New country start-up HR toolkit: what you need to know when launching employment operations in some new overseas jurisdiction

Almost invariably, when a multinational branches out internationally that means employing people in a new country abroad. Doing this is always complex. Getting it right can be confounding. Whether we are talking about a domestic US business exploring how to set up its first foreign outpost in Canada, or a multinational conglomerate already operating across 56 countries and now planning to launch a new office in its 57th, identifying and following the local “rules of the road” in a new country, as to human resources and employment law compliance, is always daunting.

This discussion is designed as a toolkit for an employer (either a business or nonprofit) branching out operations into a new country and planning to employ people in that new jurisdiction for its first time ever. Our discussion breaks into three parts:

Part 1. “Floating” Employees Working in Overseas “Permanent Establishments” (addressing how to set up an employer presence abroad, with a focus on small start-ups without a lot of in-country infrastructure)

Part 2. Checklist of Issues for Launching HR Operations in a New Country (listing the human resources issues to address in a new overseas employer operation)

Part 3. Expatriate Checklist (listing the discrete issues that apply to any expatriate employees who will be posted or “seconded” from a home country to the new host country start-up operation)

Part 1: “Floating” Employees Working in Overseas “Permanent Establishments”

Multinationals entering a new foreign market in a big way, planning to employ lots of employees in some new local plant or operation, tend to invest the resources necessary to enter the new market without taking short cuts. They tend to spend the time and money to get it right, setting up a local representative office, branch, or subsidiary; getting it fully licensed; and complying with local corporate laws, tax laws, employment laws and immigration laws. Entering a new market in this way— “all in,” formally establishing a registered commercial presence and complying with all local laws, is always a best practice. The reverse—violating applicable law—is never a best practice.

But what about the employer new to an overseas market that plans a bare-bones operation with just one or two local in-country employees? What about the employer that will operate only temporarily in some foreign country? What about the non-profit executing some limited, tight-budget contract in the new country? And what about when an employee moves abroad for personal reasons, asking to work remotely from a new home in a country where the employer otherwise does not operate? Must all these employers always take the time-consuming and expensive “all-in” approach?

Not surprisingly, many businesses and many non-profits taking baby steps into a new overseas jurisdiction seem to shy away from the “all-in” model. They seem to prefer placing an employee into a target country without building all the infrastructure of a formal licensed and registered in country employer entity. We might call these arrangements “floating” employment, because the in country “floating” employee is not anchored to any local employer-entity infrastructure.

These days, there seems to be a marked upswing in floating employee arrangements. And from a practical perspective, this trend should come as no surprise: Technology facilitates the approach. In the old days (say, up to the 1980s), a multinational’s in country local representative would have needed dedicated office space, a secretary and other support staff. But today’s floating employee can work efficiently from home with little physical infrastructure beyond a computer, cell phone, express courier delivery and perhaps video conference software.

Technology may facilitate floating employee arrangements, but legal issues frustrate them. And the very same advances in technology allow tougher enforcement by local regulators. Floating employee arrangements are suspect and risky, because they often violate local laws—especially where the non resident employer entity is deemed to have an unregistered so called “permanent establishment” (local business presence subject to being taxed).

Multinationals’ overseas employment operations inevitably raise structuring issues: How do we employ someone in a foreign country? Which entity should be the employer? How do we get comfortable that the arrangement complies with local law? Generally the best advice is to avoid floating employee arrangements and get a local employer entity registered in each country where the employer employs people. But some employers see this full-registration approach as impossible. Fortunately, in certain circumstances there are legally-compliant strategies for engaging overseas floating employees—strategies such as “seconding” an employee to an up-and-running local employer or engaging a legitimate independent contractor. But implementing a legally-compliant strategy in this context requires addressing a number of disparate issues. Floating employee arrangements raise legal traps under local host country laws, including: commercial registration requirements, corporate income tax requirements, labor/ employment law (payroll, “secondment” and independent contractor issues) and immigration law. We address each in turn.

Commercial Registration

When a multinational has an employee who makes short, intermittent business visits into a country without establishing a local residence, without signing contracts and without generating in-country revenue, the employer may not cross the jurisdiction’s local “doing business” threshold and probably will not be considered a local “permanent establishment.” But once a multinational engages staff based in a foreign country to develop the local market—or even just to work on local soil for the worker’s own convenience—then the analysis gets complex. And it differs from country to country.

