignees’ and their spouses’ income, their income from
investments and other sources not related to the company, as well as property
ownership. In general, however, the majority of multinationals attempt to focus their
expatriate compensation programs, including the treatment of income tax, around
the following principles:

6.1. Principles of Tax Treatment

6.1.1. Employees will neither gain a windfall nor suffer undue financial burden as a
result of the special circumstances and complexity of compensation and tax matters
while they are on an international assignment.

6.1.2. Employees and the employer must comply fully with the tax laws and fi ling
requirements of both home and host governments.

6.1.3. The employer’s policies are fair and reasonable, equitable to all employees,
cost effective, easy to administer and easy to understand.

6.2. Tax Liability

It is likely that employees’ tax liability will be higher when they go on an international
assignment for following reasons:

In many countries, the taxes applicable expatriates are higher when compared to
66

their home country tax system because they do not have the same opportunities to
reduce their local tax liability as do local-national employees. While they may find
special concessions available for expatriates, such as advantageous tax rates and
deductions or credits, individual circumstances do not always allow assignees to claim
the same deductions as their local counterparts. For example, they will probably rent
a home while abroad, thus preventing them from taking any existing tax deduction
for mortgage interest.

Another possible reason is that they are likely to make charitable and pension
contributions in their home country, again prohibiting the use of deductions. On the
other hand, there will often be situations where the host-country taxes are lower.
These cases result in a windfall that would revert either to you or your employer,
depending on how the company handles your taxes.

Many companies provide allowances on a tax-free basis to help them pay for
miscellaneous expenses related to their international assignment. For example, the
employer might provide a relocation allowance to cover unspecified settling-in
expenditures, such as new drapes or locks for the family residence. Or, the company
might pay a car allowance to supplement loan payments or a hardship premium to
compensate you for living and working in a dangerous or difficult location. Even
goods and services differentials to bridge the gap between home and host prices are
generally provided tax-free. However, as they are considered part of their income, it
will raise their overall income level, resulting in a higher tax liability.

6.3. Approaches of Tax Treatment

Employer practice ranges from heavy involvement (making complex calculations) to

little or none (making the employee responsible). Although there are four common
methods of treating expatriate tax – equalization, protection, ad hoc treatment and
laissez faire – the latter two are rarely used:
 67

• You are on your own when it comes to

Laissez-faire
tax matters

• Management handles each expatriate’s tax

Ad hoc
situation on a case- by-case basis

• You do not have tax liability if your income taxes are

Tax protection
higher than what you would have paid at home

• You will be no better or worse off financially

Tax equalization
than if you had stayed at home

Tax Reimbursement Approaches

Source: Briscoe, D., Schuler, R., & Tarique, I. (2012). International Human Resource
Management: Policies and Practices for Multinational Enterprises; 4 edition, (Global HRM).

6.3.1. Laissez Faire

Companies first entering the global market are sometimes inclined to use laissez faire
in the early stages of their expatriate program. This method places the entire
responsibility on the assignee for calculating and paying income taxes related to both
their home country and assignment location. In effect, they are on their own when it
comes to tax matters. A number of results are possible: potential windfalls when
taxes are lower in the host country, an extra liability burden when taxes are higher
and noncompliance with government filing requirements.

In this approach, the organization is not actively involved in managing home or host
taxes. Essentially, the employee is responsible for any taxes incurred. However, often
the employer increases the assignee's compensation to cover the additional tax
expense.

6.3.2. Ad Hoc

When a company has relatively few expatriates in the same location (or no clear
destination pattern), either because it is just beginning its international assignment
68

program or by design, it often has no formal tax policy. Management handles each
expatriate’s tax situation on a case-by-case basis, allowing the possibility for
inequitable and inconsistent treatment of expatriate tax.

Essentially, each international employee negotiates his or her own deal with the
organization. This approach may work for a small international workforce, but as the
international program grows, the negotiation process can become cumbersome.

6.3.3. Tax Protection

This method holds the employer responsible for employees’ tax liability if their
income taxes are higher than what they would have paid at home. However, it allows
them to keep any windfall when taxes are lower. A major problem is that windfalls
available only to some expatriates raise a serious issue of inequity with their
colleagues in other locations. Other points of concern relate to the fact that tax
protection focuses on their actual tax payments. Consequently, two adverse results
might cause some uncertainty:

They have no way of knowing what to expect regarding their tax reimbursement until
they have filed the tax return, paid their taxes to the proper authorities and
reconciled any differences between what they would have paid had they stayed at
home and what they had to pay as a result of the international assignment; and

As a result, they might suffer a negative cash flow until the company has a chance to
reimburse what it owes them.

In the tax protection approach, the organization figures the assignee's hypothetical
income tax and compares it with actual taxes paid. At the end of a year, the
organization reimburses any disparity. If the employee pays less in taxes than he or
she would have paid in the home country, the assignee keeps the difference. A
disadvantage of this program is that it can create inequities between assignees in low-
tax countries and those in high-tax countries.

6.3.4. Tax Equalization (TEQ)

This method is consistent with the balance sheet approach to international

compensation: As an expatriate, they will be no better or worse off financially than if
they had stayed at home. In other words, they will be responsible for income taxes at
a level equal to that incurred if they had continued to live and work in their home
country rather than going abroad. To meet the objective of keeping them “whole,”
 69

the employer withholds a hypothetical income tax that is assessed against their
compensation at the same level as that assessed for their home-country peers. In
turn, their employer is responsible for the tax assessed on their company-earned
income (e.g., base salary, bonus). If their taxes are higher on assignment than what
they would have paid at home, their employer reimburses the difference; if the taxes
are lower, the company keeps the savings.

In a tax equalization program (also known as tax balancing), a hypothetical tax is

withheld from each paycheck. All actual taxes are either paid by the employer or
reimbursed by the employee if it is determined that the hypothetical tax was too low.

