The Tax Treatment of Relocation Expenses

Transferring staff?  There are tax implications for them … and for you!

If your business has branches in different locations, one of the best ways of offering key staff opportunities for career growth is to allow them to relocate.

Relocating an existing staff member who has come to know and understand your systems, procedures, and how you do business is often preferable to hiring a new person from outside, who perhaps does not have the benefit of such exposure.

While many staff members may wish to relocate for personal or lifestyle reasons, it is often the employer itself that requests an employee to relocate.

But relocating to another city or town is expensive, and no reasonable employer would expect their staff member to foot the bill when the employer requests the staff member to make the move. Most employers in this situation would therefore meet out-of-pocket expenses that their employee may incur as a result of the relocation.

Unfortunately, as soon as you pay anything to (or on behalf of) an employee, SARS is usually sniffing around for its share. However, there are certain costs that you can meet without triggering an unwanted employees’ tax liability for the person relocating.

Of course, as the employer, you also want to be able to deduct the costs of the relocation for income tax purposes. This article therefore includes the requirements that you need to fulfil in order for you to deduct these costs successfully.

SARS is always on the attack when it comes to any schemes that may seem to be a tax avoidance scheme rather than a legitimate payment for a legitimate business expense. One of the best ways that you can protect yourself is to have proper relocation policies and procedures in place.

Finally, no employer wants to take the risk that the employee, having been relocated at great expense to the company, decides to leave your employ three months after the move.

A sound and fair claw-back process that will enable you to recover a portion of the costs from your employee is therefore vital—but there are also tax implications when it comes to making such recoveries, which this article touches on.

Tax implications for your employees

All payments made to an employee that arise from their employment end up having some or other tax consequence.

One of the first questions that SARS asks is: “Would this person have received such a payment if they were not employed by you?” When it comes to relocation costs, the answer to this question, in 99% of cases, is “no”.

So, what are the tax implications for the employee if you cover their relocation costs?

Firstly, any payments made to an employee in terms of a service agreement would fall within the ‘gross income’ definition contained within Section 1 of the Income Tax Act. Sub-paragraph (c) of this definition specifically includes payments received in respect of services rendered, while sub-paragraph (i) also includes the monetary value of any benefit determined as a ‘fringe benefit’ in terms of the Seventh Schedule. The Fourth Schedule determines the extent to which any payments to employees are subject to employees’ tax.

However, Section 10 provides that certain receipts are exempt from normal tax. If such receipts have arisen from benefits granted under an employer-employee arrangement, they are exempted from the levying of employees’ tax as well.

The reimbursement of relocation costs, or the payment thereof by the employer on behalf of the employee, is specifically exempted in terms of Section 10(1)(nB).

Tax implications for you as the employer

In terms of the general deduction provisions contained in Section 11(a), any person deriving income from any trade may deduct from such income any expenditure or losses actually incurred in the production of the income, provided that such expenditure and losses are not of a capital nature.

Any current and arrear salaries paid to employees are clearly regarded as being ‘in the production of the income’, and would therefore qualify for deduction in terms of this Section. This would also include costs incurred by an employer to provide any fringe benefits, providing that such costs are not of a capital nature.

One of the tests that the courts have applied when determining whether an amount is of a capital nature is whether or not any ‘enduring benefit’ is created by incurring such expenditure.

The nature of relocation costs is such that any benefits in respect thereof tend to be ‘consumed’ immediately upon payment. For example, services such as transportation of the employee, members of their household, and their goods from one location to another are ‘consumed’ as they are used.

While it can be argued that the employer obtains a degree of ‘enduring benefit’ by providing an employee with career opportunities as a result of relocation, such benefit cannot be readily quantified, and no measurable ‘enduring benefit’ can be obtained from the payment of relocation expenses.

Relocation costs must therefore be regarded as being of a revenue nature and will therefore qualify for deduction by the employer under Section 11(a).

While SARS allows a degree of latitude when it comes to allowing relocation costs as a deduction, bear in mind that any payments to an employee that may be considered excessive would be disallowed as a deduction in the hands of the employer to the extent that they are considered not to be ‘for the purposes of trade’ (Section 23(g)).

Specific expenses as provided for in Section 10(1)(nB) would be regarded as reasonable (provided that they are at the going market rate on an arms-length basis). The practice of paying for incidentals up to one month’s salary as a ‘settling-in allowance’ in lieu of actual costs is also considered acceptable.

Dealing with resignation shortly after being relocated

It often happens that shortly after an employee has been relocated at great expense to their employer, they simply resign and take up employment elsewhere.

Employers are therefore at risk of having incurred a whole lot of unnecessary costs—particularly when it comes to overseas relocations, where these costs are substantial.

The answer is to provide, in your policy, a provision whereby should an employee who has been relocated leave your employ within a specified period of time, the cost of relocation (or a proportionate amount thereof) will be reimbursed to the employer.

There are of course situations whereby the fact of the employee leaving is due to circumstances beyond the employee’s control.

For example, no employee can plan when to die, become disabled, or be forced to retire due to ill health. It would probably also be unfair to expect an employee to pay back their relocation costs if they are subsequently retrenched. You may therefore wish to exclude these circumstances from the claw-back provisions.

The same would apply in the case of an employee who reaches normal retirement age—that said, transferring them six months before they turn 65 and then forcing them to retire would be considered extremely bad planning on your part!

In order to enforce the claw-back provisions, it is preferable that the employee signs an ‘Acknowledgement of Debt’ form before agreeing to be relocated.

Remember that if you do invoke the claw-back provisions of your relocation policy, any amounts recovered from the employee are regarded as recoupment under Section 8(4)(a) and must therefore be added back to your taxable income.

‘Audit-proofing’ your relocation costs

Section 82 states that if any taxpayer claims that an amount qualifies for deduction from taxable income, or is exempt from the levying of income tax, the burden of proof rests with the person making such claim.

Proving that an amount is exempt (in the case of a payment to an employee) or qualifies for deduction (in the case of the employer seeking to deduct such payment), is far more difficult if payments are made on an arbitrary, or ad-hoc basis.

A sound and comprehensive policy dealing with such payments is therefore vital should SARS decide to conduct an audit on either your payroll or your company income tax.

You may believe that since relocation of employees is something that happens very infrequently, drawing up a formal policy is a waste of time.  However, failing to draw up such a policy not only exposes you to SARS audits, but also to accusations of unfairness if a particular expense is covered for one employee and not for another.

Remember that employees talk, and disgruntled employees talk even more vigorously. SARS audit departments consider disgruntled employees to be amongst one of their top sources of tip-offs!

It also goes without saying that all supporting documentation should be retained for a period of five years after the end of the tax year in which the relocation took place. This is to substantiate your expenses in the event of a SARS audit.

WRITTEN BY STEVEN JONES

Steven Jones is a registered SARS tax practitioner, a practicing member of the South African Institute of Professional Accountants, and the editor of Personal Finance and Tax Breaks.

While every reasonable effort is taken to ensure the accuracy and soundness of the contents of this publication, neither the writers of the articles nor the publisher will bear any responsibility for the consequences of any actions based on information or recommendations contained herein. Our material is for informational purposes.