Human capital is the most valuable kind there is nowadays, as businesses seek to compete with one another in a highly competitive landscape that's increasingly defined by technology and digital transformation. Keeping up means having a workforce that is trained and ready to jump on new ideas as they come in, and ideally, before anyone else does. Even in the midst of a labor shortage, companies are realizing that it's not just about having enough people – it's about having the right kind of people, with the right skills and expertise.

Global hiring has the potential to be an effective solution for businesses looking to fill this skills gap. By tapping into a larger talent pool, employers can find the people with the qualifications and experience they need to stay competitive, sometimes at a fraction of the cost. The rise of remote work has also opened up new possibilities, allowing businesses to hire talent from around the world without having to worry about the hassle of relocating them.

But with the alluring benefits of hiring international talent comes a challenge: navigating legal considerations. Most jurisdictions set out specific rules for any international company that wishes to conduct business as a legal employer within their borders. Because every country has its own laws for each local company, regulations vary depending on the choice of location.

With this in mind, we've compiled the following article outlining two common courses of action to consider when hiring internationally. Keep reading to learn what employers of record and foreign entity status mean for international businesses, and the benefits and drawbacks associated with each.

What Is An Employer Of Record (EOR)?

An employer of record (EOR) is a company that handles the technicalities of international hiring on behalf of foreign businesses. They assume responsibility for the people-related aspects of global talent acquisition and payment, such as payroll, taxes, deductions, and benefits. While working with an EOR is not necessary to hire abroad, it's a widely engaged best practice among companies of all sizes.

The Role EORs Play In Global Hiring

The best way to describe an EOR is as an intermediary for employers and employees from different countries. As a separate third party, these organizations provide the services of convenience and expertise to facilitate international hiring. This includes registering with the relevant local authorities, creating an employment contract in accordance with the jurisdiction's laws, and managing payroll and deductions on behalf of both parties.

EOR companies effectively play the role of a specialist, applying their own in-house knowledge for the benefit of everyday businesses that might not otherwise be able to navigate the intricacies of global hiring alone. The outsourced support they offer empowers companies to tap into the international talent market with less risk and more efficiency.

Employers of record can be based anywhere in the world and likewise facilitate hiring in any number of different countries. There aren't any universal requirements for what a provider should have or know before offering services, however, the majority of established EORs today are well-versed in the relevant laws and regulations that apply to their particular industry. They employ in-house experts with formal education and experience in fields such as international taxation, labor law, and employment contracts.

A Look At the Services An EOR Typically Provides

Some employers of record choose to focus on helping businesses within a specific industry, such as software engineering or health care, while others may offer their support to a wide range of fields. In any case, the services they provide are often far-reaching and comprehensive.

Common EOR responsibilities include:

Payroll Management

EORs manage the payroll for their clients. This includes setting up payment schedules, keeping records of wages and hours worked, calculating taxes paid and withheld from employee paychecks, preparing forms to report income taxes paid to government agencies, as well as filing unemployment insurance tax returns.

Benefits Administration

EORs also help manage the employment relationship by handling employee benefits, such as health and life insurance plans, retirement savings accounts, vacation days and paid time off. They are responsible for enrolling eligible employees in plans, tracking and verifying benefit eligibility, preparing and submitting required federal, state, or local forms related to benefits, as well as distributing payments for employee benefits.

Compliance

EORs do the job of staying abreast of changing labor laws so the businesses they work with don't have to. Advocates argue that choosing to work with an employer of record can insulate organizations from potential lawsuits or other legal issues that might arise from non-compliance. They're also capable of identifying potential liabilities and instances of malpractice so they can be addressed early on.

Human Resources Management

EORs help companies hire and onboard new employees from all four corners of the world. In many cases, they act as a completely outsourced Human Resources department that creates, monitors, and revises employee handbooks, policies, job descriptions, and performance reviews. They may also conduct background checks on potential candidates to ensure they meet company requirements.

Employee Termination

EORs can assist with the employee termination process by advising businesses on how their staff members' jurisdictional labor laws influence things like advance notice, severance packages, and unemployment compensation.

