Company directors will often make it onto an organization’s payroll. As a result, payroll leaders must perform due diligence when it pertains to paying directors around the globe.
According to “The Wealth Reference Guide,” author Hendrith Vanlon Smith Jr. defined the significant role directors play in leading an organisation.
“A good board of directors team is one where ideas are flowing fluidly—and where each idea is met with an initial welcome, an intellectual challenge, an expression of gratitude, a rigorous scrutiny, and a readiness for action,” Smith wrote.
As Smith points out, directors are decision makers at the highest level in an organisation, and partly because of this, they often have special payroll rules applied to them. No other servant of a company would usually have the power to set their own level of remuneration or vote special payments to themselves. Directors often can, even if such awards must be first scrutinised by the board remuneration committee, thus explaining why many countries treat them as a special category of payroll record.
Know the Director Types
The first issue to address is identifying what sort of director you are dealing with. There will be executive directors, who will often hold the official title of company director and a contract of employment. Being appointed a director under company law could mean that the individual will be subject to special scrutiny and regulation. It may be necessary to differentiate between the duties that an executive director performs under a contract of employment and fees that they are paid because they hold the position of company director. Consider the following example:
- A senior U.S.-based vice president is appointed to a directorship at the company’s U.K. subsidiary company
- Their current annual salary is $1 million
- They come to the U.K. to attend board meetings of the U.K. company on 12 days of the year
- In the absence of any specific fee information, the U.K. authorities will expect $1 million/260 x 12 = $46,154 to be processed via the U.K. payroll
To avoid this, the contract could be amended to confirm that the $1 million salary wholly relates to U.S. duties, but the U.K. tax authorities expect a director to receive a fee commensurate with their director duties. One approach would be to consider the attendance fee paid by the U.K. public sector for similar duties. The current daily attendance fee in the House of Lords is £323. If, therefore, the contract was amended to read that the $1 million salary was paid for work on 248 days of the year, and an attendance fee of £323 was paid solely for U.K. director duties, only £3,876 would potentially be needed to be payrolled in the U.K.
As well as executive directors, a company board will also include non-executive directors (NEDs). Such individuals are usually appointed to the board to provide independent specialist knowledge, skills, and perspective to help broaden decision making. NEDs are often (but not always) classified as officeholders rather than employees. This will usually ensure that they are required to be subject to the payroll withholding rules of the country where the company is resident. One challenge often encountered is the practice of the NED issuing an invoice from their own company to the company they hold the directorship with and asking for this invoice to be paid gross without payroll deductions.
Such requests should generally be resisted. Since company directors are required to be named on official documentation and registers, it is they personally, and not their company, who performs the duties. Thus, paying such an invoice without applying payroll withholding would often be deemed tax evasion in many countries.
Directors can be appointed from anywhere around the world and will often prove to be nonresident for tax purposes in the country of residence of the company. Director’s fees are usually covered as a separate article in a double taxation agreement, and the usual position is to put the taxation rights for the fees in the country of residence of the company, rather than of the director. But just because a country can tax, does not necessarily mean it will tax. Consider the U.K., which only seeks to tax directors on fees physically earned in the U.K.
So, a NED receiving an annual fee equivalent to $50,000, who agrees to do 50 days of work a year, and who splits that work as 25 days attending board meetings in the U.K. and 25 days working from home outside of the U.K., will only have U.K. taxation applied—via payroll withholding—on half of their fees. Being able to identify where exactly the director has discharged their duties will be key to getting the payroll entries correct.
Other Areas to Payroll
Many countries are so suspicious of a director’s ability to set their own remuneration that they mandate minimum amounts that must be payrolled regardless of how much money has been paid to the director. The Netherlands sets a rule that directors must have a salary known as a Fictief Loon (or fictitious wage) of at least 75% of the nearest comparable employee in the company. If the director also owns at least 5% of the company’s shares, this salary must be a minimum of €48,000. Unlike an ordinary employee, there is no requirement to then pay the 8% holiday allowance, and the payroll record accounting for tax and social insurance on the fictitious salary may be processed on an annual basis rather than each month.
It is not just the director’s fee that might need to be payrolled. It is common for companies to cover the directors’ travelling expenses to attend board meetings. And if international travel is involved, this may also include nights of hotel accommodation and attendant subsistence claims. It may be possible to provide some of this tax-free, but local rules should be researched. The Republic of Ireland treats directors’ travel expenses, paid in respect of a nonresident director travelling to Ireland to attend a board meeting, as being tax free. But if the director was a resident in Ireland and was reimbursed the mileage from Cork to Dublin to attend a meeting, this would be considered as potentially taxable.
Director’s remuneration may require the application of a special tax withholding regime different from that applying to ordinary employees. Luxembourg deploys a flat rate of 20% tax to directors’ fees, which are defined as “allowances to remunerate the activity of administrators, statutory auditors, and persons exercising similar functions.”
This tax, together with a special payroll withholding declaration, must be remitted to the fiscal authorities within eight days of the fee being paid to the director. Singapore applies a flat rate withholding of 22%—whereas there is no standard withholding scheme for employees within the country.
Social insurance liability may also need to be considered. There may be a different regime altogether applied to a director’s fees. Contributions paid under director’s regimes often do not cover the full range of social security benefits. For example, there may be no entitlement to unemployment benefits (for the same reasons of control previously discussed—a director could engineer their dismissal simply to claim benefits). Or it may be that the calculation works differently for directors.
In the U.K., National Insurance for employees is calculated on earnings per pay period. But for directors, the National Insurance liability is calculated on earnings for the fiscal year to date. This is done to stop directors from drawing a very small payment in 11 months of the year with one super payment far exceeding the monthly upper earnings limit on full contributions in the remaining month.
Finally, there may be special provisions that allow a director to avoid a social insurance liability in a country they are not resident in. The U.K. allows nonresident directors to come to the U.K. for up to 10 board meetings a year—none of which may last for more than two days—or one two-week meeting a year, and not be subject to contributions. Nonresident NEDs will not usually be covered by a bilateral social security agreement because they will not be on secondment (temporary assignment) to the country where they hold directorship. But it is still worth looking through any agreement between the home country and company residence country.
The U.K. treats NEDs as being officeholders, but the United States treats directors as self-employed individuals. The bilateral agreement states: “Where a person is employed under the laws on coverage of one party and self-employed under the laws on coverage of the other party for the same activity, he shall be subject only to the laws on coverage of the party in whose territory he ordinarily resides.”
A U.S.-based NED performing duties for a U.K. company can therefore obtain a certificate of coverage from the U.S. authorities and thus avoid U.K. National Insurance.
There is a lot to consider if directors are a feature on your overseas payrolls.