Unit-5 MHR-106 Compensation System

Cross Cultural &

Global ManagementMHR- 106

Compensation in Global Perspective

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Introduction

A multinational corporation (MNC) is usually defined as a company with operations in more than one country (Porter, 1990).

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The impact of the growth of international economy has become a major force in business in general and in human resource management in particular. These practices are important realities faced by MNCs doing business overseas. MNCs must coordinate policies and procedures that effectively balance the needs and desires of host country nationals (HCNs), parent country nationals (PCNs) and third country nationals (TCNs).

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Compensation is one of the most complex areas of international human resource management. Pay systems must conform to local laws and customs for employee compensation while also fitting into global MNC policies. It is also important for MNCs to consider carefully the motivational use of incentives and rewards among the employees drawn from three national or country categories.

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A successful compensation strategy involves keeping expatriates motivated while meeting MNC goals and budgets. MNCs’ HR managers must build an expatriate pay package by:

(1)meeting corporate goals at home and abroad,

(2) keeping expatriates motivated, and

(3) complying with company budgets

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These international compensation policies can produce intense internal conflicts within an MNC at any stage of globalization. Compensation includes wages and salaries, incentives such as bonuses, and benefits such as retirement contributions. There are wide variations both between countries and among organizations within countries concerning how to compensate workers. The principal problem is salary levels for the same job and the jobs are different between countries in which an MNC operates

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Compensation System Components

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Pay

Benefits

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Complexity of International Compensation Policies

• management of more activities from a broader perspective• greater involvement in the lives of employees and families• Balance the needs of PCNs, HCNs and TCNs• control exposure to financial and political risks• increased awareness of and responsiveness to host country

and regional influences

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Global Compensation

• seen as a mechanism to develop and reinforce a global corporate culture

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Global Compensation

Increased complexities• growing use of outsourced activities and subsequent

labour pricing needs

• balancing centralization and decentralization of incentives, benefits and pensions

• balancing the need for more accurate and detailed performance metrics

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Two Primary Areas of Focus

• manage highly complex local details

• building a unified, strategic pattern of compensation policies, practices, and values

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Total Compensation Management

Requires knowledge of

• employment and taxation law

• customs, environment, and employment practices

• currency fluctuations and the effect of inflation

• special allowances

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Global Compensation Programs

Facilitate and manage

• global expansion efforts

• labour costs

• internal equity

• effective governance

Internal Equity

The internal equity method undertakes the job position in the organizational hierarchy. The process aims at balancing the compensation provided to a job profile in comparison to the compensation provided to its senior and junior level in the hierarchy. The fairness is ensured using job ranking, job classification, level of management, level of status and factor comparison. 

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External Equity

Here the market pricing analysis is done. Organizations formulate their compensation strategies by assessing the competitors’ or industry standards. Organizations set the compensation packages of their employees aligned with the prevailing compensation packages in the market. This entails for fair treatment to the employees. At times organizations offer higher compensation packages to attract and retain the best talent in their organizations. 

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Global Compensation Programs

Key areas

• pay in relation to the market

• short and long-term incentive policies

• consistent processes of job grading and leveling

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Objectives of International Compensation

Organizational • consistent with the overall strategy, structure, and business

needs • attract and retain staff; competitive, incentives for foreign

service, tax equalization• facilitate the cost-effective transfer of international

employees• equitable and easy to administer

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Objectives of International Compensation

Individual

• financial protection in terms of benefits, social security and living costs

• opportunities for financial advancement through income

and/or savings

• housing, education of children and recreation issues

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International Compensation Program Components

• base salary

• foreign service inducement/hardship premium

• allowances

• benefits

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Base Salary

• primary component of a package of allowances, many of which are directly related to base salary, as well as the basis for in‑service benefits and pension contributions

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Foreign Service Inducement/ Hardship Premium

Salary premium ( 5-40% of base pay)

• to accept a foreign assignment

• compensation for hardship caused by the transfer

• vary depending on type and length of assignment, hardship, tax consequences, differentials

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Foreign Service Inducement/ Hardship Premium

Must address

• the definition of hardship

• eligibility for the premium

• amount and timing of payment

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Allowances

• encourage employees to take international assignments

• to keep employees ‘whole’ relative to home standards

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Cost‑Of‑Living Allowance (COLA)

• payment to compensate for differences in expenditures between the home country and the foreign country (inflation differentials)

• may include payments for housing and utilities, personal income tax, or discretionary items

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Housing Allowances

• maintain home‑country living standards • often paid on either an assessed or an actual basis

• financial assistance and/or protection in connection with the sale or leasing of an expatriate's former residence

• other alternatives include company‑provided housing, a fixed housing allowance; or an assessment of a portion of income

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Home Leave Allowances

• expense of trips back to the home country each year

• purpose is to give expatriates the opportunity to renew family and business ties

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Education Allowances

• tuition• language class tuition• enrolment fees• books and supplies• transportation• room and board• uniforms• local/boarding school or university

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Relocation Allowances

Contingent upon tax‑equalization policies and practices in both the home and the host countries, include:

• moving, shipping, and storage charges• temporary living expenses• subsidies regarding appliance or car purchases• down payments or lease‑related charges.