Is all income included in tax equalization? The answer varies by company policy as to
what income elements will be tax-equalized. Complicating the issue is the fact that
authorities in home and host countries may (or may not) assess taxes on both their
company source income as well as any outside income from investments and their
spouse or partner’s employment. Although many employers limit their coverage to
income directly related to their job, some include a portion of outside income. When
they do, their equalization of outside outcome is generally similar to that of company-
source income.

Under tax equalization, the hypothetical tax (which is subtracted from base salary and
retained by the employer) approximates the amount that would be paid by their
home country peers at a comparable salary level and family size. For practical
purposes, making a hypothetical deduction is easier than calculating their actual tax
liability, which would require details of their financial circumstances. Such
calculations would be problematic for one expatriate; imagine that same task
multiplied by hundreds of assignees, each with a different home-host combination
and tax related situation.

In general, the employer will use the “hypothetical tax” (it is also known as hypo tax)
it has withheld you’re their paycheck to submit payments for their home and host-
country taxes. Should the foreign authorities prohibit their employer from paying
their foreign taxes directly, they would be responsible for payment (with subsequent
reimbursement by the employer). They may also be responsible for home-country tax
payments on non-company-source income (such as investments).

6.4. Protection vs. Equalization vs. Localization

Once an international assignment exceeds a year OR it is known that the international

assignment will exceed a year, everything paid to, for, or on behalf of the expatriate is
70

taxable compensation to the expatriate. Further, since taxation in both home and
host countries is the norm, inflation of the overall tax liability is unavoidable.
Therefore, tax preparation assistance as a benefit for expatriate employees is almost
imperative. Companies may opt to address taxation issues by adopting a localization,
tax protection, or tax equalization approach.

Tax Protection

• If the actual worldwide taxes exceed the hypothetical taxes, the employer
reimburses the excess to the expatriate employee.
• If actual worldwide taxes are less than the hypothetical taxes, the employer
receives NO reimbursement from the employee.

Tax Equalization (TEQ)

• It is no gain or loss approach. The employer bears the responsibility for paying
the expatriate’s actual home and host country tax burden. In exchange, the
expatriate pays a hypothetical (i.e. ‘as if’ or ’stay at home’) tax to the
employer as determined under the company’s equalization policy.

Tax Localization

• Expatriate employee is responsible for his or her own tax liabilities.

• Localization may result in significant tax burden on the employee.

Source: Global Executive ManageMent Solutions (GEMMS)

6.4.1. Localization

LOCALIZATION is the least common approach. Under the localization approach, the
expatriate employee is responsible for his or her own tax liabilities. Localization may
result in significant tax burden on the employee. Additionally, most company’s feel
the expatriate will turn to the company for financial support in meeting these tax
liabilities should this approach be utilized. Therefore, this approach is seldom utilized.

6.4.2. Protection

Under tax PROTECTION, the expatriate employee is responsible for paying actual
home and host country taxes. A hypothetical (or stay at home) tax is determined and
compared to the actual worldwide taxes that the expatriate employee paid. If the
 71

actual worldwide taxes exceed the hypothetical taxes, the employer reimburses the
excess to the expatriate employee. If actual worldwide taxes are less than the
hypothetical taxes, the employer receives NO reimbursement from the employee.
This is the most generous approach since the employer reimburses the expatriate
employee for amounts in excess of the hypothetical tax. However, there is a timing
issue with this approach. Normally, all home and host country taxes are paid up front.
Then after the returns are completed, or later, credits and double taxation issues are
worked out and refunds are returned from the tax authorities. Therefore, an
expatriate could pay 30% taxes to the home country and another 30% taxes to the
host country and be forced to live off of the remaining 40% of gross salary … or call
upon the company for financial support.

6.4.3. Localization

When tax EQUALIZATION (or no gain or loss) approach is utilized, the employer bears
the responsibility for paying the expatriate’s actual home and host country tax
burden. In exchange, the expatriate pays a hypothetical (i.e. ‘as if’ or ’stay at home’)
tax to the employer as determined under the company’s equalization policy. The
amount is recalculated annually along with the preparation of the home country tax
return. The result may generate a refund to or an additional payment from the
expatriate. The benefits to this approach are numerous but the major benefits
include:

The expatriate bears an approximately similar tax liability; thereby, leaving the issue
of taxation out of the equation of accepting the assignment.

Hypothetical withholding, when retained by the company like in the equalization

approach, is considered a form of deferred compensation and therefore not taxable
in most of the countries today.

Basically, localization was the first approach used when companies began sending
assignees abroad (i.e. an assignee goes to a foreign country and with the
governments sophisticated tax treaties, etc. the assignee should not be unduly
burdened by taxes.) Then after realizing there is no dollar for dollar benefit, the
timing issues, and the expatriates complaints of dealing with double taxation,
companies began an effort to entice employees to accept international assignments
by using the protection approach. After losing money with the protection approach
and expending extreme efforts on researching the best tax effects, equalization was
developed. Today, the majority of sophisticated expatriate companies utilize the
72

equalization approach.

7. Tax Equalization (TEQ) Process

The primary objective of any tax equalization (TEQ) policy is to help neutralize the tax
impact of an international assignment. An individual who is subject to tax equalization
should not experience a tax benefit or a tax detriment as a result of an international
assignment, regardless of the host location. In other word, TEQ ensures that the
assignee pays no less and no more taxes than he or she would have paid in the home
country, hence the term "tax equalization".

Advantages of TEQ are not artificially inflating salaries in high tax countries and
allowing substantial employee tax gains in a low tax country. TEQ also minimizes tax
and compensation issues at repatriation.