What Is a Foreign Entity?

A foreign entity, sometimes referred to as a foreign subsidiary, international entity or local entity, is a business registered outside of the country in which it mainly operates. Think of big, multinational corporations as an example — they typically have offices or stores in major cities around the world, but all report to a main headquarters somewhere. That base location is typically where the company was originally founded and registered. Every other establishment is peripheral to the organization, acting as an extension of its business presence for foreign markets.

Foreign entities must be formally licensed by the government of the region in which they operate. Every country and jurisdiction has its own process, although virtually all of them start with a request to register as a separate legal entity. Foreign entities may be established on a federal or local level depending on the industry and type of organization at hand, as well as the specific laws and regulations of the host country.

For example, an American company expanding its operations into Germany may choose to create a separate German entity with its own bank accounts and tax structure.

The thresholds that qualify a business to register as a foreign entity can differ from place to place - some consider those that have operated regularly in the country for a consecutive period of time, while others require significant capital investments. It's often a combination of factors, which once fulfilled, obligate companies to apply for official status and begin following the many rules that come with it.

The Complexities of Foreign Entity Tax

Non-resident tax treatment is often much stricter than that for domestic corporations. In some cases, foreign entities are subject to much higher tax rates, or even withholding taxes on certain types of income.

In terms of employer tax, local tax authorities typically impose standard federal corporate income taxes on companies that do business within their country's national borders.

In the US for instance, states levy corporate income taxes ranging from 0% to 12%, while the federal government imposes a branch profits tax of 30% on dividend equivalent amount for businesses not considered domestic, in addition to federal corporate tax rates. For a foreign corporation to be subject to US federal taxes, it must have sourced Fixed, Determinable, Annual, or Periodical (FDAP) income from the country, and must meet the definition of a corporation under US tax law.

There are unique policies in every region of the country as well. For example, New York State requires foreign corporations subject to its taxes to file and pay their local dues even if they are yet to be authorized by the Department of State (DOS).

But it's worth noting that foreign entities can be subject to different rates depending on the terms of their registration and agreements with the host country at hand. Tax treaties exist for the very purpose of making international business between organizations in allied countries easier. In a bid to promote economic trade, federal lawmakers give these companies exemptions from certain taxes.

For instance, the United States and Canada's income tax agreement partially exempts corporations from branch profits tax on the first $500,000 of their earnings. This arrangement allows businesses to make investments in both countries without having to pay large fees that could otherwise cut into their bottom line.

Labor and Employment Law-Related Considerations for Foreign Entities

The buck doesn't stop at taxes for corporations operating abroad. As an established foreign entity, they're also expected to follow their host country's federal and local employment laws. From family leave to standard working hours, there's a lot of ground to cover. It doesn't help that standards can vary drastically from country to country; maternity leave in the United Kingdom is different from maternity leave in the United States. Whether they do business in one foreign country or several, companies must treat employees in each region differently based on the corresponding labor laws.

Employers must also take steps to ensure they're paying employees fairly, that wages comply with local laws, and that overtime pay (if applicable) is properly distributed. In many countries, employers are legally obligated to provide certain benefits, such as health insurance and pension plans. Organizations that don't comply with local labor laws in their foreign locations may face costly fines or even legal action from employees.

EOR vs Foreign Entity

So, what's the difference between an employer of record and a foreign entity? An EOR is a third-party solution to global hiring — one that acts as an intermediary between two parties for a fee paid by the employer. They take care of the nuances of varying international labor laws to simplify international payroll processing, taxes, and employee benefits.

Foreign entities are similar in that they do the same things — addressing hiring, payroll, taxes, and employee benefits in another country. The main difference is that the foreign entity is an actual branch of the company, instead of a third party. It requires more resources and time to set up but can give organizations more control over their operations abroad.

Working with an employer of record and applying for foreign entity status are both viable options in many cases. But they aren't equally beneficial. Every business has its own set of circumstances that define which solution is most effective for them. It's important to consider factors such as the level of control you require, the complexity of local labor laws, and overall cost.