An employer that crosses a jurisdiction’s local “doing business” threshold and is deemed under local law to be transacting business locally generally must register in the country’s local “Companies Registry,” “Commercial Registry,” or other local equivalent to a US state’s secretary of state corporate registration office. Usually this registration means fulfilling the requirements for some category of locally-recognized corporate registration status. In the Philippines, for example, an incoming foreign corporation that wants to do business locally has three registration options: representative office, branch, or wholly-owned (locally incorporated) subsidiary. In countries such as Ethiopia, a company will need both to register locally and also apply for a “business license.”

Our question becomes: When does an employer operating abroad cross the “permanent establishment” threshold and become obligated to register itself in the local companies registry? The answer differs by locale. Malawi, for example, requires only those businesses with a “local established place of business” to register—but Malawi uses a broad definition for “place of business” that can include, for example, even a government department office that hosts a local company employee. Mexico looks to whether the business has a local physical presence or whether the business has local agents with power of attorney. By contrast, Qatar requires every natural or “juristic person” to register before “engaging in commerce”—but Qatari commercial registration law is murky as to what “engaging in commerce” means. Other countries, like Syria, set out illustrative lists of factors that determine when a foreign business triggers the local registration requirement. A Syrian decree sets out five factors:

  1. hiring workers paid by the employer (our “floating” employee situation)
  2. buying or renting local real estate in employer’s name
  3. opening a local bank account in employer’s name
  4. listing the employer in a local telephone directory
  5. subscribing to a post office box (in Syrian parlance a “telegraph address”) in the employer’s name

Once an employer’s overseas presence triggers the local country’s threshold for commercial registration, the question becomes: What must the employer file? Registration requirements differ from country to country and the requirements differ depending on the corporate status selected (representative office, branch, subsidiary). Requirements here can include:

This raises the question of compliance: What happens if an overseas-based employer violates these registration rules and operates an unregistered local permanent establishment? In countries such as Spain and Mexico, corporate registrations may be seen as largely notarial acts and a failure to register may mean only civil, tax and employment exposure. But in other countries local corporate registry officials have police power to investigate, charge and fine a foreign business that flouts local registration laws. The Democratic Republic of the Congo, for example, can seize assets and ban an unregistered business and its agents from operating in-country. The Philippines can sentence business people who sell products locally without registering under a local “retail trade” law to 6–8 years in prison.

Violations of corporate registration requirements are likely to come to light when a local employee quits or gets fired. Violations also get rooted out as advances in technology help enforcers scrutinize “floating” employee arrangements ever more closely. Non-compliance threatens financial costs that run higher than mere fines and lawsuits, in that failing to register impedes acts that require proof of commercial registrations—renting office space, opening a bank account, importing goods through customs, selling to a government entity. In Norway, for example, a business is virtually paralyzed without a registration number from the Norwegian Register of Business Enterprises. And an employer’s failure to get local commercial registrations can cascade into violations of other local laws, be they corporate tax requirements, employment rules, or immigration mandates. Each is discussed below.

Corporate Tax

Outside the few “tax haven” jurisdictions such as Bahrain and UAE that impose no corporate income tax, any enterprise operating somewhere through a “floating” employee—even an employer not generating profits from the local market and even an organization registered in its home country as a non-profit—exposes itself to liability under local corporate tax laws. In short, a local “permanent establishment” will have to file a local corporate tax return. Whether any corporate tax payment is actually due locally will be a fairly straightforward analysis if the local host country and the multinational’s home country have executed a tax treaty for avoiding double taxation. Where there is no treaty, local income tax laws will apply, with their local definitions of taxable income and their domestic principles of tax liability.

When a local floating employee triggers a corporate tax-filing requirement, the unregistered employer may argue that its local representative plays a non-revenue-generating role and triggers no permanent establishment. Whether this argument prevails turns on the facts and definitions under local corporate tax law. That said, if local (in-country) customers buy products or services or pay bills through the floating employee, the employer may have a tough time arguing its in-country operations generate no taxable local revenue—especially, but not necessarily, if the local employee has agency authority to bind the employer.