7.1. Hypo Tax

TEQ in international compensation means that the assignee's host-country salary is

reduced by the hypothetical tax (hypo tax) that the assignee would have experienced
in his or her home country. The employer pays and reports in the host country only
the net salary after the reduction for the home-country employee's tax. Thus, the
host-country taxes are based on a lower compensation level than would have been
experienced if the hypothetical taxes were not subtracted.

To implement a tax equalization policy, companies typically withhold a hypothetical

tax from the assignee during each payroll cycle. The hypothetical tax deducted
represents the estimated “stay-at-home” tax the assignee would have paid had he or
she not gone on assignment. In turn, any actual home or host country taxes are
typically funded by the company.

After the actual tax returns are completed, a tax equalization calculation is prepared
to compare the estimated hypothetical tax retained during the year with the
assignee’s final theoretical “stay-at-home” tax liability. The calculation results in a
balance owed either to the company or to the assignee.
 73

Pre-Assignment
On-Assignment
Hypothetical (Hypo) tax
estimation Post -Assignment
Hypothetical Tax Revisions
TEQ Policy
Bonus/Incentive Payments To avoid any surprises
Education and
Year-End Payroll Review Tracking and collecting
Communication
Timely TEQ Preparation outstanding TEQ payments
Payroll Review
Checked through Global HR
to confirm whether any
unpaid TEQ balances remain

TEQ Process

Source: Foss, M. (2009). I Owe the Company How Much? How to Manage the Tax
Equalization Process to Avoid Surprises. The Expatriate Administrator, Winter(4), KPMG
Publication.

A large TEQ balance due to the employer is often the result of an inaccurate
hypothetical tax deduction. Large TEQ balances can also arise from other causes such
as tax return balances due that need to be initially funded by the employee or
refunds that need to be returned to the company. However, with the proper planning
throughout an assignment, companies can potentially mitigate the impact of the TEQ
and reduce the amount owed to or from the employer.

7.2. Pre-Assignment Planning

Once a decision is made to send an employee on assignment, investing the time up

front to understand and properly account for the hypothetical and actual tax
components of an assignment is critical to managing the TEQ process. Implementing
an accurate hypothetical tax calculation and estimating actual assignment tax costs
are the first steps.

An initial hypothetical tax calculation should be prepared at the start of an

assignment using the most accurate information available. The more detailed the
calculation, the better, since the amount of hypothetical tax deducted during the year
74

will have a direct impact on the final tax equalization results. A company’s tax
equalization policy will determine the types of income and deductions that should be
included in the hypothetical tax calculation.

Generally, the calculation will be based on an assignee’s “stay-at-home” income and

will not include tax protected items such as assignment related allowances. “Stay-at-
home” income refers to the income the assignee would have received had he or she
not gone on assignment and typically includes base salary, net of deferred
contributions (such as pensions) and other pre-tax deductions, incentive
compensation such as bonuses, commissions, or stock option income, and in most
cases, personal income. In certain cases, special assignment-related payments, such
as a mobility premium or a car allowance, may also be subject to hypothetical tax
depending upon the company’s policy.

Ideally, the initial hypothetical tax calculation should consider the assignee’s personal
income and deductions, in addition to company compensation that is subject to
hypothetical tax. In an effort to save time, some companies may implement a
hypothetical tax deduction based on company income only and rely on the TEQ to
reconcile any discrepancies. This short-cut can lead to a TEQ with a large balance due
to the employer and could lead to lengthy discussions with the assignee.

7.2.1. Hypothetical (Hypo) Tax Estimation

In conjunction with a detailed hypothetical tax calculation, an assignment cost

projection can also be an invaluable planning tool during the preliminary phase of an
assignment. A cost projection provides an estimate of the total overall cost of an
assignment and can assist companies with identifying and budgeting for home and
host country tax costs.

By being aware of the potential tax costs up front, companies can better determine
how much, if any, home country tax withholdings need to continue during an
assignment and they can accrue for the host country tax liability. Accounting for and
paying actual taxes throughout the year can significantly reduce the amount owed
with the tax equalization, particularly if the assignee is expected to initially fund any
balances owed with the tax returns and receive credit for making the payments on
the final tax equalization.

In addition to implementing an accurate hypothetical tax deduction and estimating

actual tax liabilities, taking the following additional tips into consideration at the
beginning of an assignment can also help to reduce surprises with the TEQ:
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7.2.2. TEQ Policy

Companies should have a comprehensive written tax equalization policy in place that
clearly describes the process and sets forth the guidelines for allocating tax
responsibilities between the assignee and the company.

7.2.3. Education and Communication

Assignees should have an assignment briefing and tax consultation session at the
beginning of the assignment to review the process and the company’s tax
equalization policy. Assignees should also receive the details of the hypothetical tax
calculation implemented by the company. When assignees object to the results of a
TEQ, it may be because they do not fully understand the process.

7.2.4. Payroll Review

After the initial hypothetical tax calculation goes into effect, the assignee’s first
paycheck should be reviewed for accuracy.

If an assignee is used to receiving a tax refund, then having to pay over the company
more than likely will frustrate the assignee even if he or she ultimately understands
the source of the balance due. The company may need to expend additional
resources to collect the amount owed from the assignee and may risk having an
uncollectable receivable.

7.3. During Assignment

A significant opportunity for advance planning and control of the TEQ process exists
at the very start of the assignment. However, even the most comprehensive pre-
assignment planning can break down if there is insufficient follow-through and
planning “maintenance” (e.g., execution, monitoring, and adjustments) during the
assignment. Companies should have processes in place to identify and account for
changes that could impact an assignee’s hypothetical tax or actual tax liabilities.

