Tax risks and pitfalls during international assignments: employee share plans, investment funds and funded pension schemes!

In the first part of our blog series, we addressed the tax implications arising during international employee assignments, in particular with regard to private capital investments.

This article in our blog series focuses on employee share plans, investment funds and funded pension schemes. In this context as well, tax residence plays a central role. We already addressed the issue of tax residence in the first part of our blog series (here).

Employee share plans during international assignments: when is there a risk of double taxation?

Employee share plans continue to grow in popularity. One particularly attractive feature is the broad flexibility they offer both companies and employees in terms of the content. From the employer’s perspective, these models are attractive because they can make personnel costs more flexible and strengthen employee retention. For employees, they provide an opportunity to participate in the company’s success with limited risk.

The most common forms include, among others:

• stock options or stock option plans (SOP);
• restricted stock units (RSU) or restricted stocks (RS);
• employee share purchase plans (ESPP);
• phantom stocks;
• stock appreciation rights (SARs).

From a tax perspective, a distinction must be made between, on the one hand, the benefit in kind, and on the other hand, any dividends received and a subsequent disposal. For dividends received and realised capital gains, reference can be made to the explanations in the first blog post. You can find the first blog post here.

The following applies to the benefit in kind:

As a rule, under such plans employees are granted shares free of charge or at a reduced price. This results in a taxable benefit in kind equal to the difference between the actual price paid and the fair market value, e.g. the stock exchange price. According to widely accepted international practice, this employment-related benefit is generally classified as income from employment.

This classification often gives rise to difficulties in the context of international assignments where employees work physically in more than one state. In such cases, the benefit in kind must be allocated among the relevant states in proportion to the number of physical working days. As a rule, the benefit in kind must be allocated to the relevant states based on the working days between the grant date and the date on which the right may first be exercised (vesting date).

A risk of double taxation may arise particularly in the following cases:

• activities performed in several states between the grant date and the vesting date;
• a change of tax residence between the grant date and the vesting date;
• different dates of taxation in the states involved;
• different tax qualification of the benefit in kind;
• Differing national rules on the apportionment of the benefit arising from the employee share plan; limited or delayed relief under double tax treaties.

Employee share plans may account for a significant proportion of total remuneration, so double taxation can have considerable financial consequences. In any case, an early analysis helps create clarity regarding the tax consequences, identify potential risks and implement suitable measures to avoid double taxation.

Risks in connection with investment funds during an international assignment:

Investment funds are among the most popular forms of investment for private investors. However, in the context of international employee assignments, the tax treatment of investment funds is often overlooked. In particular, where tax residence is transferred to Austria, investment funds that reinvest their yield may trigger significant tax consequences.

In the case of funds that reinvest their yield, a distribution is deemed to occur for tax purposes (so-called deemed distributed income). In Austria, such deemed distributed income is subject to the capital gains tax (KESt) at a rate of 27.5%. When moving to Austria, these funds are often classified as so-called non-reporting funds, especially where they are held in a foreign securities account. While in the case of reporting funds the deemed distributed income is determined by a tax representative and reported to the OeKB (Oesterreichische Kontrollbank), in the case of non-reporting funds a significantly less favourable lump-sum method is often used to determine deemed distributed income. Given that deemed distributed income does not involve any actual cash inflow, this may lead to highly unpleasant tax consequences.

In addition to the specific tax treatment of deemed distributed income in connection with investment funds, double taxation risks must also be considered where tax residence changes.

A risk of double taxation may arise in particular in the following cases:

• change of tax residence during the holding period of the investment fund;
• different tax treatment of investment funds in the states involved;
• different national rules regarding the taxation of income in the states involved that is reinvested;
• different points in time at which fund income is recognised for tax purposes;
• limited creditability of foreign taxes.

Due to the specific tax rules applicable to investment funds, a change of residence may result in significant and unexpected additional tax burdens. An early analysis is essential, especially since custodian institutions are obliged to participate in cross-border exchange of information and income is regularly reported to the Austrian Ministry of Finance (BMF).

Funded pension schemes during an international assignment: from tax advantage to tax trap?

Foreign funded retirement/pension schemes can involve particular tax risks, especially when tax residence changes. This applies in particular to schemes that deviate from the tax principles commonly applied in Austria. Their tax treatment is often difficult to assess and may give rise to a substantial risk of significant tax liabilities in Austria.

In particular, under foreign pension schemes, current income generated during the accumulation phase is often tax-exempt abroad, while taxation occurs only upon later payout. In Austria, however, the opposite applies: current income is taxed, whereas the later payout generally remains tax-exempt. This may result in double taxation. If current income is taxed due to Austrian tax residence and the individual later returns to the original state, the same appreciation may be taxed again upon payout.

A risk of double taxation may arise in particular in the following cases:

• relocation to Austria while already holding an existing foreign pension scheme;
• relocation from Austria before pension benefits are drawn;
• multiple changes of tax residence during the accumulation phase;
• unclear tax classification of the pension scheme in the different states involved.

For such schemes, the tax classification always depends on the actual structure of the specific plan. The following examples illustrate models frequently encountered in practice:

• traditional individual retirement accounts (Traditional IRA);
• Roth individual retirement accounts (Roth IRA) – mainly relevant in the US;
• 401(k) plans – mainly relevant in the US;
• stocks & shares individual savings accounts (ISA) – mainly relevant in the UK;
• defined contribution pension scheme – mainly relevant in the UK.

The assessment of which type of income is involved in a given case and to what extent it is taxable in Austria must always be based on an overall assessment of the specific and the individual circumstances. A standardised assessment is not possible, particularly because the foreign structural logic of these schemes does not exist in Austrian tax law. An early analysis is therefore essential. This makes it possible to identify potential risks and take appropriate action.

In conclusion: plan early instead of correcting later!

International employee assignments affect far more than just regular salary. Employee share plans, investment funds and foreign pension schemes may trigger unexpected tax consequences as a result of changes in tax residence. Early analysis helps identify risks in time and minimise or avoid double taxation risks.

Our “red carpet service”

International employee assignments require early tax planning. With our “red carpet service”, we support companies and employees in analysing cross-border situations and provide assistance with tax issues before, during and after an international assignment.

Do you have questions about your individual situation or need assistance with your tax return? Our red carpet service experts would be pleased to discuss this with you personally.

In the next part of our blog series, we will look at the effects of international employee assignments on rental and lease income. Stay tuned!