NON-TAXABLE BENEFITS | Tax Considerations

There are certain benefits that are not taxable. These include (at the present time, 2004) the benefits discussed in the following sections:

§  Accommodation - if it is wholly, exclusively and necessarily for the purposes of the job, this is a non-taxable benefit.

§  Meals - provided they are served to employees in general.

§  Car parking space - provided this is close to or at work.

§  Subscriptions - to approved professional institutions/bodies.

§  Christmas parties and other annual functions - these are not taxable provided the aggregate cost does not exceed £150 in the tax year.

§  Gifts from third parties are exempt where the cost does not exceed £250.

§  Long-service awards - a tax-free award can be made to employees with a minimum of 20 years' service.

§  Counselling services to redundant employees.

§  Mobile phones are also exempt, even when available for personal use by the employee.

§  Costs relating to employee liability insurance, professional indemnity insurance and work-related uninsured liabilities are not a taxable benefit if paid by the employer. If they are paid by the employee, they are allowable as a deduction against earnings.

§  If an employee is relocated, qualifying removal expenses and benefits from the time of the job change to the end of the tax year are exempt up to a maximum of £8,000 per move. If expenses exceed £8,000, they do attract a withholding obligation but the amount does need to be reported on the year-end return.

§  Payments given as compensation for loss of office - these are taxable if they exceed £30,000, subject to current tax legislation.

§  Loans - an interest-free loan up to the value £5,000 is not taxable on the employee.

§  Workplace nurseries - these are not considered to be taxable benefits in kind provided they are places that are made available by the employer.

§  Miscellaneous others - these include the provision of computer equipment, a tax allowance to cover expenses incurred by homeworkers, over night expenses and work-related training.

Approved Pension Schemes

There are essentially two types of pension scheme:

1.     Personal pension schemes: Personal pensions are designed for people who work and who are not members of an employer's occupational scheme. There may be a number of reasons for this, eg the individual is self-employed, the employer does not offer a pension scheme or the employee is not eligible or chooses not to join the employer's scheme. A personal pension operates by building a 'pension pot', which is used to purchase an annuity at retirement. Employee contributions attract tax relief at the highest rate that tax is paid by the individual. The tax relief is claimed through the self-assessment tax return.

2.     Occupational schemes: There are different types of employer pension scheme: final salary scheme and a money purchase scheme. A final salary scheme pays a pension based on an individual's salary at retirement and the number of years of service. A money purchase scheme is used to build up a pot of money, which is used to buy an annuity. Employers are able to make contributions to an approved pension scheme for the employee without attaching a tax charge, provided certain criteria are satisfied.

Contributions made by all employees are also tax deductible from earnings for the employee. The relief available is based on the employee's age. Income accruing within a pension fund does so on a tax-free basis, and employees are able to receive part of their pension fund as a tax-free lump sum at the time of retirement, the remainder being subject to income tax.

There is a pensionable earnings cap of £102,000 for the 2004/05 tax year. For those individuals earning above the cap, employee contributions made in respect of earnings above the cap do not attract tax relief.

Unapproved Pension Schemes

The imposition of the earnings cap has meant that 'high earners', ie those earning above the earnings cap, may desire to make alternative arrangements for their pension fund.

Funded Unapproved Schemes

An employer makes contributions to a trust with the view that the assets grow in value for the benefit of the employee. An employee is chargeable to income tax on the value of the contributions paid into the trust. The employer is entitled to a corporation tax deduction for the contributions made to the trust. When the benefits are taken at retirement, they can either be taken as a lump sum or be used to buy an annuity tax free.

The government has proposed that the UK pension system is changed to simplify it. The proposed changes and briefly described as follows. From April 2006, the pension regime in the UK will undergo significant reform. There will be a lifetime allowance of £1.5 million and funds in excess of this will be taxed at either 25 per cent or 55 per cent. Personal contributions will be restricted to 100 per cent of earnings for tax relief purposes and employer contributions will be unrestricted, but taxed if they exceed £200,000. Pension scheme members who have funds in excess of £1.5 million at 6 April 2006 will be able to register and protect their funds from a tax charge. The minimum age of taking retirement benefits will be increased from 50 to 55 by 2010. The new proposals widen the current investment rules with regard to pension fund investments.