Labor/Employment Law (Including Payroll, “Secondments,” Independent Contractors)

Countries everywhere extensively regulate employment relationships, imposing rules on such topics as:

Local employment laws will generally reach a single employee local start-up operation of a foreign-owned employer—a floating employee— even if employer and employee had agreed on a choice-of-law clause that purports to apply the law of the employer’s headquarters country. (Local employment protection laws almost invariably reach a multinational’s in-country employees by force of public policy regardless of employee citizenship and regardless of a choice-of-foreign-law clause in an employment agreement.)

Native local employers in an overseas market may be predisposed to comply with local employment laws, but an overseas-based employer new-to-market with no local infrastructure will face employmentlaw compliance challenges, for two reasons: (1) Full compliance with local employment laws is difficult when the local rules are not readily-available and are foreign to the employer’s institutional culture; and (2) keeping a local floating employee off the books prevents compliance with mandates like payroll withholdings/contributions.

Employment-law liabilities arise when local government labor enforcers bring employment claims, or when a floating employee sues in local labor courts (the local labor courts will generally exercise some form of “long arm” jurisdiction over non-resident employers on which they can serve process). Indeed, these employment liabilities can be contagious: In Brazil, for example, an employer entity that fails to contribute to mandatory local social security and unemployment funds will expose sister affiliates to its own debts to these employee funds.

Payroll. A special employment law compliance problem in the “floating” employee context involves local laws related to payroll. An unregistered overseas employer with no local taxpayer identification number will find itself unable to contribute to the local tax authorities and local “social funds” (state retirement, housing, unemployment, socialized medicine, workers’ compensation and other mandatory welfare agencies). Outside payroll providers can tender these payments, but payroll providers cannot administer payroll until the client gets its required employer payor numbers. Violations of payroll requirements can come to light in an audit and are especially likely to emerge when an employment relationship terminates. Arrearages, plus interest and fines, can be surprisingly expensive.

“Secondments.” A common strategy for sidestepping all these local registration and payroll hurdles is for the overseas employer to “second” (post) the local resident floating employee onto the payroll of some already up and running local employer, such as: a corporate affiliate sister entity, one of the multinational’s local commercial agents or distributors, or even a provider of HR staffing services (say, one of the international staffing firms Adecco, Manpower, Inc., Randstad, or a local-market provider).

Under a carefully-structured secondment arrangement, the in-country employee gets employed by, and goes onto the payroll of, the local business partner, while serving the non-resident principal. The principal reimburses the nominal employer for costs (plus, usually, an administrative premium; in India, for example, staffing companies tend to charge about 15 percent). Secondments of this sort can be an ideal way to resolve many of the legal issues inherent in a floating employee arrangement, but they introduce other problems, including: the extra expense, the principal’s lack of direct control over the employee, the employee’s reluctance to work for a third party (expect professional employees to be particularly reluctant to work for a staffing firm) and “dual employer” challenges. Also, even a business operating in-country through a seconded employee remains susceptible to a charge that it runs a local “permanent establishment” subject to commercial registration and tax requirements, especially if the seconded employee transacts business on the principal’s behalf and has agency authority to bind the principal.

Independent contractors: Another strategy for sidestepping local employment law hurdles is for the multinational employer to engage a local services provider not as a floating employee but as a floating independent contractor (or “consultant”). The principal can get an extra layer of protection here if its independent contractor incorporates locally and if the parties enter a business-to-business services contract with the contractor’s company, not with the contractor personally.

But independent contractor status is fragile and a contractor can easily be held a de facto employee. Structuring an independent contractor relationship instead of hiring someone directly is a less-thanideal solution where the arrangement seems a subterfuge. Always ask: If an independent contractor relationship is such a great idea, then why don’t we also engage this person’s counterparts, back home, as independent contractors? Often there will be a simple answer: Because that would never fly—these people obviously work as employees, under the applicable tests. If the set-up would fail the employee vs. independent contractor tests back home, it will also likely fail the tests in the host country: These tests are surprisingly similar from country to country. The law tends not to defer to parties’ choice of labels when determining the true nature of the relationship, but rather imposes a “facts and circumstances” test. (All this having been said, though, in countries like Israel and India the analysis may be theoretically similar, but the level of scrutiny may be much less.)

