What is a Split Payroll
Split payroll is method of paying employees who are on international assignments in which pay is divided between local and home-country currencies. A split payroll structure has several functions. It reduces the effect of currency fluctuations on an employee's pay and lets them expect a certain amount of pay in their home country's currency and a certain amount of pay in his host country's currency. Without split payroll, an employee would have to exchange money from one currency to the other each month and therefore be subject to the whims of exchange rates. In effect, split payroll transfers exchange rate risk from the employee to the employer.
Breaking Down Split Payroll
A split payroll also makes it easier to simultaneously comply with the tax withholding requirements of an expatriate worker's home and host countries. It can also ensure that an employee can continue to participate in his company's retirement plan even while working abroad. Split pay can also make it easier for companies and their employees to comply with the host country's regulations for work and for transferring money out of the country. Instead of a split payroll, employees working abroad may also receive home-based compensation, host country-based compensation, or headquarters-based compensation.
Split Payroll in Practice
Wages paid in an employee's host country currency is generally used to pay everyday living expenses, such as rent, food, transportation and services while wages paid in home country currency is intended for savings and purchases outside of the host country. Such purchases may include education, vacations, housing costs, or furniture bought in the worker's home country (also known as non-spendable income). Such a strategy is more frequently used by European companies when paying their expat workers. U.S. companies are more likely (a little over half according to consultancy Mercer) to pay their expat employees in their host country currency.
A cost of living adjustment, when applied, is only used on the host country portion of an employee's salary — generally the portion used for day-to-day expenses. As such, this portion of salary is protected from inflation and currency fluctuations. Ideally, a company will set a level of spendable wages (host county wages) that meets the requirement of the expat worker. While it would be hard to get the figure exactly right given that spending can vary month to month, employers can approximate they employee's requirements. Better yet, companies should allow the employee to decide the ratio of host country and home country payments.
Split Payroll Exception
While a spilt payroll can be advantageous in many cases and involving may country pairs, in cases involving especially unstable currencies, such as those in certain countries in eastern Europe, Africa and Latin America, expat workers should be paid in their home country currency or a third, more stable, currency.