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Spouse Assistance

• offset income lost by an expatriate's spouse as a result of relocating abroad

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Tax‑Equalized Housing Allowance

• to discourage the purchase of housing and/or to compensate for higher housing costs

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Benefits

• national practices vary considerably

• transportability of pension plans, medical coverage, and social security benefits are very difficult to normalize

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Whether• to maintain expatriates in home-country programs,

particularly if the firm does not receive a tax deduction for it

• firms have the option of enrolling expatriates in host-country benefit programs and/or making up any difference in coverage

• expatriates should receive home-country or host-country social security benefits

Issues When Considering Benefits

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Approaches to International Compensation

Two main options

Going Rate Approach (Market Rate Approach)• linked to host country salary structure

Balance Sheet Approach (Build-up Approach)• linked the home-country the salary structure

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Going Rate Approach

Based on local market rates

Relies on survey comparisons among:• local nationals (HCNs)• expatriates of same nationality• expatriates of all nationalities

Compensation based on the selected survey comparison

Base pay and benefits may be supplemented by additional payments for low-pay countries

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Advantages

• equality with local nationals

• simplicity• identification with host

country• equity amongst different

nationalities

Disadvantages

• variation between assignments for same employee• variation between expatriates of same nationality in different

countries• potential re-entry problems

Advantages and Disadvantages of the Going Rate Approach

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The Balance Sheet Approach

• Basic objective is maintenance of home-country living standard plus financial inducement

• Home-country pay and benefits are the foundations of this approach

• Adjustments to home package to balance additional expenditure in host country

• Financial incentives (expatriate/hardship premium) added to make the package attractive

• Most common system in usage by multinational firms

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Key Categories of Expatriate Outlays

1. Goods and services-home-country outlays for items such as food, personal care, clothing, household furnishings, recreation, transportation and medical care

2. Housing-the major costs associated with housing in the host country

3. Income taxes-parent-country and host-country income taxes

4. Reserve-contributions to savings, payments for benefits, pension contributions, investments, education expenses, social security taxes, etc.

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Expatriate Compensation Worksheet

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Advantages and Disadvantages of the Balance Sheet Approach

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Tax Equalization

• MNEs withhold an amount equal to the home‑country tax obligation of the PCN, and pay all taxes in the host country.

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Tax Protection

• employee pays up to the amount of taxes he or she would pay on compensation in the home country

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Maximum Marginal Federal Tax Rates

Country

ArgentinaAustraliaBelgiumBrazilCanadaChina (Hong Kong)

ChinaFranceGermanyIndiaItalyJapanMalaysia

Maximum marginal rate (%)

35.0047.0050.0027.5029.0020.00

45.0048.0942.0033.6643.0037.0028.00

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1. Keep expatriates in home-country programs, particularly if the company does not receive a tax deductions for it?

2. Enroll expatriates in host-country benefit programs and/or making up coverage differences?

3. Does host-country legislation regarding termination affects benefit entitlement?

4. Do expatriates receive home-country or host-country social security benefits?

5. Should benefits be maintained on a home-country or host-country basis? Who is responsible for the cost? Should other benefits offset any shortfall in coverage? Should home-country benefit programs be exported to local nationals in foreign countries?

Expatriate Benefits

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Social Security Contributions By Employers and Employees

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Differentiating Between PCNs and TCNs

• TCNs have a great deal of international experience; often move from country to country in the employ of one MNE

• MNEs use a home-country balance sheet approach for TCNs

• can be less expensive than paying all expatriates on a PCN scale; could lead to perceived inequities

• the reduction in expenses outweighs the difficulty of justifying any pay differentials

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Differentiating Between PCNs and TCNs

• TCN employees are valuable; firms may need to rethink their approach; establishing a system of international base pay for key managers

• multinational firms need to match their compensation policies with their staffing policies and general IHRM philosophy

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Complexity, Challenges and Choices in Global Pay

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Case: Going to India

1. If Geoff’s whole family is coming with him to India, should Geoff maintain or sever his residency in Canada? Discuss the advantages and disadvantages of both options – put yourself in Geoff’s shoes. In your decision consider also taxation implications.

2. If you were Geoff, would you prefer a going rate approach or a balance sheet approach to negotiate your base salary? What kind of approach to determine the base salary will Andrew opt for? Why?

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Case: Going to India

3. Create an expatriate compensation worksheet that outlines a package proposal with details of all components, currencies, etc. In your package you need to consider Geoff’s personal circumstances and the fact that the whole family will come after having sold their house in Canada.

THANK YOU

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