Even a business operating in a country through a legitimate independent contractor remains susceptible to a charge that it runs a local “permanent establishment” subject to commercial registration and tax requirements, especially if the independent contractor transacts business for, or has agency authority to bind, the principal. Liability for getting this wrong, either mischaracterizing a de facto employee as a contractor or ignoring the “permanent establishment” ramifications, can be huge. Exposure becomes especially likely when the relationship ends. Yet in those situations where a principal can implement a legitimate independent contractor relationship that avoids being held a local permanent establishment, the independent contractor approach might be an excellent resolution to the floating employee conundrum. Usually this will be possible where the overseas services provider is truly an independent agent, free to work for others, paid by the task, not subject to the principal’s supervision or discipline, not identified as an employee of the principal and not compensated like an employee.

Immigration Law

A multinational faces immigration law challenges when a floating employee (or independent contractor) will live outside his home country, such as when the employer sends an expatriate to the new start-up operation. Non-citizen resident employees in a new host country need a residence visa, a work permit, or both and any foreign assignment—no matter how brief—needs to address immigration. In countries including Brazil, Saudi Arabia, UAE, Kuwait and Qatar, an inbound expatriate immigrant needs to find some local national (or locally-registered business) to act as a visa/work permit sponsor. Often the sponsor must hire the expatriate and the visa/work permit is tied to the job. In these cases, our “secondment” scenario (out-of-country principal employer arranges secondment with in-country visa sponsor) poses a problem if the local visa/work permit prohibits the sponsored employee from serving another employer. Another issue is caps on immigrants: A number of countries (Brazil is one) cap the percentage of workplace that can be foreign citizens.

Part 2: Checklist of Issues for Launching HR Operations in a New Country

Having looked at start-up issues largely from a corporate perspective, we can now turn to an inventory of the human resources issues that arise as an employer begins to employ its first employees in a new country. This is a checklist of the HR questions that can arise when a business expands into new jurisdiction. Answers to the questions, of course, vary according to the country at issue.

This checklist is broken into five stages of starting up a new operation abroad. (We do not address expatriate issues, which are the focus of Part 3.) The stages are:

Stage 1) Business structure and contracting

Stage 2) Benefits/compensation

Stage 3) Local-hire issues

Stage 4) Written employment contracts

Stage 5) HR administration

Stage 1: Business structure and contracting

Stage 2: Benefits/compensation

Stage 3: Local-hire issues

Stage 4: Written employment contracts

Stage 5: HR administration

Part 3: Expatriate Checklist

A multinational launching an operation in a new country often determines that it needs to post into the new location one or more expatriates (be they experienced company people from headquarters or “third country nationals” from upand- running operations outside the headquarters country), to oversee the launch and sometimes to stay on indefinitely. But “seconding” an expatriate opens Pandora’s box—especially if this will be the organization’s first-ever expatriate posting, at least into this new country. Most large multinationals with big expat populations have already opened this Pandora’s box and confronted the demons that flew out, having promulgated expat policies—sometimes 50 pages long—and having created form “secondment” agreement templates and other “global mobility” infrastructure. At other employers, though, expat assignments are less frequent—and so tend to get patched together on an ad hoc basis.

Any multinational launching an employment operation in a new country with no existing procedures for expatriate assignments—but that now needs a way to send an expat into the new start-up— almost invariably starts by asking around for other employers’ form expat policies and agreements.

And expat forms, of course, can be helpful. But expat assignment terms and offerings diverge so widely from company to company that replicating someone else’s programs, by cloning their forms, can be dangerous. Warren Heaps, a New York-based international compensation consultant with the Birches Group, says that because expat “assignment policies are really very tailored to” each employer and are “designed with specific business objectives in mind,” expat “benchmarking is of less value” because “the market may provide certain benefits or allowances which may be unneeded” at certain organizations—especially across industries. So when placing an expatriate into a start-up operation in a new country, never clone other employers’ forms. Instead, craft organic expat policies and agreements that reflect the organization’s own actual policies and needs. Here is a checklist that touches on most of the issues a multinational should address in an expat assignment into a new country (although some of the topics on this list will be less relevant to smaller organizations sending abroad mid-level expats).

Expat program structure

Expat dependents

Foreign assignment logistics