MAIN BENEFITS ASSOCIATED WITH EXPATRIATE ASSIGNMENTS

Housing

Housing allowances, where paid, are sometimes built into the balance sheet method of remuneration but it is more common for them to be treated as separate items. Although there are some employers who provide free accommodation for expatriates up to a certain ceiling, there is now an increase in those who require the employee to make a contribution to housing costs in the form of a 'housing norm deduction'. The level of contribution varies, but is usually around 10-15 per cent of gross notional salary. As this obliges the employee to rent out the home property, the company will usually meet the cost of a property management company to handle home-base rental formalities. The majority of employers strongly recommend that the expatriate retain the home property rather than sell, thus avoiding the risk of re-entering the property market during a boom period. Letting property, of course, is not without risk but this seems to be the preferred practice of a growing number of companies.

Utilities

The cost of utilities can be exorbitant in certain overseas locations - particularly in hot climates where the electricity bill is distorted by the constant use of air-conditioning. Most companies accept that it is their responsibility to make bottled gas, water, electricity and telephones available to their employees abroad but some exact a contribution from the expatriate - usually no more than 20 per cent - to discourage them from wasting power or making too many extravagant international telephone calls. Other companies put a ceiling on the total cost of reimbursing rental and utility costs.

Pensions

Many organizations aim - for as long as legally possible - to retain their expatriates in the home country pension scheme, often based on a notional salary, with the rationale that the expatriate is likely to spend his or her retirement in the home country. Once the maximum period of 'temporary absence' is exceeded, organizations typically operate offshore umbrella schemes or provide an overall guarantee of target benefits. Not only is this approach potentially expensive, but it is also based on traditional pension provision in the shape of defined benefit pension schemes and little scope of cross-border transferability of pensions.

Both these premises are no longer fully applicable in the current environment where defined contribution pension provision is becoming the norm, where - at least within the EU - cross-border pension transferability is eased and where the concept of lifetime employment and the resulting implication of adequate pension provision being the responsibility of a caring employer has largely disappeared. In addition, limitations of tax-approved and therefore tax-favourable pension provision by employees in many countries means that the previous cost advantage for companies to deliver a large part of remunerations as pension is no longer as significant. A model for the future, which should be considered, is therefore to decide on a competitive overall level of remuneration (including the value of pensions) but to deliver this value in a different mix, for example through shorter-term savings vehicles or stock-based reward.

Car

Cars are a common prerequisite for expatriate staff of all grades. In many countries, for status or security reasons, a chauffeur/guard is provided by the company in addition to the car. In certain European locations, however, the company car is not as tax-efficient as a benefit as it is in the UK and it is not, therefore, local custom to provide any but the most senior employees with a car - or those whose job demands it, such as salespeople. Sensible multinational companies fall in line with market practice in such territories. Likewise, although expatriates may be entitled to a car in, for instance, Hong Kong or Tokyo, they may elect to waive the benefit on the grounds that driving in such over-populated cities is more difficult and more frustrating than using the public transport system.

Educational Expenses

Most companies will pay for the children of expatriates to be educated in the host country. The cost is rarely as high as subsidizing home country (boarding) school fees. In many overseas territories, there may be a limited choice of foreign language schools. Where the method of instruction is, for instance, American, it may be appropriate for the children of UK expatriates to attend only for primary education, owing to UK university entrance requirements.

Many companies will take the view that it is unreasonable to expect students following one syllabus, such as GCSE, to be interrupted by a transfer to the US curriculum and will assist with UK school fees. The level of assistance varies but is commonly a percentage (such as 75 per cent) of basic boarding and tuition expenses up to a set annual maximum. It is most uncommon for companies to finance 'extras' such as fencing, tap dancing or scuba diving!

Some companies place a financial ceiling on their school fee assistance, while others apply age or year minima and maxima. A few make provisions for kindergarten in the host country. In general, it is fair to say that global policies are a thing of the past. Cost-conscious multinationals are now careful not to pay for UK boarding school fees unnecessarily but aim to take a flexible country-by-country approach, simultaneously assessing the individual requirements of each expatriate family.