7.3.1. Hypo Tax Calculation

A company’s TEQ process should provide for the hypothetical tax calculation to be
updated to reflect any of the following:

Annual salary increases, or other compensation adjustments

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Changes in the assignee’s personal situation (e.g., change in marital status, birth of a
child, substantial change in personal income, or loss of personal deductions used in
the hypothetical tax calculation such as mortgage interest or real estate tax
deductions, etc.)

Changes to related income and social security tax laws.

A leading practice is for companies to update the hypothetical tax calculation on an

annual basis when pay increases are implemented. Any changes to an assignee’s
personal situation should also be incorporated into the updated calculation. To
facilitate this process, assignment administrators could request assignees complete
and return a form to the tax service provider to confirm their marital status, number
of dependents, personal income, spousal income, etc. After the hypothetical tax
calculation is updated, the new annual hypothetical tax amount should be
communicated to the assignee.

7.3.2. Bonus/Incentive Payments

When a company pays a bonus or other incentive compensation, a process should be

in place to determine and withhold the correct amount of hypothetical tax. When an
assignee owes on the final TEQ, the under-payment may be attributable to incentive
compensation. The hypothetical tax on the payment might have been withheld at a
flat withholding rate that is less than the assignee’s final marginal tax rate, or the
company may have inadvertently failed to withhold any hypothetical tax.

7.3.3. Year-End Payroll Review

Annual year-end compensation and withholding reviews conducted with sufficient

lead time can assist companies in determining potential withholding shortfalls that
can be addressed before year-end rather than with the tax return and tax
equalization.

7.3.4. Timely TEQ Preparation

If possible, the TEQ should be prepared and issued simultaneously with the tax
return. Issues often arise when an assignee receives a refund of actual taxes that
needs to be returned to the company as a result of the tax equalization. When several
months have passed between the time the tax return and TEQ are prepared, the
assignee may have already spent the refund or may be less willing to return it to the
company, which could lead to TEQ collection problems.
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7.4. Post-Assignment

Managing the TEQ process does not end at the conclusion of an assignment and
needs to continue during the post-assignment period. Many times, assignees are
surprised when they are authorized for tax services and subject to TEQ for a year or
two after their assignment ends. However, it is not uncommon for assignment-related
allowances or tax payments to be made after the assignment ends that will be subject
to tax equalization.

In addition, if the assignee has excess foreign tax credits that can be utilized after the
assignment ends, a company’s tax equalization policy typically will provide that the
benefit of the foreign tax credit utilization goes to the company to the extent that the
company funded the foreign taxes. To avoid any surprises, assignees need to be
aware that the TEQ process may continue after their assignment ends.

Tracking and collecting outstanding TEQ payments can also prove to be more difficult
to administer after an assignment ends. The assignee may relocate to a different
office, department, or may leave the company entirely. Companies need to have a
systematic process in place for tracking and collecting unpaid TEQ balances to prevent
uncollectable receivables3. As many companies reduce their head-count during
challenging economic times, it is especially important that terminated employees are
checked through Global HR to confirm whether any unpaid TEQ balances remain.

8. Totalization Agreement and Tax Treaty

8.1. Totalization Agreements

International Social Security agreements, often called “Totalization agreements,” have

two main purposes. First, they eliminate dual Social Security taxation, the situation
that occurs when a worker from one country works in another country and is
required to pay Social Security taxes to both countries on the same earnings. Second,
the agreements help fill gaps in benefit protection for workers who have divided their
careers between the home country and host country. The agreements assign
coverage to just one country and exempt the employer and employee from the
payment of Social Security taxes in the other country. Typically, the social security
agreements are based on two rules:

8.1.1. Territorial rule: In general, an employee will be subject to the taxes of the
country in which the work is to be performed.
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8.1.2. Detached worker rule: In the case of individuals on international assignment,

home-country social security taxes will apply in order to minimize disruption.

8.2. Tax Treaty

Tax treaties are also referred to as tax conventions or double tax agreements (DTA).
They prevent double taxation and fiscal evasion, and foster cooperation between a
country and other international tax authorities by enforcing their respective tax laws.
Tax treaty is a bilateral agreement made by two countries to resolve issues involving
double taxation of passive and active income. Tax treaties generally determine the
amount of tax that a country can apply to a taxpayer's income and wealth. Tax haven
countries are the only countries that typically do not enter into tax treaties.

• Eliminate dual Social Security

Totalization taxation
agreements • Help fill gaps in benefit
protection for expatriates

• Prevent double taxation and tax

evasion by the resident of one
Tax Treaty country earning an income in
the other.

Totalization Agreement and Tax Treaty

Source: Weiser, S. (2015). Understanding Social Security Tax, Totalization Agreements and
Your Benefits, by Steven Weiser. (Siskind Susser PC)

9. Global Employment Company (GEC)

GEC is a term used to describe a subsidiary that multinational enterprises sometimes

form to manage high performers and other types of employees who do not readily fit
within the traditional operations of the MNEs. A GEC will have its own board of
directors and, often, a separate management team.

The GEC defines the entire relationship and formalizes the salary, short- and long-
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term incentives, and other benefits for the individual employed under its auspices.

GECs may also provide tax advantages it: for example, the GEC is formed in a country
that has low tax rates or a favorable totalization agreement. Popular destinations for
MNEs to form GECs include Bermuda, Hong Kong, Ireland, and Singapore.

A GEC simplified administration of the employment relationship. There is a single

payroll for all employees. Management of pension plans is simplified. Other benefits
can be more readily tailored to address an employee's circumstances. Health care is
typically contracted with a third-party international provider to augment public
health-care systems.

10. Global Payroll Management

Employees on international assignment present a challenge to HR and payroll

functions in organizations. There is increasing scrutiny and enforcement from tax
authorities, the length and structure of assignments are changing, and businesses
continue to demand a return on their investment in talent.

