How is expatriate remuneration likely to be affected by currency fluctuations, and how can this be dealt with?
October 12, 2022
On 23rd September 2022, the UK government announced its mini budget unveiling tax cuts in an attempt to encourage growth during the cost-of-living crisis. By 26th September, the pound had fallen to its lowest ever exchange rate against the US dollar at £1 to $1.04. Aside from the immediate effects that this will have on the UK, with increased costs of imported goods such as food, fuel and gas, it is also interesting to consider how expatriate employees are likely to be affected.
Expatriate employees are those that have been relocated to another country for work, and they are typically paid in any one of three methods.
The first method is to pay their entire remuneration in the host currency. In this case, the spendable income (day-to-day expenses in the host country) portion of the expatriate’s remuneration is protected against changes to the exchange rate. However, the remaining portion is exposed to currency fluctuations that may result in loss or gains for the expatriate because the remaining, non-spendable income, is used for mortgage payments, education or holidays in the home country or elsewhere outside the host country. Therefore, there is more of a risk that the expatriate will make a loss or gain when they come to convert into the home currency.
The second approach is to pay the entire remuneration in the home currency. The non-spendable income portion of the salary is protected against fluctuations in the exchange rate, but the remaining (larger) portion is exposed to currency fluctuations that may result in loss or gains for the expatriate. This approach provides stability for as long as the home currency remains strong, as spendable income will have to be converted. For UK expatriates hosted in the US with this remuneration deal, the current fall in sterling relative to the US Dollar will result in a reduction in spending power.
Both of the above methods have their advantages and drawbacks. However, both risk exposure to currency fluctuations (with the prospect of either losses or windfall gains) for a potentially significant proportion of total remuneration, especially in current economic conditions. The ensuing uncertainty may not be attractive to either employers or their expatriate employees.
A third approach is the ‘split pay’ approach, which aims to provide a ‘no gain, no loss’ remuneration package.
In the split pay approach, the spendable income is paid in the host currency, applying a cost-of-living index, if required, in order to protect against high inflation and exchange rate fluctuations. The remaining part is paid in the home currency for use in the home country, which protects this part of the remuneration package against exchange rate fluctuations. For this reason, the split pay approach is the most stable way of paying expatriates and as a result should ensure that both the expatriate and the employer are satisfied.
MM&K is an independent firm specialising in providing tailored remuneration advice to clients whose businesses span the economy. If you would like to discuss any of the points raised in this article, please contact George Edwards.