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. Last Updated: 07/27/2016

BUSINESS AND THE LAW: Tax Changes to Raise Expat Costs

The latest government draft version of Russia's Tax Code, issued last week, confirms that many companies with significant expatriate populations will face more challenges to cut costs and use more creative tax-planning strategies.

Three major changes would be made to expatriate taxation.

Unlike the law today, the draft Tax Code treats expatriate housing costs borne by the employer as a taxable benefit. This will have a significant impact on the expense of bringing expatriates into Russia. The following example illustrates this cost:

Company employs 10 expatriates; monthly rents per expatriate are $5,000; expatriate housing is guaranteed net of income tax to the expatriate.

Under this scenario, the company has an annual rental cost of $600,000 (12 months x 10 expatriates x $5,000 monthly rent). If this amount is considered a taxable benefit to the employee, costs would increase by the following amount:

Income tax on annual rental benefit: 35% x $600,000 = $210,000.

Maximum grossed-up income tax on reimbursement of taxes by employer: 35/65 x $210,000 = $113,077.

Maximum total additional cost per year: $323,077.

Thus, costs for a fairly typical company would increase by nearly one third of $1 million as a result of this measure alone.

A recent Price Waterhouse compensation benchmarking study ("Managing Expatriates in the CIS") found that 41 percent of companies were now requiring expatriates to contribute to housing costs by withholding an amount equal to their home country housing costs. Such a policy seems likely to become more common and companies are likely to conduct a general review of their housing allowance budgets to seek savings opportunities.

A second change, introduced for the first time in last week's draft, aims to subject expatriate business trip expenses to income tax. Currently, such rules only apply to local staff, for whom certain expenses are taxable in excess of prescribed limits.

Thirdly, the much-discussed change in the definition of tax residency is maintained by the latest draft of the Tax Code. Currently, tax residents are individuals who spend more than 182 days in Russia during a calendar year. The new rules are somewhat more complex. If the expatriate spends more than 30 days in Russia, then the following calculation must be performed:

(Total days spent in Russia in the current year) + (1/3 the days spent in Russia in the previous year) + (1/6 of the days spent in Russia the year before that)

If the sum of the above days is 183 or more, then the expatriate is tax resident for the current year and is taxable on worldwide income. With a total of less than 183 days, the expatriate is taxable only on Russian source income.

An even more drastic alteration to the residency rules is the proposal that days spent out of Russia for reasons such as business trips, rest, vacation, study and medical care are treated as days spent in Russia.

As a result of these rules, it could become harder to avoid being resident in the year of departure -- when many expatriates ensure they spend fewer than 183 days in Russia so that end-of-assignments bonuses, tax equalization payments and the like escape Russian tax.

Rotators and frequent travellers to Russia who spend less than six months per year in Russia will also be affected. Employers of rotators should be aware that the off-days spent outside Russia could now be treated as days within Russia, and therefore a large number of rotators who are not resident and not taxable under the current rules will find that they are resident and taxable in Russia on their worldwide income.

Employers should pay special attention to the structuring of the work periods in Russia for these two types of expatriate. For example, it would only take visits covering a period of 122 days per year for three years for an individual to become resident in Russia, and, if the Tax Code is taken literally, not all of these days may have been physically spent in Russia (if business trips, rest, vacation, study and medical care are taken into account).

Andrew Chapman and Paul King are tax senior managers in the International Assignments Services group at Price Waterhouse Russia.