The payroll process relies on local knowledge to assess local obligations and, given the
pressures on mobility functions, it is understandable that there is more devolution of
responsibility to local teams. However, without a common approach, local payroll
teams can become detached from the assignment program’s fundamental aims. This
means not only potentially sharing information inefficiently between teams, but also
creating compliance gaps and a lack of overall control of costs.

A standardized process can provide greater certainty that all income is reported and
shadowed for tax purposes, that tax and social security contributions are paid
according to the countries’ regulations, and that withholdings are applied correctly.
The monthly compensation process needs a proactive, built-in controls framework to
maximize compliance across multiple jurisdictions. These controls should be
automated as far as possible to allow for any errors and inconsistencies to be
corrected.

Validating payroll data at the outset, improving communication with local payrolls and
comparing pay instructed with pay delivered could, for many organizations, bring
significant clarity for local payroll teams and improve compliance as a result.
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10.1. Establish appropriate data validation and controls

Starting out with a complete and accurate data set is critical to the success of each of
the subsequent stages in the compensation cycle. It also provides confidence that
compliance and cost is managed across the assignee population, as a robust
validation process will identify any incorrect or missing payments before they are
delivered to employees. Moreover, tax authorities and internal auditors are
increasingly seeking reassurance that controls are in place to actively manage payroll
compliance, and the effectiveness of these must be demonstrated.

To establish a robust data collection and validation process, take the following steps:

10.1.1. Set up regular training to improve local payroll and HR team knowledge of
global assignee payroll reporting.

10.1.2. Agree and communicate ultimate accountability and responsibility for

assignee payment and tax compliance in the home and host countries.

10.1.3. Put more checks and controls in place, review all data sources and establish
company guidelines. Controls should include comparing collected data against
assignment policy, and reviewing against prior months and across the assignee
population.

10.2. Communicate assignee tax and social security positions

Significant time and resources are spent within organizations to confirm the correct
tax and social security position of their assignees, such as applying certificates of
coverage and scheduling arrival and departure meetings to establish tax residence.
However, this effort could be wasted if these instructions are not effectively
communicated to the local payroll.

Clear payroll instructions are even more important for teams who lack sufficient
knowledge of assignee payroll reporting. Without accurate and clear instructions,
local payrolls run the risk of making incorrect payments to assignees or to local
revenue authorities.

Reduce the risk of error by providing local payrolls with complete process information
on all tax positions each month. Consider local payroll guides for each location that
include reporting and withholding obligations, taxability and processes, as well as
clear instructions for assignees who continue to pay social security in their home
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country.

10.3. Carry out post-payroll analysis

By making post-payroll analysis part of the monthly compensation process, any issues
or omissions can be addressed quickly in the next payroll cycle. This can include
identifying any out-of-policy or duplicate payments delivered locally in addition to
those instructed centrally. It also provides a control mechanism to confirm that tax
and social security positions have been followed.

Compare payroll output files to payroll instructions each month to identify any
variances and take corrective action. Such checks can be largely automated, provided
they are set up correctly and wage types are clearly understood.

10.4. Seek continuous improvement through reporting and analytics

Harnessing global compensation information for analysis and reporting purposes can
contribute greatly to an organization’s understanding of the fundamentals of their
mobility program.

Oversight of total program and individual country cost, or the ability to drill down to
specific grade and policy components, can help identify areas for cost savings. It can
also give an indication of the overall value for money generated by assignments. This,
in turn, can inform strategic decisions, for example to explore alternative options to
secondments such as localization, local hires or outsourcing to fill skills gaps.

Add greater detail to the data gathering process by including breakdowns of, for
example, shipping invoices and nontaxable items such as vendor fees. Such minor
changes will enhance the value of the data to allow analysis of costs. Make use of
data analysis techniques and technology to spot trends and identify areas of high-cost
or potential savings.

*”Secondment” refers to the opportunity many employers provide employees to work

within a different area of the company, by making an internal transfer. This includes
transferring to a different work area in the same office (such as switching from an HR
Generalist role to an HR Specialist position), transferring to another office to continue
their current job (such as moving from Shanghai to Hong Kong, or Shanghai to
Australia) or a combination of the two.
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Part Three: International Retirement Plans

1. Primary Retirement Plans

Retirement plans fall into two basic broad categories in many countries: defined
benefit plans or defined contribution plans. The difference between the two is
substantial and it's important to understand the characteristics of both categories in
order to make the right retirement plan benefit choices. Hybrid plans are also
available.

Defined Benefit Plan Defined Contribution Plan

1. Provides an explicit benefit which is easily 1. Unknown benefit level is difficult to

communicated communicate

2. Company absorbs risk associated with changes 2. employees assume these risks
in inflation and interest rates which affect cost
3. More favorable to short-term employees
3. More favorable to long service employees
4. Employer cost known up front
4. employer cost unknown

1.1. Defined Benefit Retirement Plans

A defined benefit plan is one set up to provide a predetermined retirement benefit to

employees or their beneficiaries, either in the form of a certain dollar amount or a
specific percentage of compensation.

Employer contributions to a defined benefit plan are very complex to determine and
require the work of an actuary. The assets of the plan are held in a pool, rather than
individual accounts for each employee, and as a result, the employees have no voice
in investment decisions. Once established, the employer must continue to fund the
plan, even if the company has no profits in a given year. Since the employer makes a
specific promise to pay a certain sum in the future, it is the employer who assumes
the risk of fluctuations in the value of the investment pool. There are three basic
types of defined benefit plans:

1.1.1. Flat benefit plan

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All participants receive a flat dollar amount as long as a predetermined minimum

years requirement has been met.

1.1.2. Unit benefit plan

Provides a benefit that is either a percentage of compensation or a fixed dollar

amount multiplied by the number of qualifying years of service.

