By Anthony Diosdi
Unprecedented measures imposed or recommended by governments, including travel restrictions and curtailment of business operations have been in effect in most countries in various forms and stages during the last two years. During the pandemic period, many U.S. enterprises have faced curtailment of their operations, and have been forced to close offices and other business premises forcing those businesses to change how their business is conducted (e.g. working from home). In many countries, international travel was either suspended or severely restricted for a number of weeks leaving people estranged in countries where they might not otherwise be. This temporary dislocation of people or workers can have global tax consequences for those individuals and U.S. businesses for which they work.
Foreign Permanent Establishments Rules
Many U.S. businesses have been concerned that employees dislocated to foreign countries, which they regularly work, and working from their homes in a foreign during COVID-19 pandemic, could create a “permanent establishment” in those jurisdictions, triggering for those U.S. businesses new filing requirements and tax obligations. Establishing a permanent establishment in a foreign country can potentially trigger foreign tax liability. Article 5 of the U.S. Model Treaty provides a description of circumstances in which a permanent establishment will be found. Article 5(1) explains that a permanent establishment generally means a fixed place of business through which the business is undertaken. A permanent establishment may also exist if employees or other dependent agents habitually conclude business in a foreign country. See Article 5(4) of the U.S. Model Treaty.
As explained below, the exceptional and temporary change of location where employees exercise their employment because of the pandemic, such as working from a foreign home, should not create new permanent establishments for U.S. companies. However, thresholds under domestic law (including state/provincial legislation) may differ. A number of tax authorities have issued guidance on whether changes in work practices prompted by COVID-19 pandemic can result in the creation of a permanent establishment. Below is a sample of guidance issued by a number of foreign countries on creation of a permanent establishment:
The Austrian Federal Ministry of Finance issued guidance that if an Austrian employee of a foreign company carries out his work in an Austrian home office during COVID-19 pandemic due to the measures recommended by the respective governments, this is due to force majeure. Therefore, in view of the extraordinary nature of the COVID-19 crises- and provided that work in the home office does not become the norm- there will be no permanent establishment within the meaning of Art 5 OECD for the foreign company, because the home office lacks sufficient disposal of the company over the home office. See https://www.ato.gov.au/business/international-tax-for-business/working-out-your-residency/.
The Canada Revenue Agency issued temporary guidance noting that, as an administrative matter, it will not consider an entity resident in a treaty country to have a permanent establishment in Canada solely because its employees perform their employment duties in Canada solely as a result of the travel restrictions being in force. Further, the Canada Revenue Agency will not consider an “agency” permanent establishment to have been created for the non-resident entity solely due to a dependent agent concluding contracts in Canada on behalf of the non-resident entity, while travel restrictions are in force, provided that such activities are limited to that period and would not have been performed in Canada but for travel restrictions. It should be noted that Canada Revenue Agency guidance is always applied on a case-by-case basis. See https://www.gov.uk/hmrc-internal-manuals/international-manual/intm261010.
Ireland’s Revenue has issued guidance to disregard the presence of an individual in Ireland and where relevant, in another jurisdiction- for corporate income tax purposes for a company in relation to which the individual is an employee, director, service provider or agent, if such presence is shown to result from travel restrictions related to COVID-19. The individual and the company should maintain a record of the facts and circumstances of the bona fide relevant presence in Ireland, or outside Ireland, for production to Irish Revenue if evidence that such presence related from COVID-19 related travel restrictions is requested. See https://www.revenue.ie/en/corporate/communications/covid19/compliance-with-certain-reporting-and-filing-obligations.aspx.
New Zealand’s Inland Revenue issued guidance confirming that the COVID-19 pandemic will not cause non-resident companies to have a permanent establishment in New Zealand because their employees are confined or stranded in New Zealand. A non-resident company will not derive New Zealand income because of a permanent establishment after only a short period of time. The fixed place needs a degree of permanency- the fixed place cannot be of a purely temporary nature. See https://www.ird.govt.nz/covid-19/international/tax-residency.
The United Kingdom’s HM Revenue and Customs issued guidance noting that existing guidance is flexible and makes clear that HM Revenue & Customs considers that a non-resident company will not have a UK fixed place of business permanent establishment after a short period of time as a degree of permanence is required. Similarly, the guidance confirms that while the habitual conclusion of contracts in the UK would also create a dependent agent permanent establishment, it is a matter of fact and degree as to whether that habitual condition is met. See https://www.gov.uk/hmrc-internal-manuals/international-manual/intm261010.
The sample guidance issued by the countries discussed above indicate that there is no uniform rule regarding the establishment of a permanent residence as the result of remote workers during the pandemic. The same can be said whether a permanent establishment can be established by the physical presence of a remote worker.
