Expatriate taxation - CIOT - The Chartered Institute of Taxation

CIOT RESEARCH PROJECT ON EXPATRIATE TAXATION
9 Issue 9: Hypotax and other hypo-ductions
9.1 The issue here is about how and where you deduct hypothetical tax (“hypotax”)
and hypo-social security deductions from earnings subject to UK tax.
This issue only affects expatriates who are tax-equalised in the UK. The
issue is what the “net taxable earnings” which are required to be grossed up
are.
Applicable law
9.2 There is no statutory reference to grossing up for tax. There are two main tax
cases, Hartland v Diggines (10 TC 247) and North British Railway v Scott
(8TC332), which do no more than reflect common sense. They confirm that if,
as an employer, you make a payment of earnings, you have a statutory duty
to deduct PAYE (and NIC). Therefore, when you make a payment to an
employee, it is deemed to be net of tax (and NIC), and you will be required to
pay that tax (and NIC) to HMRC in accordance with the PAYE regulations.
9.3 There is, however, a statutory reference to what earnings you will pay tax on.
This is found in ITEPA sections 21(2) and 25(2), which confirm that tax is paid
only on what is received in the tax year.
Current practice
9.4 The process and management of hypothetical tax deductions is complex and
varied and, to a certain extent, depends upon each company’s policy. As
such, it is beyond the scope of this paper. However, some basics are
required to appreciate this issue.
9.5 Whenever an expatriate is tax-equalised, the employer calculates what tax
would have been paid had the employee stayed at home on home earnings
and delivers that net of home tax to the employee. That tax is called the
hypothetical tax – hypothetical because it is usually not the tax that is actually
paid to either the home or host tax authorities.
9.6 On assignment, the expatriate receives net of tax the normal home pay
reduced by the hypothetical tax, plus additional allowances that relate to the
expatriate and the location he has been moved to. These are usually paid net
of home country tax and host country tax. The hypothetical tax is not actually
collected, as such; it is merely an adjustment to the theoretical “stay-at-home”
gross pay to arrive at the net pay that the expatriate will actually receive.
9.7 In addition, employers provide a wide range of expatriate allowances and
finally pay whatever taxes and social security are needed to be paid for the
expatriate in the host country, and usually in the home country as well. There
are many types of expatriate allowances, and their names vary from company
to company, but a few examples will give a good grasp of what can be paid.
Examples include hardship allowance, foreign service premium, higher cost of
living allowance, foreign housing, education allowance, assignment
completion bonus, etc.
Peter Ashby 38 6.2.07