1.1.3. Variable benefit plan

Benefits are based on allocating units, rather than dollars, to the contributions to the
plan. At retirement, the value of the units allocated to the retiring employee would be
the proportionate value of all units in the fund.

1.2. Defined Contribution Plans

The way that a defined contribution plan works is that either an individual alone, or
an employee and the employer make contributions into the plan, usually based on a
percentage of the employee's annual earnings. Each participant has an individual,
separate account. There is no way to determine in advance what the final payout at
retirement will be. Benefits depend on how much was contributed in the employee's
name and how well the pension fund investments performed. So, the risk of
fluctuations in investment return is shifted to the employees.

The defined contribution plan category contains a broad range of plans including
profit-sharing plans, called cash or deferred arrangements, employee stock ownership
(ESOP) plans, and money purchase plans.

1.2.1. Profit-Sharing Plans

Initially developed to encourage hard work and loyalty, profit-sharing plans encourage
companies to set aside money in the employees' names when the company shows a
profit. The employer may decide not to contribute in any given year, if it so desires.

Profit-sharing plans allow employers to make contributions to an account that earns

investment income and is sheltered from taxation until the money is actually
distributed. The employer's contributions are usually based on a percentage of the
profits that the business makes, but contributions can be made even if the business
makes no profit for the year.

1.2.2. Called cash or deferred arrangements (CODAs)

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Many qualified defined contribution plans permit participating employees to make

contributions to a plan on a before-tax basis. These plans are also called 401(k) plans
in the United States. They enable participants to save for retirement on a before-tax
basis. The employees authorize their employer to reduce their salary and contribute
the salary reduction on their behalf to a qualified retirement plan. In addition to these
employee elective deferrals, an employer can make supplemental contributions on
behalf of employees. These employer contributions can be subject to a vesting
schedule, but the employees' contributions must be nonforfeitable.

1.2.3. Employee Stock Ownership Plans (ESOPs)

An ESOP is a stock bonus plan or a combination stock bonus plan and money purchase
plan that is designed to invest primarily in qualifying employer securities and to use
borrowed funds to do so. An ESOP is funded by employer contributions of stock in the
corporation or allows you to buy shares of stock as a plan investment option.

1.2.4. Money Purchase Plans

In money purchase plans, the employer is obligated to contribute even if the company
didn't make a profit. The contributions are determined by a specific percentage of
each employee's compensation and must be made annually.

2. International Retirement Plans (IRPs)

For multinational companies, growing a business means leveraging the right talent in the
right place. In the world of “global nomads” — expatriates and third country nationals
who spend much of their working lives away from their home country — the provision of
future financial security becomes ever more important. To attract and retain the right
talent willing to move across borders, whether on a temporary or permanent basis,
employers need to provide competitive compensation packages that include a retirement
savings component.

2.1. Expats and Retirement

Compensation has evolved substantially over the years, with the focus shifting away
from relocation allowances to global special benefits. As pension debates in many
countries bring retirement planning to the fore, employer-sponsored retirement
benefits are often seen as key in a competitive remuneration program. Many mobile
employees do not remain long enough in a given location to build an old-age
retirement benefit under the local rules, and local social legislation and related tax
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regimes often complicate their participation in locally organized retirement plans.

As part of a creative pay package, an International Retirement Plan (IRP) provides a

straightforward and flexible solution for your mobile employees regardless of their
employment locations. An IRP can help them save for the future efficiently when local
statutory and supplemental programs don’t provide sufficient financial security

2.2. Target Groups

In general, participation in an IRP is reserved for those employees who are either
highly mobile — the true global nomads — and for those permanent transferees for
whom the local provisions in the host country are not sufficient or possible.

The most common approach with mobile employees is to maintain their active
membership in the retirement program of their home country while they are
relocated. But when tax or legal matters make such a solution sub-optimal or even
impossible, a move to the retirement arrangement established in the host country is
another solution. The first option may be appropriate for employees on short-term
assignments, while the second might be recommended for long-term assignees or
employees who permanently relocate.

However, for some mobile employees, neither of these options may work, as the
move from country to country for short amounts of time may not always let them
meet all vesting and participation requirements. What’s more, the payout of benefits
when retiring abroad may not occur in a tax-efficient manner.

An IRP may help solve the challenges of these globally mobile employees. Of course,
due to the absence of fiscal incentives and sometimes even the ability to deduct
contributions, these plans may be more expensive than local supplemental plans.
Therefore it is important to clearly define the target group and to lay out a consistent
retirement strategy for your mobile employees.

2.3. Design

2.3.1. Trust vs. Insurance

The current global trend is that IRPs are being set up as defined contribution savings
plans financed and administered through either an insurance or trust arrangement.
The choice between these structures generally depends on the actual or anticipated
number of plan members and/or the level of contributions.
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2.3.2. Plan Membership

The career path of expatriates and third country nationals is often not as predictable
as that of their less mobile colleagues, and requires more flexibility in terms of benefit
and membership eligibility. Because IRPs are non-qualified plans and are not subject
to any social legislation in the countries where they’re established, employers can set
their own criteria for eligibility and contributions within the often very wide
framework provided by the diverse vendors. Most plans, for instance, have immediate
vesting with no minimum age or service requirements.

2.3.3. Contributions

In defined contribution IRPs, contributions mainly depend on the location of the

sponsoring company. They vary between 7% and 15%, with higher contributions up to
20% offered by some European sponsors. Plans may integrate social security accruals
from the home or host country, by reducing the contributions in part with any
payments to a local social insurance system.

2.3.4. Investment Options

Participants can usually choose from a range of funds denominated in major

currencies, allowing participants to tailor their portfolio to fit their needs regardless of
the location to which they’re currently assigned or plan to retire.