Generally speaking, whether or not a permanent establishment exists is based on facts and circumstances in each case. Typically, a place must have a certain degree of permanency and be at the disposal of an enterprise in order for that place to be considered a fixed place of business through which the business of that enterprise is wholly or partly carried on. Paragraph 18 of the Commentary on Article 5 of the Organization for Economic Cooperation and Development (“OECD”) Model explains that even though part of the business of an enterprise may be carried on at a location such as an individual’s foreign home office, that should not lead to the conclusion that that a foreign location is at the disposal of that enterprise simply because that foreign location is used by an individual (e.g. an employee) who works for the enterprise. The carrying on of intermittent business activities at the foreign home of an employee does not make that foreign home a place at the disposal for carrying on business of that enterprise.
During the COVID-19 pandemic, individuals who stayed at home to work remotely were typically doing so as a result of public health measures: it was an extraordinary event not an enterprise requirement. Therefore, considering the extraordinary nature of the COVID-19 pandemic, telecommuting from home (i.e., a home office) because of an extraordinary event or public health measures imposed or recommended by governments in most cases will not likely create a permanent establishment for the business or employer, either because such activity lacks a sufficient degree of permanency or continuity or because the home office is not at the disposal of the enterprise. However, this must be determined on a country-by-country basis.
Even if an individual employed by a U.S. company continues to work from home outside the United States, as a remote worker, after the cession of the public health measures imposed or recommended by the foreign government, alone will not necessarily result in the home office giving rise to a permanent establishment. Paragraph 18 and 19 of the Commentary on Article 5 of the OECD Model indicate that whether the individual is required by the enterprise to work from home or not is an important factor in this determination. Paragraph 18 explains that where a home office is used on a continuous basis for carrying on business activities for an U.S. enterprise and it is clear from the facts and circumstances that the U.S. enterprise has required the individual to use that location (e.g. by not providing an office to an employee in circumstances where the nature of the employment clearly requires an office), the foreign home office may be considered to be at the disposal of the enterprise. As an example, paragraph 19 notes that where a cross-border worker performs most of his or her work from home situated in one country rather than from the office made available to them in the other jurisdiction, one should not consider that the home is at the disposal of the enterprise because the enterprise did not require that the home office be used for its business activities.
Thus, even if a remote worker continues to work from a foreign home after the conclusion of the pandemic, permanent establishment for foreign tax purposes will not likely be triggered. (As long as the remote workers are not marketing products in that foreign country or negotiating contracts on behalf of their U.S. employer). Although the mere presence of remote workers in a foreign country will probably not establish a permanent establishment, as discussed below, the presence of a remote worker in a foreign country can result in foreign employment tax consequences.
Concerns Related to Income from Employment
Article 15 (Income from employment) of the OECD Model governs the taxation of employment income. The starting point for the rule in Article 15 of the OECD is that “salaries, wages and other similar remuneration” are taxable only in the person’s jurisdiction of residence unless the “employment is exercised” in another jurisdiction. The Commentary on Article 15 explains that this means the place where the employee is “physically present when performing the activities for which the employment is paid.” There are certain conditions attached to this test. For example, the other jurisdiction (the source jurisdiction) may exercise a taxing right if the employee is there for more than 183 days or the employer is a resident of the source jurisdiction, or the employer has in the source jurisdiction a permanent establishment that bears the remuneration.
In other words, under the OECD rules, U.S. businesses that have remote workers working in foreign countries may be liable for foreign taxes on wages and salaries if the individual is “physically present when performing the activities” and in the foreign country for more than 183 days. In certain cases, tax treaties may abrogate these rules. In addition, a number of foreign countries have issued special rules regarding remote workers during COVID-19. Below is a sample of the guidance released for foreign taxing authorities:
The Australian Tax Office has published guidance stating that where a person that is not an Australian resident for tax purposes is in Australia temporarily for some weeks or months because of COVID-19, he or she will not become an Australian resident for tax purposes provided that person: 1) usually lives overseas permanently; and 2) intends to return there as soon as they are able. See https://www.ato.gov.au/General/COVID-19/Support-for-individuals-and-employees/Residency-and-source-of-income/#ChangeoftaxresidencyduetoCOVID19.
Canada’s Revenue Agency has issued guidance on the domestic resident test which comprises a fact and circumstances test and a days of presence test. On the facts and circumstances test, the guidance notes that if an individual stayed in Canada only because of the travel restrictions, that factor alone will not cause the Canada Revenue Agency to consider the common-law factual test of residency to be met. On the number of days tested, the guidance notes that as an administrative matter and in light of the extraordinary circumstances, the Canada Revenue Agency will disregard the days during which an individual is present in Canada and is unable to return to their jurisdiction of residency solely as a result of the travel restriction. This guidance applies where, among other things, the individual is usually a resident of another jurisdiction and intends to return, and does in fact return, to their jurisdiction of residence as soon as they are able to. See https://www.canada.ca/en/revenue-agency/campaigns/covid-19-update/guidance-international-income-tax-issues.html
Finland’s guidance notes that the COVID-19 pandemic does not affect the way the Finish tax authorities determine an individual taxpayer’s residence under Finnish law or under tax treaties. See https://www.vero.fi/en/detailed-guidance/statements/82178/effects-of-the-coronavirus-pandemic-on-taxes-on-income-received-under-an-employment-contract-in-a-foreign-country-the-six-month-rule-and-forces-majeures2/.
