When compensating expatriate employees, companies typically use two basic international compensation policies: the balance sheet approach and the localized approach. Each policy has its own set of principles and practices tailored to effectively manage the financial aspects of sending employees abroad. Below is a discussion of each approach:
1. Balance Sheet Approach
The balance sheet approach is designed to ensure that expatriates maintain their pre-assignment standard of living and do not experience a financial disadvantage as a result of their international assignment. Key features of this approach include:
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Home-Country Salary: Expatriates generally receive a salary that reflects their home-country salary, adjusted for cost of living differences in the host country.
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Cost of Living Adjustments (COLA): This approach accounts for differences in economic conditions, including housing, groceries, transportation, and education. Employers usually provide a COLA to cover these differences, ensuring the expatriate's purchasing power remains consistent with what they would have in their home country.
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Tax Equalization: To avoid tax disadvantages for expatriates, many companies implement tax equalization policies. This means that expatriates pay taxes as if they were still in their home country, and the company covers any excess tax liabilities incurred in the host country.
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Incentives: Additional benefits provided can include allowances for housing, education for children, and repatriation costs, among others, to further align the expatriate's financial situation with that of their peers at home.
The balance sheet approach is highly structured and ensures fairness among expatriates, minimizing the financial impact of an international assignment.
2. Localized Approach
In contrast to the balance sheet approach, the localized approach uses compensation structures that align more closely with the host country’s market standards. Key features of this approach include:
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Home-Country Salary Adjustment: Employees are compensated based on the salary ranges and standards prevalent in the host country. This means that the expatriate salary may be reduced from what they would earn in their home country.
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Benefits and Allowances: Expatriates may receive allowances that are compliant with local market practices rather than maintaining home-country benefits and allowances. This can include modifying housing allowances, transportation, and benefits that align more closely with local norms.
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Tax Treatment: The localized approach often entails different tax arrangements, which could expose expatriates to the local taxation system, thus possibly increasing their tax liability compared to what they would face under a tax equalization regime.
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Cultural Integration: This approach facilitates a smoother integration into the local culture and workforce by aligning expatriates' compensation with local staff. It also helps foster relationships with the local workforce.
While the localized approach may reduce costs for the organization, it carries the risk of creating disparities between expatriates and local employees, especially in terms of total compensation and job satisfaction.
In summary, both the balance sheet and localized approaches have their advantages and challenges when designing compensation programs for expatriate employees. Organizations should carefully consider their overall strategy, financial implications, and the needs and welfare of expatriate employees when choosing the best approach.
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