2.4. Setting Up

2.4.1. Step 1 – Select the participants.

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Before setting up an IRP, it is important to identify all possible members of the plan.
Because of the higher costs, it is highly advised to carry out an inventory of all mobile
employees, and to assess how their current conditions affect their retirement savings
arrangements. That way, a single global retirement strategy for the mobile workforce
can be established with the proper distinction between those employees for which
local plans with fiscal benefits are possible, and those for whom such local solutions
will provide too little value.

2.4.2. Step 2 – Design the plan.

Dealing with a mobile workforce requires a genuine global approach to retirement

plans. Where local plans commonly supplement the level of statutory benefits, this
approach usually doesn’t work for a diverse expatriate group. Sponsors should design
a contribution structure that best meets the needs of the selected employee
population within the limits of statutory requirements.

2.4.3. Step 3 – Select the vendor.

This is a niche market for providers, so when choosing an IRP provider it is important
to base your choice on the vendor’s experience with the product, its financial
strength, and its ability to help and inform your participants regardless of their
location.

2.4.4. Step 4 – Determine location

IRPs are generally set up in an offshore location such as Bermuda or the British
Channel Islands where investment income enjoys favorable tax treatment. This fact
ensures that these plans are commonly non-qualified and therefore are not subject to
any specific social legislation. That also means they don’t benefit from the same tax
treatment that applies to approve local retirement plans, such as tax deductible
contributions and other tax incentives. Nevertheless, in most cases sponsors are able
to claim the costs related to these plans as business expenses.

2.5. Fees and Charges

An IRP’s cost structure generally depends on the following factors: number of

employees, level of contributions, chosen investment manager and the structure.
Most IRPs with insurance providers work on a flat level fee basis, while most trusteed
plans use a levy based approach where fees depend on the level of contributions
and/or assets under management. Also, trust structures require flat set-up fees for
88

the development of the trust deed and plan rules of up to USD $5,000.

2.6. Exclusion of US Tax Residents

Because US citizens and US tax residents are being taxed on their worldwide income,
additional reporting requirements apply to these employees. As a result, most
providers exclude these employees from IRP participation to avoid these
requirements and related administration demands.

2.7. Other Considerations

In addition to their future financial security, employees who work or live overseas are
of course concerned about their current benefits coverage. Employers should take a
thoughtful approach to health and accident risk, gain a solid understanding of foreign
legal systems, and develop the expertise to design a global benefits strategy that
affords quality protection at an acceptable cost to ensure they attract and retain the
right talent worldwide.

3. Global Equity Program

In today's global business environment, more and more companies with operations
overseas use equity-based compensation to attract, motivate, and reward employees
worldwide plus retirement plans. The benefits are great for both the employer and the
employee, but many difficult issues are raised.

Many multinational firms are seeking ways to provide equity ownership in their firms for
their employees around the world. The concept of employee ownership is not new, nor is
it a concept limited to a few countries. Now, newly democratizing and newly
industrializing countries are looking afresh at the idea of employee ownership as one
approach to converting their state-owned enterprises to privately owned firms.
Multinational firms with an interest in providing employee ownership can try to follow the
patterns that have evolved in the countries of their foreign subsidiaries or they can export
concepts from their home countries, to the extent that local laws allow such innovations.

However, the design of such programs is not easy. Every country has its own laws and
regulations related to the use of such practices and their tax treatment. And not all
foreign employees understand the concept of firm ownership or necessarily agree with it
when they do. Global HR professionals must be vigilant in its monitoring of the use of
these programs. But even though there are many difficulties in establishing these stock
sharing schemes, at least one international consulting firm has found how great the
 89

welcome has been by local management in a number of countries for ability to participate
in a share option or share scheme providing parent company shares.

Equity Program is frequently used for companies which need to attract high quality
employees to build their businesses but lack the financial resources to offer their
employees competitive salaries (Start-up companies or subsidiaries of foreign companies).
In the following, we would discuss more about this kind of compensation.

Equity compensation is non-cash compensation that represents an ownership interest in

the company. The two most common forms of equity compensation are stock options and
restricted stock. Due to the variety of legal, accounting, and tax issues that are involved
with equity compensation, proper planning is critical. Therefore, a company should seek
legal and accounting advice before implementing an equity compensation plan.

The two most common forms of equity compensation, stock options and restricted stock,
serve similar, yet different, purposes in structuring a company’s compensation plan.
Proper use of equity compensation is important in building a start-up company as it helps
ensure the hiring, motivation, and retention of quality employees.

Stock Options Restricted Stock

Right to purchase shares in the
future at a predetermined price Holders are shareholders and can vote.
(the exercise price).
Subject to repurchase right if employment
Can vest over time. terminated for cause.
Not Shareholders=No votes Repurchase right lapses over time as stock
vests.
Vesting usually accelerates
with sales of company Subject to ordinary income tax equal to
difference between purchase price of shares
Vesting ceases if employee
($ .01) and FMV of stock when restrictions lapse
leaves (incentive to stay on)
(hopefully growing over time).
One can file an 83(b) election with the IRS within
30 days of grant of stock to accelerate tax to
grant date. This way one has to pay all income
Incentive Stock Options Non-Qualified Stock Options tax in one year’s income return, but does not risk
(ISO’s) (NQSO’s) value of stock dropping after restrictions lapse
and having a tax bill based on a higher valuation
that the current FMV.
Capital gains tax on difference Holder subject to income tax Also pay capital gains when stock is sold.
between the sales price and on difference between
exercise price. exercise price and fair market
value (FMV) and capital gains
So less tax with ISO’s.
tax on difference between
Can only be granted to sales price and FMV.
employees
Can be granted to directors
Must be granted above FMV and non-employees.
Can be granted below FMV.

