This memorandum outlines our suggestions regarding the treatment of multinational employees; that is, employees who transfer between countries and retirement programs during their careers with a multinational employer. We recommend the adoption of a policy for reviewing and upgrading retirement benefits when transfers at the employer's request result in a shortfall in total retirement benefits. Ideally, the policy would be adopted by the employer and its affiliates worldwide. If it is not adopted throughout the worldwide affiliated group, however, it could still be applied to employees who start or end their careers in the U.S.
We have found it is common practice for employees who transfer from one country to another for a temporary period (say, up to three years) to be kept in their home country retirement programs. Employees normally will be transferred into the retirement program of the host country only when the transfer is expected to be permanent or of long duration. These employees stop accruing benefits in their home country plans when they start accruing benefits in their host country plans. The host country plans normally will recognize the employee's prior service for purposes of vesting and eligibility, but not for purposes of benefit accrual. Upon retirement, such an employee generally would suffer a shortfall in total pension benefits because the home country's pension benefits were frozen, that is, they did not increase with the employee's final pay.
This problem can be mitigated on an ad hoc basis, giving the employer flexibility to provide a pension benefit for selected employees based on all of the employee's service and the employee's final pay, with an offset for social security and other government-mandated benefits and for other retirement benefits provided through the employer's funded programs.
While ad hoc agreements with selected employees are the most flexible, similarly situated employees may be treated in a nonuniform manner. If the employer considers it desirable to establish a consistent practice for handling similar situations, the employer should consider giving all eligible employees an express written commitment that upon retirement, their pension benefits will be upgraded based on their "home country" program as described below. Eligibility for the upgrade normally would be triggered by the transfer of the employee from the home country's benefit program to another program at the employer's request.
Whenever an employee is transferred to another country at the employer's request, it is desirable for the employee to participate in the retirement program that is most convenient for the particular employee's circumstances from an administrative standpoint, with participation in a funded program generally being preferred over unfunded programs for reasons of benefit security and the preferred tax treatment for the employee and employer. Thus, for example, if a transfer is expected to be for three years or less, it could be most convenient for the employee to remain in his home country's program. If a transfer will be of indefinite duration, or if the employee is paid on the host country's payroll system, it may be easiest from an administrative standpoint to transfer the employee into the host country's retirement program.
This "principle of convenience" also should take into account the tax consequences of home country versus host country plan participation for various employees. For example, consider the tax results under four fact patterns:
- A Canadian citizen resident in the U.S. covered by and vested in a U.S. qualified plan.
- A Canadian citizen resident in the U.S. covered by and vested in a Canadian registered plan. ("Registered" plans in Canada are entitled to tax benefits similar to those of "qualified" plans in the U.S. However, these plans usually do not meet the qualification requirements of the U.S. Internal Revenue Code.)
- A U.S. citizen resident in Canada covered by and vested in a U.S. qualified plan.
- A U.S. citizen resident in Canada covered by and vested in a Canadian registered plan.
The U.S. imposes income tax liability on the basis of U.S. citizenship or U.S. residence, while Canada generally taxes only on the basis of Canadian residence. Accordingly, the U.S. requires that employer contributions be included in the employee's U.S. income in the second and fourth cases (participation in Canadian registered plan by U.S. citizen or resident), while Canada requires no income inclusion in any of these four cases. This result suggests that it usually would be beneficial for U.S. citizens to remain in the U.S. qualified plans or to participate in unfunded plans to avoid income inclusion for benefits earned while working abroad. There is no legal limitation on the duration of a U.S. citizen's participation in U.S. qualified plans while working abroad. Thus, participation could continue even if the employee is abroad for more than a three-year period.
Upon retirement under an employer's home country upgrade policy, a hypothetical pension benefit payable at the normal retirement age would be calculated under the employee's home country pension plan based on his final pay prior to retirement, determined as if the employee had participated in such plan during his entire career. This hypothetical benefit then would be compared to the employee's actual total pension benefits accrued during the various phases of his career. If the hypothetical benefit is larger than the sum of the actual benefits payable at the normal retirement date from all of the employer's pension plans, the employee would receive a supplemental, out-of-the-till pension benefit equal to the difference. The sum of the actual benefits could be determined using an average currency exchange rate during some period (for example, one month) prior to the date pension benefits of the home country will be paid. The currency exchange rate would not be recalculated after pension benefits start.
If the employee's home country pension plan is integrated with social security or other government-mandated benefits, such benefits should be calculated as if the employee had participated in the social insurance program of the home country for his or her entire career. The employee could be eligible for a separate social security make-up benefit if the employee could show that his or her actual social security benefits from all sources are lower than the theoretical social security benefit from the home country based on all service. The make-up would be intended to match the employer-provided portion of the shortfall in social security benefits.
We suggest that vesting, early commencement discounts and the form of payment of the pension upgrade should be based on the rules of the employee's home country pension plan. Thus, if the benefits under the home country plan could be paid in a lump sum, a lump sum would be available for the upgrade. In addition, if the home country program provides for cost-of-living supplements, the upgrade would be similarly supplemented. Finally, the employee would be eligible for any post-retirement welfare benefits (medical and life insurance) based on the rules of the home country program, taking into consideration all employer service worldwide.
The cost of providing the upgrade and any post-retirement welfare benefits could be allocated among the companies with which the employee accrued credited service while actually participating in the home country plan, or among all of the companies for which the employee worked, or on some other equitable basis.
The foregoing discussion has not addressed the various defined contribution plan benefits that the employee may have accrued while participating in different countries' retirement programs. The pension upgrade described above would address only the shortfall resulting when total pension benefits do not reach the target level. However, defined contribution plans may provide a significant part of an employee's retirement benefits, at least in the U.S. Therefore, serious consideration also should be given to including a make-up payment for any shortfall in the employer-provided portion of defined contribution plan benefits. The difficulty would be to determine the target level of benefits the employee would have received if he or she remained in the home country program, since participation in that program's defined contribution plan may be voluntary. The offset for host countries' programs also would be variable if participation in those countries' defined contribution plans is voluntary. In both cases, it may be necessary to assume a minimum level of employee contributions. Where the value of the host countries' employer-provided defined contribution plan benefits exceeds the target level, it would be appropriate to use the excess as an additional offset to the pension plan upgrade.
The policy outlined above should be flexible enough to allow for a change in what is considered to be the employee's "home country." For example, if an Australian employee clearly has been identified as having a U.S. career path and has become a permanent U.S. resident, it makes sense to measure that employee's upgrade based on the U.S. retirement program, especially if the employee will live in the U.S. after retirement. In this way, the employee's retirement benefits will match those of the country in which he retires, and retirement benefits in that country's currency will be maximized (thereby minimizing the effect of currency fluctuations for retirement benefits payable in other countries' currencies).
Some of the factors that might be considered in the decision to change an employee's "home country" include: the proportion of the employee's career served in the new "home country;" the employee's status as a permanent resident of the new country; the differing levels of total current and deferred compensation that are provided under each country's program, including the relative value of the new country's retirement plans compared to the old country's plans; whether the new country is the final country in which the employee worked; and the employee's intention to live in that country after retirement. We suggest that any determination to change an employee's "home country" generally be made only at the time the employee actually retires, based on all of the facts and circumstances. If additional relevant factors are identified, they should be documented and consistently applied.