Spending patterns amongst expatriates on international assignments can vary a great deal. How do spending patterns impact expatriate salary calculations?
What expatriates spend their salaries on in their host country, is a result of a number of factors including generational preferences, statutory requirements, employer practices and personal financial obligations.
Various studies show that different generations have different needs. Baby Boomers (born 1946 to 1964), who constitute the largest number of U.S. consumers, are good team players, love social interaction at work, will work long hours and are willing to put in substantial time at work to climb the organization hierarchy. Boomers prefer handwritten notes and phone calls. As they near retirement age, Boomers tend to pull back on spending to boost their retirement savings. Generation Xers (born 1965 to 1979) are more skeptical and think boomers are crazy to work so hard. While they are also determined to do a good job they also want to go home at night and have a life. Xers prefer email. According to Gallup, 71% of Xers have children under 18 (compared to Boomers with less than 25%). Xers spend more on average than Boomers. The youngest generation, the Millenials (1980+), have little patience or loyalty to the organization. When Millenials are not happy, they tend not to work through the issues, they just leave. Millenials prefer text or instant messaging. According to Gallup, Millenials spend roughly the same amount as Boomers, despite the fact that their salaries are, on average, lower than that of the Boomers.
Home and host countries differ in terms of statutory tax, social security, and national health obligations. Some home countries require expatriates to pay tax where ever they reside, while other countries have tax systems that are residency based. Other countries, such as most of the Middle East, have no personal taxation, however despite this, some home countries still oblige their citizens to pay tax.
Pay practices differ between employers in various parts of the world, and sometimes due to local market practices, practices differ for the same employer in different countries. Accommodation, medical, education, transport, and other benefit costs may be paid for, provided by, or subsidized by the company or alternatively left for the expatriate to pay from their salary.
Personal spending obligations back home (e.g. savings, mortgage, private/personal retirement/investment funding, private healthcare etc) together with home statutory obligations, impact not only the amount of host spending expatriates have at their disposal, but also what they need to spend it on.
Spending patterns impact expatriate salary calculations due to cost of living differences, availability of goods and services, as well as the degree to which the expatriate (and family) adapt to local culture and lifestyle.
Cost of living differences are most often reported in the form of cost of living indexes. A cost of living index is an overall number which takes into account the prices for a number of different goods and services. Anyone who has travelled to another country would notice that price differences between countries are not the same for all goods and services. In Hong Kong restaurants, meals out and hotels are relatively cheap, but household accommodation is relatively expensive. An expatriate provided with accommodation in Hong Kong will experience a lower cost of living compared to an expatriate who must rent their own accommodation. The cost of living difference is therefore dependent on the expatriate’s spending pattern.
For ease of use, cost of living indexes are typically grouped into similar/related goods and services, called baskets. The baskets are typically weighted according to expatriate spending norms. Each basket has a different weighting representing the portion of an expatriates income spent on each basket. The following basket weights are used for the full set of baskets:
• Alcohol & Tobacco 2.0%
• Clothing 2.5%
• Communication 2.0%
• Education 5.0%
• Furniture & Appliances 5.0%
• Groceries 16.5%
• Healthcare 5.0%
• Household 30.0%
• Miscellaneous 3.0%
• Personal Care 3.0%
• Recreation & Culture 6.0%
• Restaurants Meals Out and Hotels 2.0%
• Transport 18.0%
As an example, let us calculate an expatriate salary for an individual being transferred by ABC International from the Dubai office, where they earn a salary of $5000, to the Hong Kong office. In our example it is assumed that a global Compensation and Benefit structure is in place (i.e. the practice in Dubai and Hong Kong are the same). Our objective is to calculate what salary to pay in Hong Kong to have the same purchasing/spending power as $5000 in Dubai:
Scenario 1: Only a cash salary is provided (i.e. no benefits).
The overall cost of living difference including all baskets is 45.09%.
$5,000 X 1.4509 = $7,254.50
Scenario 2: A cash salary is provided as well as company paid accommodation.
The overall cost of living difference excluding housing is 6.76%.
$5000 X 1.0676 = $5,338.00
Scenario 3: A cash salary is provided as well as company paid healthcare and education.
The overall cost of living difference excluding medical and education is 45.73%.
$5000 X 1.4573 = $7286.50
In each scenario the cost of living difference, taking into account the three spending patterns, resulted in different expatriate salary calculations.
By choosing baskets impacted by expatriate spending, a more accurate cost of living difference can be determined. The result is a more accurate expatriate salary calculation.
There are several ways that cost of living difference can be applied in an expatriate salary calculation. Firstly home gross salary can be increased or decreased by the cost of living difference, not taking tax differences into account. Secondly home net salary can be increased or decreased, in order to negate tax differences. Thirdly a cost of living allowance can be calculated by deducting the home salary (net or gross) from the host salary that has been adjusted for cost of living differences.
Home gross salary (i.e. before home tax and statutory deductions) and the cost of living difference between the home and host country can be used to calculate the host gross salary. Tax and any other mandatory statutory deductions are deducted from the resulting host gross salary to calculate host net salary in a top down approach. Although the gross salary in the host country is equal, in terms of spending power, to the gross salary in the home country, the expatriate will experience increased spending power in low tax countries and decreased spending power in high tax countries.
Home net salary (i.e. after home tax and statutory deductions) and the cost of living difference between the home and host country can be used to calculate the host net salary. The resulting host net salary is then grossed up, in a build-up approach, by the amount of tax and any other mandatory statutory deductions, so that the net salary in the host country is equal in terms of spending power, to the net salary in the home country.
Lastly organizations can use either the above top down (gross) or build-up (net) approach by deducting the home salary from the host salary and paying the differences as a cost of living allowance so that the salary plus the host country cost of living allowance is equal, in terms of spending power in the host country, to the spending power of the home salary in the home country.
Steven is Chief Instigator at http://www.xpatulator.com a website that provides cost of living index information and calculates what you need to earn to compensate for cost of living, hardship, and exchange rate differences.
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