The Basics of Equity Compensation

Source: Doyle, et al. (2008). Equity-Based Compensation for Multinational Corporations

(Tenth Edition). The National Center for Employee Ownership.
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3.1. Stock Option

A stock option is a right to purchase shares of a company’s stock at a predetermined

price, which is referred to as the exercise price. The right to exercise the option and
purchase shares of a company’s stock generally accrues, or "vests," over a period of
time. The vesting of options over time creates an incentive for the employee to
remain with the company to build its value. Option holders are not stockholders and
thus are not entitled to vote their option shares or otherwise exercise any other
rights of stockholders. All or a portion of the vesting of options often accelerates
upon the sale of the company, unless the buyer assumes the options under its plan.
Conversely, if an employee leaves the company, the vesting of stock options ceases,
and the employee usually has a limited period of time to exercise the options that
were vested on the employment termination date.

There are two types of stock options: incentive stock options ("ISOs") and non-
qualified stock options ("NQSOs"). In the case of ISOs, and generally in the case of
NQSOs, there is no tax to the option holder when the option is granted or when the
option vests. The crucial distinction between ISOs and NQSOs is when the option is
exercised. Generally, there is no tax to the option holder when ISOs are exercised.
(However, the option holder may be subject to alternative minimum tax when ISOs
are exercised.)

When NQSOs are exercised, the option holder is subject to ordinary income tax on
the difference between the exercise price and the fair market value of the stock on
the date of exercise. The option holder is subject to capital gains tax on the sale of
the stock that was purchased upon the exercise of ISOs and NQSOs. This tax is on the
difference between the sales price and, in the case of ISOs the exercise price, and in
the case of NQSOs the fair market value of the stock on the date of exercise.

Sometimes, a stock option must satisfy several criteria to qualify as an ISO. Principal
among these is that ISOs may be granted to employees only, and the exercise price of
ISOs must be equal to or greater than the stock’s fair market value on the grant date.
NQSOs may be granted to non-employees, such as outside directors or advisors. The
exercise price of NQSOs may also be less than the stock’s fair market value on the
grant date.
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3.2. Restricted Stock

While stock options are appropriate for most employees, a company’s founders
generally demand the voting and other rights of stockholders. However, the founders
may desire to ensure that the stock owned by all of the founders is at risk and thus
subject to forfeiture if a founder leaves the company. This motivates all the founders
to work hard to build the company’s value, and if the stock of a departing founder is
forfeited, it can be used to hire a replacement thus minimizing the dilution to the
remaining founders. In addition, investors may wish to ensure that the founders are
motivated to remain with the company to build its value. Restricted stock fulfills
these objectives and is often used as a form of equity compensation for founders.

Unlike the grant of stock options, the grant of restricted stock is the issuance of
shares of the company’s stock. A holder of restricted stock can vote the shares at
stockholder meetings and has all of the other rights of a stockholder under
applicable corporate law.

Restricted stock is generally subject to a repurchase right that allows the company to
repurchase a portion of the founder’s stock if his or her employment is terminated by
the company for cause, or if the founder voluntarily resigns within a certain period of
time. This repurchases right lapses over time, freeing the stock of the restrictions in
much the same way that stock options are subject to a vesting schedule.

3.3. Implementation of Global Equity Compensation

Researchers found that successful implementation of global equity programs requires

constant attention and a full understanding of the cultural and legal climate of each
country and region in which they are offered.

We summarize the tax, regulatory, and employment compliance requirements that

multinational companies need to address when “going global” with employee equity
programs:

3.3.1. Income Tax and Social Insurance

The taxation of equity-based compensation is always a concern for issuing

companies, local subsidiaries, and employees. In several countries, the standard
income tax and social insurance charges can be so high that the equity award does
not provide a real incentive or retention tool for the employees. In many countries,
companies may set up tax-advantaged alternatives that allow the company and its
92

employee preferential tax treatment (such as reduced or deferred tax obligations).

3.3.2. Tax Withholding and Reporting

Tax withholding and reporting is one of the most complicated and regulated areas for
employee equity awards. The withholding and reporting requirements vary greatly by
country. In addition, the type of award offered and the company’s local corporate
structure impacts the company’s obligations. Because the collection of tax generates
revenue for the country, the withholding and reporting process set up by the issuing
company and the local subsidiary are audited regularly by the local tax authorities.

3.3.3. Local Tax Deductions

The availability of a tax deduction for the local subsidiary is important when
determining how to implement the employee equity programs. If structured
appropriately, the local subsidiary should be able to deduct the costs of the
employee equity programs from its local tax obligations and reimburse the issuing
company for the expenses.

3.3.4. Securities Compliance

Offers of equity awards may be subject to securities registration and disclosure

requirements in the countries where the offers are made. These requirements may
include registering the equity programs, drafting prospectuses, publishing offer
information, and/or compliance with filing requirements. In many countries,
exemptions or exclusions from these requirements are available if the offer is
structured properly.

3.3.5. Currency Exchange Controls

Companies must address the intricacies of currency exchange restrictions that affect
the conversion and transfer of funds across borders between the issuing company,
the local subsidiary, and employees. Compliance with currency exchange restrictions
will likely require obtaining exemptions or approvals from the regulatory authorities.

3.3.6. Data Privacy

Data privacy is an important and often confusing area of the law. Because employee
information is always collected, stored, and transferred in the administration of the
equity award programs, the local data privacy laws must be addressed. Companies
must structure the administration of these programs so that they comply with the
 93

local data privacy laws and, where necessary, obtain the appropriate approvals from
the local data privacy authorities.

3.3.7. Employment Issues

Employment issues are becoming more problematic for companies that offer equity
award programs. Employment issues include employee acquired rights to plan
benefits, works council co-determination rights, and discrimination. These issues, if
not addressed properly, can result in fines or judgments against both the issuing
company and the local subsidiary.
94

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