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Are your Expatriate Allowances Right? (part 3)

12 August, 2013

Note: This is part 3 of a series of posts on expatriate allowances. If your company’s expatriate assignments are under cost pressure or the company is trying to “localise”, read on…

In parts 1 and 2, I focused on Cost of Living Allowances, specifically on the importance of selecting the right methodology for your company, as it has the greatest impact on the overall size/cost of COLAs, in the long run. In this post, I will address other important questions each company has to make regarding COLA’s, as they relate to localisation and to other allowances and benefits.

Maintaining Cost of Living/Goods and Services Allowances

Cost of living allowances should change as prices of goods and services change in the home country, in the host country, or both; or as the currency exchange rate changes between home currency and host currency. The COLA should be updated at least annually. Many companies review the COLA data twice a year and if warranted, make a midyear adjustment.

Each company must decide:

  • how often to review Cost of Living data, even if they don’t change the COLA.
  • how often to revise COLAs. Annually? Twice a year? Any time the COLA changes by more than 5% or 10% up or down? Any time the currency changes by more than 5% or 10% up or down?

Combining Allowances

COLAs can be combined with other allowances, such as hardship allowances or mobility premiums. (Further discussion on Hardship Allowances and Mobility Premiums to follow.) Combined allowances may be called a “location allowance” or “assignment allowance”, etc.

Combining a COLA with other allowances does two things.

First it simplifies the package by reducing the number of allowances. Second, it can mask the specific changes underlying an overall number. For example, if the underlying COLA is going up, perhaps the hardship component is dropping, resulting in little or no change. This could avoid lengthy debate with your expats, whereas detailing each component will likely trigger debate on the parts that are going down (people never complain about what’s going up!) So a loss of transparency can be good for HR, although it may be perceived as secrecy and breed suspicion.In low-tax locations like Singapore, Hong Kong, Switzerland or the Middle East, housing may be combined with COLA or other allowances, as cash provides the greatest flexibility to the assignee. By combining COLAs with housing, the company can shift responsibility for leasing and housing inflation to the assignee, although this can obviously be burdensome to the assignee if they are not capable of managing these effectively themselves.

Each company should decide whether to combine COLAs with other allowances, considering taxation, simplicity, transparency and assignee preference (for flexibility with responsibility.)

Localisation

Localisation is the process of conforming (normally reducing) the package for a specific expatriate OR for an overall group or location to local market compensation norms. It is a strong trend due to cost pressures, combined with a larger supply of mobile talent (people willing and able to cross borders for work purposes.) Localisation of a single expatriate normally occurs after 3 years in location on “full” terms, allowances, etc.

The trigger for localisation is normally hitting the 3rd anniversary of the assignment.  The drivers are cost and local internal equity. The enablers of localisation, however are 1) the assignee wants to stay in the location, 2) there is a written localisation policy and 3) local talent is available to do the job if the assignee refuses to localise their package. Most multinationals have a localisation policy, but it is applied on a case-by-case basis. This is because the cost pressures vary case to case, as well as the enablers may or may not be present in each case.

When the triggers, drivers and enablers of localisation are weak or non-existent, localisation simply does not occur, or it occurs only as a result of case-by-case negotiation and discussion with those impacted, i.e. the expatriate and the business sponsoring the assignment. As a result, new expatriates observe that localisation is inconsistent, and that lack of a clear policy, lack of qualified local successors or other factors could help to extend their assignment, along with their allowances and lifestyle, etc.

One approach taken by a few companies is to provide a soft localisation. Let’s say there is a senior executive in the role of Regional Managing Director, whose package is very expensive. The business decides that the standard localisation policy of phasing out all allowances, company housing, etc. would be too risky, as a competitor could then easily lure him over to their company by offering even a lean expatriate package. In such a case, the company could waive localisation, but instead achieve some cost savings by reducing the allowances. The Goods and Services Allowance could be adjusted by using a more “efficient” or local index methodology. It would still be tied to actual price data and would be adjusted based on inflation and currency movements.

Switching Cost of Living Methodologies

As mentioned above, a key expatriate who cannot be fully localised can have his cost of living allowance reduced by changing to a methodology that assumes he can shop more efficiently. After all, after a few years in a location, an expatraite and his family members should be able to find, buy and consume things more locally, more efficiently. By this time, they should have tried local coffee, local beer, local vegetables, etc. Generally, local brands and outlets are less expensive than global brands and outlets.

Companies may change the Cost of Living methodology across the board, not just for an expatriate being localised. During the global financial crisis, one company did this, and achieved an annualised savings of more than US $100,000.

The potential savings of changing from a “local to expatriate” based pricing to a “local to local” approach are huge (refer to parts 1 and 2 of this series). For a single expatriate, this change could result in annual savings of up to $10,000. Across many expatriates, the savings could be in the hundreds of thousands of dollars.

Of course, expatriates are smart people (or they wouldn’t be selected, right?) and they will quickly figure out their allowances are getting smaller, if you change to a less generous methodology. So how can you manage this?

How to Implement a COLA Reduction (and survive)

  1. Cost modeling–using a spreadsheet, enter the current COLAs and ask your data provider for the numbers using the lower, cheaper method. Compare the two to see the size of the reduction, overall and individually.
  2. Spot any cases where the COLA would vanish, i.e. drop to zero, or to a negative number. As yourself if that’s what your company really wants to do. If so, be ready to communicate the rationale. If not, then consider limiting the immediate reduction to, say, 50% of the current amount. You can take the additional reduction a year later. This way you soften the impact, allowing the expatriate and family to adjust their buying habits over time.
  3. Work with your mobility consultant or data provider to identify ways to modify the new methodology for more or less impact, to meet the savings mandate for the company, yet retain your talent.
  4. Communicate the change consistently, clearly and compassionately. Recognize there are “hungry children” involved and don’t come across like Scrooge. Use words like “sustainable” to gently remind expatriates that reducing the cost of expatriates is better than reducing the use of expatriates.

Survival Tips

You will need to sell this change to the CEO and his direct reports. Why? Expatriates are in key positions for growing the company and carrying out it’s strategic business plans. They know they are “special”. Expatriates will receive a lot of feedback from their spouses too. So you can expect the level of concerns and complaints to mount up quickly, when you “touch” people’s income. They will complain to HR, not to get HR to act, but more as a rehearsal for when they complain to their bosses, all the way up the chain of command, to the CEO.

If you have never reduced a COL methodology to save money, try it. It’s fun. (*evil laugh*) Just line up the support from the CEO down to the last line manager who manages a single expatriate. Calibrate the reduction carefully. If you go too far, you might lose your job. If you don’t achieve enough savings, the pain will not be considered worthwhile, and you’ll wonder why you went through all the trouble. If you get it right, most expatriates will understand and you could be credited for achieving a big cost savings.

If nothing else you will develop good judgment. As a wise man once said:

“Good judgment comes from experience. Experience comes from bad judgment” (Ron Ghormley)

Good luck. COLAs are fascinating tools. Right up there with share options and flex benefits, in your total rewards tool kit.

If you need assistance with any aspect of your mobility or total rewards program, contact Freelance Total Rewards.

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