Health Insurance

It is essential that all overseas personnel are adequately covered for private treatment by health insurance; few countries have national health services as sophisticated or generous as that of the UK. The cost of private medical care in the United States, for instance, is exorbitant and the national provisions are almost non-existent. The major UK schemes such as BUPA and PPP have international plans for which the premium rates will vary, depending on the country assignment and the cost of medical treatment there.

Holidays

Annual Leave

Holiday entitlement is usually in line with or slightly above home country practice, 25 or 30 working days being the norm. Comparatively ungenerous host country practice - such as the standard fortnight in the USA - tends to be overridden. Particularly high hardship regions may encourage companies to allow for holidays in excess of 30 working days.

Public Holidays

Host country practice is usually followed with respect to public holidays although, in non-Christian countries, certain UK public holidays such as Christmas Day and Easter Day may be allowed in addition to the local festivals.

Home Leave

If a norm had to be quoted, it would probably be a fair generalization to suggest that companies will pay for expatriates and their families to fly back to their home country once per year. However, the variations on this practice are too numerous to mention and are increasing all the time as the issue of home leave becomes more emotive and a matter of as much heated negotiation as the annual pay review.

Location affects the frequency of home leave; areas of extreme hardship often merit a second home trip, while areas of low hardship, separated from the home country by a prohibitive air fare, such as Australia, might not even qualify for an annual return trip. Indeed, it is quite common for one home trip per tour (usually three years) to be provided from the Antipodes.

Marital status, however, has the most profound effect upon the regularity of home trips. Employees on married accompanied status, particularly those with children, will, as a rule, be provided with the minimum (ie, one return trip per annum). Not surprisingly, single status or married unaccompanied personnel fare rather better. Where companies distinguish between those two latter categories, the single-status staff tend to be provided with one extra trip per year on the grounds that it is cheaper for the employer to pay for two single fares than one family trip. In a company where this distinction is understood by the staff, it acts as an incentive for single-status employees to volunteer themselves for expatriate posts. Married unaccompanied personnel, by contrast, would be likely to benefit from three return trips per annum in an effort, on the part of the employer, to minimize their separation from their families. In addition, employers would typically be very flexible over how travel is arranged, up to the same cost as the agreed package. So the expatriate might be able to exchange one home trip using business class for economy-class tickets for his or her partner/family to visit the host country. In some organizations a maximum travel budget for family visits either way is agreed.

NATIONAL INSURANCE | Tax Considerations

Class 1 National Insurance is payable by employees and employers. This accounted for 95 per cent of the total National Insurance fund in 2003/04. Class 1 contributions are payable by the employee (primary) and the employer (secondary). The liability to Class 1 National Insurance arises to the extent that earnings are paid to an individual, not earned. Also, unlike income tax, which is an annual charge, National Insurance is calculated on the earnings paid in an earnings period.

For 2004/05 the employer's rate of National Insurance is 12.8 per cent and the employee's rate is 11 per cent up to the upper earnings limit of £31,720 and 1 per cent above that.

Class 1A National Insurance contributions are payable by the employer on the provision of benefits in kind. This is payable at 12.8 per cent.

All benefits or facilities provided to an employee by reason of employment are generally taxable based on the cash equivalent value of the benefit or facility. In ITEPA 2003, the legislation on the taxation of benefits is contained within the benefits code. This covers in particular, expenses payments, vouchers and credit tokens, living accommodation, cars, vans and related benefits and loans.

There are special tax rules that apply to provision of benefits to directors and also to employees who earn more than £8,500. For those individuals who earn less than £8,500 (including benefits), there is no need to submit a P11D form with details of all benefits provided, to the Inland Revenue. This limit of £8,500 has remained for well over 25 years, resulting in the vast majority of employees exceeding the limit. The value of the benefit used to be taxable based on the cost to the employer. However, this has changed and now the value of the benefit is taxed upon the cash equivalent or monetary value.

THE FUTURE | Pension Schemes

Looking at the medium-term future of UK occupational pension provision, a number of key questions arise, as considered in the following sections.

