- 20 Sep 2023 1:55 PM
- Budapest Business Journal
EY experts have explored how a no-deal situation could affect the cross-border income of individuals and companies, with particular focus on the situation of a less-discussed group: expats.
In terms of expat assignments in the narrow sense, expats arrive at the host company (local subsidiary) under an employment contract in the sending country and receive their salary from the sending company.
In other cases, the original employment contract is suspended: expats enter into an employment contract with, and receive their salary from the subsidiary. This means they gain the same status as local workers in the host country, regardless of their nationality.
Tax positions may differ in the cases described above, but the place where the tax liability arises, the administrative burden, as well as the expat’s personal interest in continuous insured status for health and pension benefit purposes are all important factors.
As the provisions of the treaty are applicable to tax assessment until December 31, 2023, income earned in 2024 will be the first to be excluded from the protection of the treaty.
What Should Expats Pay Attention to?
On the one hand, they need to determine their tax residency in order to be aware of the tax liability that will arise in each country after 2024.
The essence of tax residence is that the state considers an individual to be a resident based on various criteria (e.g., citizenship, permanent residence, habitual abode, and center of vital interests) and declares all income as taxable income irrespective of the place or source and use of the income.
Meanwhile, under domestic law, non-resident individuals also have limited tax liability on their domestic income (withholding principle).
In U.S.-Hungarian relations, the treaty has so far helped determine where residency should be established if one of the criteria is met in both states (primarily based on permanent residence).
However, without a treaty, from 2024 both states will consider a U.S. citizen whose habitual abode is in Hungary (i.e. spends more than 183 days in Hungary in the calendar year) to be resident, and thus taxable on all their income.
This is because, from next year, Hungarian tax residency will have to be determined solely on the basis of the Hungarian Personal Income Tax Act. Under this legislation, residency is determined on the basis of nationality as a general rule, but physical presence in the country that exceeds 183 days per calendar year also creates residency.
As regards taxation of employment income, according to the treaty, generally, the right to levy taxes is vested in the country where the work is carried out, so the termination of the treaty does not lead to changes in this respect.
At the same time, the treaty currently still addresses double taxation issues arising due to residence: under the exemption rule, the country of residence either allows the tax paid to be set off (U.S.) or excludes the income incurred at the place of work from the tax base (HU). Without a treaty, however, there will be no automatic exemption.
So the termination of the treaty affects individuals on three levels:
All their income may become taxable in both countries.
The country of source may levy tax liabilities in cases that have been exempted until now, i.e., double taxation can arise even without multiple residences.
The treaty exemption that resolves double taxation will be abolished.
"Therefore, all Hungarian or U.S. individuals who are resident for tax purposes in Hungary, carry out taxable activities, or receive income either from Hungary or the United States may be affected by the termination of the treaty," said Tibor Pálszabó, income tax advisory services partner at EY.
National law also addresses double taxation to some extent, although less favorably than the treaty: 90% of the tax declared and paid in the USA can be set off against the tax liability in Hungary.
The timing of tax payments also becomes more important. Tax obligations in Hungary may be affected by whether the tax is paid in the United States before or after filing the Hungarian tax return.
What Does This Mean Based on the Location of the Assignment?
When an employee from a Hungarian company is on assignment in the U.S., the U.S. will claim personal income taxes.
This will happen either on a residence basis, or if the assignee does not stay in the country long enough to acquire residency, then on the grounds that the work is carried out on U.S. territory. At the same time, the Hungarian state may also impose taxes on the employee under the citizenship principle, as a domestic resident.
Since automatic exemption will no longer be available for taxable income in the U.S., although no Hungarian tax advance is payable during the year (if the U.S. is considered the usual/habitual place of activity), income tax must still be paid by the tax return filing deadline in Hungary.
This is where the timing of U.S. tax payment comes into play. If the tax is not paid by the time the Hungarian tax return is filed, the tax must be declared in Hungary, and when the tax is paid in the United States, self-revision can be filed. It may be worth requesting payment deferral for the Hungarian taxes for the period in between.
The same is true in the reverse case: if a U.S. company’s employee is assigned to Hungary, Hungarian tax liability arises, while the U.S. also imposes a tax on the assignee’s income based on the citizenship principle.
Therefore, the individual has to declare and pay the Hungarian personal income tax, and the tax advance. This can subsequently be credited against taxes payable in the U.S.
"Before 2024, it is definitely worth reconsidering current Hungarian-U.S. assignments and setting up a payroll process and tax payment mechanism that take into account the tax offset in the other country in monthly payroll and year-end return processes," points out Veronika Oláh, people advisory services partner at EY.
The situation is different in terms of social security, as the U.S.-Hungarian Social Security Treaty promulgated in 2015 remains in force.
On this basis, in assignments of up to five years, employees remain subject to the social security rules of the sending country.
Moreover, based on a supplementary rule, employees assigned by a U.S. parent company to a subsidiary in Hungary may even be subject to these rules even if the subsidiary enters into an employment contract with the employee.
The termination of the tax treaty therefore does not affect social security and contribution payment obligations.
If the expats remain insured in the United States., it will still be necessary to conclude a contract with the health insurance authority or private insurance company during their stay in Hungary in order to access health care.
If an individual has both U.S. and Hungarian involvement either based on their tax residency or where they earn their income, for example, because they work or have investments in both countries, they should look into the rules that will apply to them from next year.
The same is true for long-term incentive programs if income is generated after 1 January 2024.