Definition of an Employer
When assigning employees to other countries, Global Mobility teams around the world have relied on what is known as the “183-day rule” for their assignment population. The “183-day rule” is an exemption rule of Article 15 of the OECD Model Tax Convention, which is the basis for many double tax treaties.
Article 15 of the OECD Model Tax Convention states that employment income is taxed in the country where the gainful activity is performed. In addition, paragraph 2 of the same article also describes three conditions under which a tax exemption is granted:
- The employee’s presence in the host country is not exceeding 183 days in any 12-month period commencing or ending in the fiscal year concerned
- The compensation is paid by, or on behalf of, an employer who is not a resident of the host country
- The remuneration is not borne by a permanent establishment which the employer has in the host country
Over the past few years, many countries have started to question the meaning of “employer” in such an international context as it is an expression that is rarely defined within tax treaties. Whereas some countries stick to the legal definition of an employer, some countries challenge this definition and look at the definition of an employer from an economic perspective.
Determination of Economic Employer Status in Switzerland
While many countries worldwide – but especially in Europe – have already applied the economic employer principle over the past few years, only a few cantons (i.e. Zürich) in Switzerland have considered this principle until the new source tax regulations came into force. With the Circular Letter 45, the Federal Tax Administration has now introduced the economic employer principle Swiss-wide and therefore, challenging the traditional model for granting income-tax exemptions based on the legal employer principle.
The economic employer concept based on the OECD Model Tax Commentaries states that the employer is the entity which is the employer from an economical point of view and not which entity signed the employment contract with the employee which is known as the formal or legal employer. Therefore, in case of assignments of employees between connected companies, it must be reviewed whether the host company constitutes an economic employer status, despite the continued payment of wages by the home company and the employment contract with the home company. An economic employer status should be assessed in particular on the basis of the following non-exhaustive criteria that have been defined by the Federal Tax Administration:
- Does the provided service form an integral part of the business activity of the host company?
- Does the host company bear the responsibilities and risks of services provided by the assigned employee?
- Does the host company have the authority to instruct the assigned employee?
- What is the extent of integration into the operational organisation of the host company?
- Does the host company effectively bear the salary costs (intercompany re-charge)?
Consequences as an Economic Employer
Should the host company be considered as the economic employer, it might be that the assigned employee, even if the 183-day threshold is not exceeded, is subject to income tax in the host country. For assignments into Switzerland, this means that in the case of a Swiss economic employer – despite the continued payment of wages by the home company – there is a withholding tax remittance obligation. To avoid an unnecessary administrative burden for both the Swiss tax authorities as well as the economic employer, the rule has evolved in practice that the economic employer status is only reviewed for assignments into Switzerland of more than 3 months within a 12-month period. In practice, this means that for assignments of less than 3 months, there is usually no withholding tax remittance obligation and the employment income remains fully taxable in the home country.
If an assignment of less than 3 months is agreed and it becomes necessary to extend the assignment to more than 3 months or the employee is assigned to Switzerland on several occasions during a 12-month period commencing or ending in the fiscal year concerned, the withholding tax remittance obligation begins as of the initially first working day in Switzerland. In any case, if an economic employer status in Switzerland is determined, only the actual working days performed physically in Switzerland are subject to withholding tax.
As the employer is ultimately liable for the remittance of withholding taxes to the tax authorities, it is important that the economic employer status is analysed prior to the assignment start to ensure that the payroll set-up is done correctly so that it can be avoided that the employer ends up paying the withholding taxes which should have been deducted from the employee's compensation.
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Introduction of the Economic Employer principle in Switzerland
Together with the new source tax regulations, the Circular Letter 45 issued by the Federal Tax Administration came into force on 1 January 2021, which focuses on the harmonisation of the withholding tax collection process as well as the introduction of the economic employer principle across Switzerland.
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Relevant for employees who are resident in Germany and working in Switzerland for a Swiss employer, having the 'executive employee' status.
Operating in a country different from the headquarters location
What are the considerations and potential pitfalls as the employer?
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