Developing a financial analysis of an employee’s move helps both the employer and employee determine whether a relocation is really worth it.
You call a key employee into your office on a Friday afternoon and ask him to transfer to the company’s New Jersey office. The new job, you say, includes a $10,000 increase in salary and loads of potential ‘in the future.’ You give the employee the weekend to think about it.
No doubt, a million questions start popping into the employee’s head. He’s heard New Jersey is an expensive place to live. Is $10,000 enough? What do houses cost? How high are the property taxes? Income taxes? What about his partner’s career? Will the kids like it there? Will he like the new job? What happens if he decides to refuse the job transfer?
In the meantime, you are left wondering about the compensation package you’ve offered. Is it too much? Too little? Is it enough to convince the employee to move? How will you persuade him to accept the assignment if he decides to say no?
Developing a comprehensive financial analysis of a move makes sense for employees and employers alike. It enables employees to fully evaluate a relocation offer before saying yes, eliminating financial uncertainties and stress.
Employers can use the analysis as a tool to plan appropriate compensation, or to demonstrate the validity of the relocation package. The analysis can also be used to persuade reluctant employees to move.
- If the employee is moving from a high cost area to a location where living costs are lower, an analysis will likely show a positive cash flow, which will encourage the employee to relocate. Lower salaries can also be justified, and demonstrated to the employee, saving the company money.
- Employers in higher cost of living areas can use the analysis to convince employees moving in from lower cost areas that the after-tax cash flow isn’t as bad as they thought. Often, reluctant employees must relocate to high cost areas to advance their career. But they want just compensation, calculated in gross salary dollars. A confidential analysis will show an employer how much the employee should be paid to compensate for cost of living differences.
- Employers can also use the analysis to make sure employees are comparing ‘apples to apples’ in their relocation decision. Many employees attempt to upgrade their standard of living at the employer’s expense, usually through unfair housing and community comparisons.
Covering all the bases
Since relocation can cause major financial changes for the transferee’s spouse, companion, children, and dependent parents, the analysis should include the employee and family. Each financial change should consider the federal, state and local tax impact, where appropriate, at the individual’s projected marginal tax rates. Following are some of the changes to consider in your analysis.
The change in family salary, wages, business income, or retirement income represents the after-tax cash flow of salary, self-employment income, or retirement income for the entire family, due solely to the relocation. It should not include changes that would have occurred if the family hadn’t relocated, since this would obscure the real cost and would be unfair to the employer. It should be net of federal, state and local (city) income taxes, as well as social security taxes.
Relocation can also bring about changes in retirement income, because states tax such income differently. Double taxation can occur if the state doesn’t allow a credit for taxes paid to other states. Of course, if the new state doesn’t have an income tax, or has a lower income tax, the transferee or family will incur additional taxes.
The dual-career syndrome, a problem experienced by many families these days, occurs when a transferee’s spouse or partner has difficulty finding employment in the new area. The financial analysis should include the projected decrease in the partner’s income for the first year after the move.
Relocating employees often overlook increases in their automobile expenses. These can include changes in commuting distances, automobile insurance rates, personal mileage (for example, to return home to see friends and relatives, or to access qualified medical care), tolls and parking, use of a company car, and an increase or decrease in the amount the employer pays for business use of the employee’s personal car. Some of these changes have tax implications, while others do not. Most people, however, tend to underestimate automobile operating expenses, probably because the major portion of the expense is depreciation (a non-cash item), and the expenses are paid gradually.
A difference in benefits
Changes in job benefits are often a factor if the employee is changing employers, and occasionally when transferring within the same firm. Items to consider here include changes in medical insurance, life insurance, retirement plans, and other perquisites, such as day care.
Changes in state and local income taxes should be included, net of federal tax effects. The family’s income should be recalculated using the tax laws of the new state, and city (if there are city income taxes). The analysis should also consider employees who choose to live in one state and work in another. In such cases, the employees will pay non-resident income taxes in the state in which they work. Most states have reciprocity agreements to prevent double taxation that permit residents to deduct taxes paid to other states.
Real estate changes
Changes in housing costs, are, of course, a major item. It is important to make valid, meaningful comparisons when examining housing costs between the two areas. These comparisons should include the same size houses (square footage, number of bedrooms, etc.), and lot sizes. Real estate taxes and rent — if the employee chooses not to buy — should also be included, as should the federal income tax impact of these changes.
Yet another factor to consider is the change in interest rates resulting from the employee’s sale of the existing home and purchase of a new home. If the employee purchases a less expensive home in the new area, he or she may incur federal and state capital gains taxes. Capital gains shouldn’t be included in the analysis, since it occurs only once, nor should it be part of the calculation for an ongoing salary. The employee should, however, be reimbursed for this tax, since it resulted from the relocation.
Likewise, if the relocation results in the employee having to sell investment real estate, a partnership, or stock in a closely held business, then the employee will incur capital gains or losses.
Finally, the analysis should include the cost of moving household belongings; travel expenses, including meals and lodging for the family; temporary living expenses in the new area; pre-move househunting trips; real estate agents’ fees; legal fees to buy and sell the employee’s houses; points to pay off an old mortgage or secure a new one; and redecorating expenses. Since these are one-time expenses that will not be repeated in future years, they should not be included in the salary calculation. And while employees should be reimbursed for these expenses, if the purpose of the analysis is to show gross salary equivalents, then the moving expenses should be excluded, since they will not reoccur.
Most employers will pay some or all of these expenses, but it is wise to be specific about what will be reimbursed. The reimbursement of deductible expenses is not taxable, while the reimbursement of non-deductible expenses is completely taxable. Therefore, the employee must be reimbursed for the federal, state, local, and social security tax impact on the portion of the reimbursement that is non-deductible — or the tax gross-up payment. Since the tax gross-up is also taxable, the calculation becomes a little complex. As a result, many employers calculate this amount incorrectly. They usually do not reimburse for the state, local and social security tax impact, and assume all taxpayers are in the same bracket.
A win-win situation for all involved
There are a number of critical financial variables for employers and employees to consider when contemplating a relocation. Developing a comprehensive financial analysis in advance helps alleviate employee stress and anxiety, and ensures employers make equitable financial decisions — for their companies and their employees.