Does the Final Salary Scheme Have a Future?

It remains to be seen whether the final salary occupational scheme has a long-term future. Its obituary has been written many times before. However, this time there is significant evidence of a move away, with more than 50 per cent of such schemes now closed to new entrants.

Where final salary provision is surviving in the private sector, one or more of the following factors may apply:

§  The scheme is still in surplus.

§  Providing a guaranteed, final salary pension is a component of a very caring and paternalistic people strategy.

§  The employer has deep pockets and/or people costs are low compare to turnover.

§  The scheme has been modified to reduce employer cost.

Will the Public Sector Move Towards Defined Contribution Schemes?

Given the huge (and rising) costs of its current schemes, this is a possibility. However, doing so would remove a significant retention lever and would cause major industrial relations problems. Any such change would probably imply a need to increase other elements of pay.

Will Defined Contribution Schemes Provide Adequate Retirement Incomes?

There is a significant risk that many defined contribution schemes will fail to deliver the standard of retirement living expected by their members. A previous generation of defined contribution schemes failed for just this reason.

Tackling this issue implies increasing employer contributions and/or providing education to employees to allow them to increase their own saving. For example, some employers pay for financial advice or offer online pension modelling through the company intranet.

There are also strong arguments for considering some of the hybrid design options outlined above. These generally involve providing at least some pension guarantees to employees, but should avoid the degree of cost fluctuation associated with traditional final salary schemes.

Can Two-tier Pensions be Sustained in one Employer?

Where an employer has scaled back pension for new employees, this creates inequalities with longer-serving staff. Some commentators have suggested a compensating increase to another part of the package. However, unless this is as part of a flexible benefits scheme, such an approach can fall foul of equal pay legislation, where comparisons are made for each element of pay separately.

Another factor to consider here is that staff in the final salary scheme, particularly any who are nearing retirement, will be unlikely to leave. This is especially true if alternative employers have also moved to defined contribution provision.

Can Pensions be Communicated Effectively?

A key and long-standing problem in the pensions field is communications. The difficulties arise because:

§  pensions are intrinsically complicated;

§  retirement feels a long way off to many people;

§  there can be a tension between effective design and ease of communication - for example, providing employees with choice may be desirable, but requires clear communication;

§  some of the language used around pensions is not always helpful to the layperson;

§  pension scandals have reduced employee confidence.

This is a field where HR, marketing and communications professionals can add value. Sadly, many pensions booklets and annual benefits statements are virtually indecipherable for most employees. In addition, communications are often very dependent on the written word.

To ensure employee engagement, pensions communications should:

§  give a clear, easily assimilated overview of the main scheme provisions;

§  allow employees to understand the likely level of pension payable;

§  encourage additional saving, where appropriate;

§  highlight where advice and clarification are available from;

§  in final salary schemes, identify how much the employer is spending on the employee's behalf.

A variety of media should be used, perhaps involving booklets, annual statements, frequently asked question sheets, workshops and interactive pension-modelling tools. Written materials should be tested on non-experts to ensure readability.

Issues and Opportunities Arising from Tax Simplification

The government's tax simplification proposals (see above, 'Executive pensions') and other changes have created some challenges and opportunities for people management looking forward, as follows:

§  Many of the restrictions on scheme design that currently exist will fall away. This should allow some more creative designs to emerge.

§  It will become possible to draw a pension while still working for the same employer. This will allow a phased approach to retirement that may suit some employees and employers.

§  Compulsory retirement on the grounds of age will disappear. This will probably mean more active performance management and a more creative approach to career management for older workers.

§  The minimum retirement age (other than on grounds of ill health) will increase from 50 to 55. Schemes will be given discretion on how to achieve this.

§  Employers may wish to help employees to make the best of the very liberal regulations for making extra voluntary contributions.

Are Final Salary Schemes Well Enough Funded?

The security of final salary pensions in a closed scheme is a complicated question well beyond the scope of this post. However, the latest government proposals are set to:

§  considerably bolster the level of financial obligation on solvent employers in respect of closed schemes;

§  introduce a levy-based scheme to fund a minimum level of benefits from under-funded schemes where the sponsoring employer is insolvent.