France has issued guidance recognising that the COVID-19 pandemic does not affect the way the French tax authorities determine an individual taxpayer’s residence under French law or under tax treaties. See https://www.impots.gouv.fr/portail/international-particulier/residence-fiscale-et-confinement-crise-covid.
Greece’s Independent Authority for Public Revenue issued guidance noting that under the domestic residence test for individuals for the period March 18, 2020 through June 15, 2020: a) the test of habitual abode is not affected by exceptional circumstances prompted by COVID-19 and b) days spent in Greece during this period due to travel restrictions or as a measure of personal protection and security can be disregarded for purposes of determining residency (days of presence test). Further, the guidance also refers to the application of tie-breaker rules for residence included in tax treaties and specifies that the test of habitual abode is not affected by a temporary dislocation due to COVID-19. For periods preceding March 18, 2020 and following June 15, 2020, it shall be assessed whether restrictions were in place. See https://aade.gr/sites/default/files/2020-07/E2113_2020.pdf.
India’s Department of Revenue issued guidance confirming that if an individual was unable to leave India during March 2020, some of the days spent in India during March can be disregarded for purposes of applying the domestic residency rules. The days that may be disregarded depends on the circumstances of the restrictions imposed on the individual. See https://www.incometaxindia.gov.in/communications/circular/circular_no_11_2020.pdf.
Ireland’s guidance provides for “force majeure” circumstances where an individual is prevented from leaving Ireland on his or her intended day of departure because of extraordinary natural occurrences. See https://www.revenue.ie/en/corporate/communications/covid19/compliance-with-certain-reporting-and-filing-obligations.aspx.
New Zealand’s Inland Revenue issued guidance noting that the domestic days of presence residency test are not strictly applied where an individual is present in New Zealand or absent from New Zealand as a result of the COVID-19 pandemic provided that person leaves within a reasonable time after they are no longer practically restricted in doing so. New Zealand also issued guidance on the application of tax treaties and it notes that the residence tests in tax treaties are interpreted in a holistic and integrated manner and it is not expected that persons will be treated as resident under tax treaties just because of the current emergency conditions. See https://www.ird.govt.nz/covid-19/international/tax-residency.
The UK issued guidance on whether days spent in the UK can be disregarded for purposes of determining residency due to exceptional circumstances. Further, the UK issued guidance on the application of tie-breaker tests for residence included in treaties and noted that although a person may become resident in the UK under the statutory residence test, their residence under a treaty will not change due to a person’s temporary dislocation. See https://www.gov.uk/hmrc-internal-manuals/residence-domicile-and-remittance-basis/rdrm13200.
Despite the complexity of the residency rules governing taxation of income and employment taxes, and their application to a wide range of potentially affected individuals, it is unlikely that the COVID-19 restrictions to travel will substantially affect residence rules. Thus, a remote worker will establish residency for tax purposes in a foreign country unless they are away from their U.S. home (perhapes on holiday for a few weeks) and get stranded in a host jurisdiction because of the COVID-19 pandemic. U.S. companies must understand that a change in the place where the employment is exercised (whether or not through telecommuting) may give rise to foreign income and employment taxes. This is the case before, during, and after the COVID-19 pandemic. If a U.S. company has or had employed remote workers in a foreign country, an analysis should be done whether or not the physical location of the remote worker triggers foreign employment income taxes.
Conclusion
Many U.S. companies employ remote workers. Over the couple years, tax practitioners have debated state tax issues associated with remote workers. Cross-border tax considerations regarding remote workers should not be ignored by U.S. companies.
Anthony Diosdi is one of several tax attorneys and international tax attorneys at Diosdi Ching & Liu, LLP. Anthony focuses his practice on domestic and international tax planning for multinational companies, closely held businesses, and individuals. Anthony has written numerous articles on international tax planning and frequently provides continuing educational programs to other tax professionals.
He has assisted companies with a number of international tax issues, including Subpart F, GILTI, and FDII planning, foreign tax credit planning, and tax-efficient cash repatriation strategies. Anthony also regularly advises foreign individuals on tax efficient mechanisms for doing business in the United States, investing in U.S. real estate, and pre-immigration planning. Anthony is a member of the California and Florida bars. He can be reached at 415-318-3990 or adiosdi@sftaxcounsel.com.
This article is not legal or tax advice. If you are in need of legal or tax advice, you should immediately consult a licensed attorney.