It looks like 2016 will go down in history as one of the most tumultuous in terms of political outcomes. The UK’s decision to leave the European Union (EU) – and therefore reject the views of mainstream politicians on the subject – has been widely seen as the curtain raiser to Donald Trump’s presidential success in the USA.
Commentators around the world are declaring that voters are fed up with political elites failing to respond to their concerns, and the referendum sends a clear signal to UK politicians that the electorate expect change with Brexit. But what does that change look like for employers, and specifically for the global payroll department?
The question asked in the referendum campaign was simply phrased as whether the UK should remain in or leave the EU. But it did not mention other options, and nor was there a serious attempt to address what the position might be in the event of the Leave campaign winning.
The freedom of movement of people, seen as one of the major reasons behind the “Leave” vote, is enshrined in the rules covering the European Economic Area (EEA) – a trading bloc covering the EU and four other states. The referendum question said nothing about the UK leaving the EEA, and a “soft” Brexit could see the UK remaining within the EEA and continuing to accept much of the freedom of movement rules in order to retain continued access to the largest single global market.
There are alternatives. A “hard” Brexit will probably mean the UK turning its back on membership of the EEA in order to retain full migration controls. This needn’t, however, mean an end to a trading relationship with the EEA.
The recently negotiated EU-Canada Comprehensive Economic & Trade Agreement (CETA) showed that the EU is capable of agreeing almost total access to its markets for countries outside of the EEA (CETA sweeps away 99% of previous tariffs on Canadian imports, and creates a regulatory cooperation forum to slash red tape for businesses on both sides of the Atlantic), and the UK would be uniquely placed to replicate such a deal. There is also the example of the EU-Turkey customs union, which sets a common external customs regime on industrial goods but does not allow for the free movement of people or agricultural produce.
Whichever route the negotiations take, there are likely to be direct payroll consequences that will change the rules on employee mobility. The first area to consider is that of income tax withholding (known as PAYE in the UK).
The current EEA rules in fact do not dictate a standard position on this subject, with income taxation being treated as a devolved responsibility primarily dealt with at national level. The relationship between member states is not dictated by EEA legislation, but instead is largely regulated by the individual double taxation agreements negotiated between member states.
As these follow the model treaty provided by the Organisation of Economic Cooperation and Development (OECD), and there is no suggestion that the UK is about to pull out of the OECD, the mechanics of liability for income tax withholding will be largely unchanged post Brexit. EU rules do compel member states to provide all EU citizens with the same tax allowances that their nationals receive – which in the UK means that £11,000 annually could be earned tax free. Removal of this right may mean that visitors to the UK may end up with tax bills not previously calculated.
Example – Lars travels from Denmark to the UK and performs 60 days of work in the UK. He earns the equivalent of £175 per day and has UK earnings totalling £10,500. As a Danish citizen he qualifies for a full UK personal tax allowance, which reduces his taxable earnings to zero. Had he not qualified for this allowance, he would have to pay tax of 20% of the earnings - £2,100.
The main area of concern regarding payroll processing, however, concerns the area of social insurance liability. Unlike income tax withholding, there is a common position mandated to all member states by EEA law. The first principle of the law is:
- An employed person should only be subject to the contribution regime of one member state and
- This should be the state in which the work is physically performed
The driving force behind the rules is to ensure that no one individual suffers detriment as a result of the working of the Free Market in terms of social security coverage. Indeed, the rules provide a flexibility that allows the individual to benefit from the best possible outcome personally.
The importance of social security coverage within Europe should not be underestimated. The benefits provided in terms of healthcare, sickness, parental leave benefits, and final retirement provision are significantly better than those routinely provided by state schemes in North America and APAC countries.
There are exceptions to the first principle covering those who are deemed to be posted workers and those engaged in multi-state worker. A posted worker is someone sent on assignment temporarily from one EEA state to another for a period of up to 24 months. Where this occurs, the individual must remain enrolled in their home country scheme, and will be exempt from contributions in the host state.
The rules allow a further flexibility for those being posted for more than two years to make an application to remain insured by their home country scheme should this be in the best interests of the individual in terms of social security outcomes. A multi-state worker is an individual who routinely spends at least 5% of their working time in a second EEA state.
Where this occurs, the employee (and the employer) must pay social insurance contributions in the member state where the employee is resident provided the employee performs at least 25% of their work in that country. Both scenarios require the insuring authority to issue an A1 certificate exempting the individual from contributions in any other state.
A "soft" Brexit may see these arrangements remain unchanged. But if the UK is to leave the EEA, we are likely to see wide ranging changes to these long standing payroll procedures. Although the UK has Social Security Agreements in place with most member states, these do not provide the standardisation or certainty of the EEA position.
Consider particularly the case of multi-state workers: The provisions of most Bilateral Social Security Agreements for the prevention of a dual contribution liability are focused on those who are on a temporary secondment, rather than those who permanently work between two (or more countries). This can mean that a dual contribution liability arises, whereas under EEA rules this cannot occur.
Example – Belinda works in the City of London as a top Bond trader. Her work requires her to spend the third week of every month working in Frankfurt. Under current EEA rules she is a multi-state worker and is exempt from German contributions. If the EEA rules were not in place, Belinda would not qualify for a certificate of coverage under a Bilateral Social Security Agreement as the work in Frankfurt is not for a fixed period, it is a permanent feature of her employment.
She would remain covered by the UK social security scheme on the whole of her salary, but there may also be an opportunity for the German authorities to assess both her and the employer for German contributions on the one week of pay earned every month in Frankfurt. At current rates this would increase the employer’s cost of hiring Belinda by approximately 5%.
There are many other considerations regarding Brexit that could directly impact Payroll. The freedom of movement of people within the EEA means that currently any EEA citizen can arrive in Britain and work. The position of those EEA citizens who are already living and working in the UK will surely be part of the negotiating process – presumably if the EU threatens a tough approach to the UK, Mrs. May’s government could respond by threatening to send home those already here. That could prove a nightmare scenario for those businesses dependent on migrant workers such as the hospitality and care industries.
Nationality could become a key data field on payroll records – for example the UK government could insist that EEA workers earn a significantly higher minimum wage than the National Minimum Wage, in the same manner that work permits for non EEA nationals mandate a minimum salary to justify the issue of the permit. This would have the impact of driving EEA migrants from low paid service industry employment as they became more expensive to employ.
Employment law itself may also see an overhaul, although most observers believe that the main features of European law have now become enshrined as the normal position in the UK. The length and flexibility offered by UK parental leave for example is significantly in excess of that required by EU regulations, and other concepts such as compulsory paid holidays have long been absorbed by UK businesses into their standard terms of service.
We are told that in today’s globalised economy businesses should expect to deal with constant change, and yet markets appear to abhor uncertainty, as evidenced by the Pound Sterling’s dramatic fall in value. The problem is that this uncertainty is going to go on for a long time, even after Article 50 is formally triggered. Now is the time for your business to engage in this process – if you feel strongly about a particular issue such as the freedom of movement of people make sure your business submits a paper under any public consultation process.
Brexit is a reality and there is little point in hoping it will all go away. Instead, help to shape what the future looks like in a way that provides the best possible commercial environment for your company.