As a result of the COVID-19 crisis, many cross-border workers are working from their home office, which is not necessarily located in the same country as their employer' office. Also after the COVID-19 crisis, employees may continue working substantially from home. This may lead to unexpected tax consequences for the company.
The main question here is whether employees living abroad and working from their home offices may trigger (i) a material permanent establishment ("PE") (the fixed place of business being the home office of the employee abroad) or (ii) an agency PE (employees working abroad and having the capacity to represent the company by negotiating and concluding contracts on its behalf) of the company.
In the affirmative, the company would have to allocate profits to the PE on an arm's length basis, which will be subject to corporate income tax in the state of the PE. This could lead to a different (potentially higher) taxation and to additional compliance requirements.
(i) Risk of having a material PE?
A foreign home office must have a certain degree of permanency and be at the disposal of the company to be considered as a material PE. This is a factual analysis whereby several indications are to be taken into account, such as for instance whether the employee works from his home office on a continuous basis and at the company's request, whether the company pays a separate contribution for the home office, whether the address of the home office is indicated on business cards, etc. Reference should also be made to the wording of the employment agreement.
Even if the indications would be present, however, there will still be no PE in case the activities in the home office have a preparatory or auxiliary character.
During the COVID-19 crisis, employees are working from home for a limited duration and because of government restrictions. Hence, considering the extraordinary nature of this crisis, teleworking from home should not create a foreign PE for employers during the COVID-19 crisis as indicated in the OECD's Updated guidance on tax treaties and the impact of the COVID-19 pandemic of 21 January 2021.
However, if working (partially) at the foreign home office would become the new standard over time once the COVID-19 crisis is behind us, there is a substantial risk that a material PE is deemed to exist.
(ii) Risk of having an agency PE?
In general, the activities of a dependent agent such as an employee create an agency PE in a foreign country if the employee habitually concludes contracts in name and on behalf of the company or plays the principal role in negotiations which lead to the conclusion of contracts without any material modification by the company.
The employee should perform these activities in a "habitual" way, meaning that the activities must have a certain degree of permanency and cannot be purely temporary.
An employee's activity in his or her home country is unlikely to be regarded as habitual if he or she is only working at home for a limited period because of force majeure and/or restrictions extraordinarily affecting his or her normal routine. Therefore, the COVID-19 crisis should not trigger any agency PE (assuming that the employee was not habitually negotiating and/or concluding contracts on behalf of the enterprise in his or her home country before the COVID-19 crisis), as confirmed in the OECD's Updated guidance .
However, if the employee would continue negotiating and/or concluding contracts in his or her home country after the COVID-19 crisis, there is a substantial risk that an agency PE will be deemed to exist in that country.
In conclusion, companies should monitor their employee's work presence and set up clear policies on do's and don'ts in order to mitigate their tax exposure abroad. It should be verified prior to their implementation that new working policies do not trigger the existence of a material or agency PE. A wait-and-see approach seems to be an attitude that could backfire, so immediate action is highly advisable.
For the impact of the changed working pattern on the taxation of the employee's salary, we refer to our newsflash published on 25 March 2021.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.