What is Shadow Payroll?
- Last updated: October 16, 2024
Business expansion requires meticulous coordination to replicate the success of the parent company in foreign countries. As such, companies will often appoint an experienced employee to help with the expansion during overseas missions, ensuring that company values are duly upheld and passed on. However, these overseas assignments create a payroll conundrum – employees are registered on their home payroll but are also eligible as tax-paying workers in the host country.
This is where shadow payroll steps in.
Without shadow payroll, businesses could face heavy fines from the countries they are expanding to and could potentially run the risk of being blacklisted, ruining their hopes for expansion.
Definition of shadow payroll
Shadow payroll is a payroll strategy used mainly when employees are sent on overseas assignments, which is why it is also known as “expat payroll”. Through expat payroll, employers can report information about foreign-sourced compensation. For instance, if your company is based in the USA and you have an employee in South Africa, setting up a shadow payroll there will ensure that you are in compliance with the local income tax laws. This means that you can complete your tax and social obligations in South Africa while paying the employee through the USA-based payroll.
Why is shadow payroll necessary?
Besides, overseas missions never quite meet the set deadline. With either complications arising or with the business taking on more quickly than intended, a three-month-long deployment can easily turn into an assignment spanning the whole year. This type of situation makes an even stronger case for workers’ income being taxable.
But the main reasons why shadow payroll is needed are:
1. To report payment and benefits
Employees deployed abroad might need to use shadow payroll to report their wages in both, their home and host countries. While managing a shadow payroll, the following issues arise most frequently:
- Determining what needs to be computed, recorded, and remitted
- Calculating remittances
- Scheduling calculations, creating reports, and making remittances
2. To avoid double taxation
Employees on assignments abroad, frequently worry that their earnings will be subject to double taxation since they believe they will be taxed in both their home country and the country they are working in. It must be noted that some countries have double taxation treaties in place. These agreements ensure that any money earned is taxed fairly and that double taxation is prevented.
3. To implement tax equalisation
Taking up an overseas assignment is not always easy to do, especially when employees need to leave their families for extended periods of time. To incentivise them to take up these assignments, companies ensure that workers on overseas assignments do not pay more taxes than they otherwise would have in their home country. This is known as “Tax equalisation”. Employers use this provision to balance out any tax differences. As a result, employees pay this hypothetical tax as if they were still in their home country.
Of course, this is quite a complex operation, requiring knowledge of international tax law as well as timely calculation and remittance of the relevant taxes, for safeguarding against the risk of non-compliance.
How can shadow payroll benefit businesses expanding to Africa?
1. Taking care of a deeply complex situation
Make no mistake, shadow payroll is a convoluted process that requires not only knowledge of the law and potential relief strategies but also timely and accurate action. Furthermore, shadow payroll includes taking into account particularities like holiday pay, bonuses, and the 13th and 14th month’s salary and employee classification, among others.
Even the slightest mistake can bring about heavy sanctions that you will have to bear, sometimes even at the cost of proper expansion in the country of your choice.
2. Taking advantage of double taxation treaties
Double taxation treaties are among the relief strategies available to employers when expanding overseas in Africa, for instance. Through shadow payroll and double taxation treaties, employers can make their expansion more cost-efficient.
When is a shadow payroll not needed?
Expat payroll is efficient in certain situations, however, it is not always applicable, even when an expatriate worker is involved. These situations do not require the use of expat payroll:
1. When partnering with an EOR
When a business partners with an EOR (Employer of Record), they automatically hand over all payroll responsibility to the EOR. Since the EOR has a legal local entity, there is no need for parallel payrolls.
2. When the company has its own in-country legal entity
When a company has its own in-country entity, shadow payroll is not needed. The company will simply need to arrange for the expatriate worker’s visa and work permit.
3. When there are no employment and payroll tax withholdings
Although rare, it may be that some countries have no employment or payroll tax withholdings. In these cases, shadow payroll is not necessary.
4. When remote workers and expats are not liable to tax
In some countries around the world, remote workers and expatriates enjoy a non-taxable status, in which case shadow payroll is redundant.
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Why choose a payroll partner?
Managing shadow payroll by yourself will very likely prove not to be worth the considerable effort of learning the tax and labour laws of your home country and the host country. It will also require you to act in a timely manner while making no mistakes. With the stakes being this high – there are risks of fines, being blacklisted, and potentially ruining your expansion efforts – it is best to turn to an expert to ensure that this crucial aspect of business expansion is properly taken care of.
With decades of experience helping businesses manage their payroll needs, Africa HR Solutions is fully qualified to assist you during your business expansion across the African continent. Get in touch with one of our experts now to find out how we can best meet your payroll needs.