Here's a breakdown of the pros and cons of each route:

Advantages and Disadvantages of Establishing a Foreign Entity

Businesses that choose to establish themselves as a foreign entity typically do so because they're looking for the most control possible over their operations and employees abroad.

Advantages

Control: A business that sets up as a foreign entity will have full control over hiring, salaries and other employment-related matters.

Employee Confidence: Having an established local presence gives your employees the assurance that you are committed to them and the country they are located in.

Tax Benefits: Depending on the country, a business may be able to access tax benefits or credits for establishing itself as a foreign entity.

Disadvantages

Costs: Setting up as a foreign entity can be extremely costly. Not only will there be costs associated with registering the company, but also for obtaining business licenses and setting up payroll.

Complexity: Establishing a foreign entity requires navigating complex local regulations and laws that differ from those in the business's home country. This can be a time-consuming and daunting process for businesses that don't have experience in doing so, especially if they are unfamiliar with the local language or culture.

Legal Liabilities: Depending on the country, a business may be subject to local laws that have not been anticipated by the home country's legal system. This could leave the business open to legal liabilities it wasn't expecting or prepared for.

Advantages and Disadvantages of Working With an EOR

Employers of record specialize in facilitating global business expansion. Although it comes with an ongoing cost, their outsourced support is a foolproof way to venture into new territory with less confusion and risk.

Advantages

Easier Exit Process: Sometimes, things don't work out. In such cases, companies simply need to give notice to the EOR and usually, they're good to go.

No Local Entities: An employer of record takes that burden off the business since it doesn't have to register a local legal entity for operations.

Access To Talent: Even in countries where there are restrictions on how foreign companies hire, an EOR gives access to a larger pool of talent that the business wouldn't otherwise be able to tap into.

Disadvantages

Time: It takes time to find a reliable EOR, negotiate terms with them, and manage employee onboarding and offboarding.

Possibility of Higher Costs: While establishing a foreign entity comes at a high upfront cost, it can sometimes work out to be cheaper than working with an employer of record for multiple years.

Limited Oversight: Many employers of record are great about keeping businesses in the loop and involved with their hiring endeavors abroad. However, there is still a certain degree of limited oversight as the EOR is a third-party organization.

How to Decide Whether an EOR or Local Legal Entity Is Right for Your Business

When considering whether an employer of record or a local legal entity is right for your business, there are several factors to consider. 

These include:

Longevity

How long do you plan to be operating in the country? If it's a short-term project or contract, then an EOR may prove to be the most cost-effective option. If you plan on operating in the country for multiple years, setting up a local legal entity might be a better choice.

Expertise

Do you have the necessary expertise in-house to set up a foreign entity? If not, it may be better to work with an EOR who has experience in setting up a foreign presence and navigating labor laws.

Cost

Consider the ongoing costs of both an EOR and a foreign entity. Depending on your specific needs, one may be more cost-effective than the other.

Oversight

How much oversight do you need to have over the hiring process? Working with an EOR can provide you with a certain degree of control over the hiring process while using a local legal entity will allow you to have more direct oversight.

Flexibility

An employer of record can often provide more flexibility when it comes to hiring, and can usually get you up and running in another country within a matter of days. Establishing a foreign entity will require more planning and commitment.

Legal Protection

Consider the legal implications of each option before making your decision. Some countries have very stringent laws regarding employment, which can be difficult for a foreign entity to navigate. This may not be a problem if you have experts in-house or are willing to recruit them.

Why Borderless?

Although the EOR vs foreign entity dilemma can be a tricky choice, it's important to take a step back and look at the bigger picture. This tough decision is a sign that your business has reached a new stratosphere of potential opportunities. 

No matter which path you choose, the benefits of global expansion are evident: increased talent pool, access to new markets, and even improved competitive positioning. The only question is how you want to get there — the choice is yours!

As an employer of record, Borderless specializes in supporting companies with their global expansion needs. Our team of experts can help you determine which course of action is best for your business, so don't hesitate to reach out today!

Disclaimer: Borderless does not provide legal services or legal advice to anyone. This includes customers, contractors, employees, partners, and the general public. We are not lawyers or paralegals. Please read our full disclaimer here.