EOR vs. Subsidiary - Which option for your business?

In today’s increasingly globalized economy, it has almost become a necessity for business owners to consider global expansion at some point. The reasons are various: accessing international talent pools before the competition does, using the dynamics of a new market to propel business growth etc. But while international expansion - which for many companies means setting up a legal entity such as a subsidiary in the targeted location - is usually considered a great business opportunity, it also involves numerous challenges such as considerable investment requirements and foreign compliance. As a 2017 Lighthouse Research & Advisory study on global HR practices showed, the latter proves to be particularly difficult to handle for globally expanding businesses: 70% of employers questioned expressed a lack of confidence in their knowledge of foreign compliance and employment requirements.

However, establishing a legal presence in a foreign country isn’t the only way to manage global expansion. In many cases, an Employer of Record (EOR) turns out to be a far easier solution. In this article, we will look at these two different options companies have to expand internationally, explain how they work and what their respective benefits are, and give useful tips on how to make the right choice for your business.

An Employer of Record allows you to hire full-time employees in a foreign country without having to set up a legal entity. While the EOR provider acts as the legal employer of your local workforce, you remain in full control of your employees’ day-to-day activities. As a third party, the Employer of Record takes care of:

• Compliance: local labour law and other regulations, employment contracts etc.

• Payroll and taxes: tax registration, processing of all the necessary withholdings and deductions, payments etc.

• Local benefit administration: compliant and attractive benefit packages, registration with local pension funds, health insurance etc.

• Termination: managing the separation process according to local standards etc.

In this sense, using an EOR is a quick, easy and cost-effective global expansion solution as companies can explore new markets without having to commit to establishing a legal entity such as a subsidiary company.

When businesses decide to expand internationally and start operating in new markets, they usually need to set up an international entity to do so. There are different types of legal entities, with representative offices, branch offices and subsidiary companies being the most common ones. 

In contrast to the other two options, a subsidiary company (sometimes also referred to as a daughter company) is a completely separate legal and tax entity, thus largely reducing the exposure of the parent company to local laws and taxation. While representative and branch offices are limited in what kind of business operations they are legally allowed to engage in, a subsidiary is fully operational on all levels while still reporting to the parent company who usually holds at least 50% of the subsidiary’s stock.

In the first part of this article, we have already discussed what an Employer of Record solution is and how it works. Now, it's time to see in what ways it’s beneficial for businesses and in which cases it’s preferable to go for an EOR instead of international business incorporation.

Why use an Employer of Record?

Many of the advantages that come with an Employer of Record solution are directly linked to the fact that the EOR provider basically takes over as your workforce’s legal employer, thus taking off most of the strains and worries that usually come with global expansion. The benefits for businesses who opt for an EOR provider are:

• No need to worry about compliance, local labour laws, payroll, taxation or employee benefits.

• Saves time, money and resources, thus allowing you to focus on your core business activities.

• In contrast to international business incorporation, there are no capital requirements.

• Provides cultural knowledge and local expertise.

• Fast and simultaneous expansion into several markets possible.

When to use an Employer of Record?

For businesses who are only just starting their global expansion and looking for a way to “test the waters” before fully committing to a new market, an Employer of Record solution is the best way to go as it allows you to compliantly hire full-time staff on the ground without having to invest a lot of money in setting up a legal entity. The same goes for businesses who want to cease opportunities right now and don’t have time to go through the lengthy process of establishing a subsidiary.

Establishing a subsidiary company is a big step - both in terms of time and money. The decision should thus not be taken without carefully analyzing the new market and weighing the pros and cons. Let’s look at what setting up a subsidiary really involves and in which cases it can benefit your global expansion plans.

What it takes to set up a subsidiary company

There are quite a number of hurdles to overcome during the incorporation process. Some major challenges are:

• Registering with all the appropriate authorities

• Opening up a bank account - under the condition that you meet the capital requirements

• Appointing local directors to manage operations in the new market

• Creating benefit packages that both attract local talent and are fully compliant with local regulations *

• Compliant local employment contract *

• Setting up local payroll - withholding taxes and making necessary deductions, issuing payments to employees in accordance with local regulations on payment intervals etc. *

• Dealing with local tax law (corporate tax, VAT etc.) *

• Adapting to foreign business culture and maybe totally different business etiquette *

• Keeping track of changes in local laws (employment law, tax law etc.) to avoid compliance issues *

• Avoiding potential lawsuits when terminating employees and going through long and complicated liquidation processes if your expansion project fails *

* These are some aspects where you may have to contract a local expert for advice.

Establishing a foreign legal entity is a good idea if …

While there are numerous benefits to using the services of an EOR provider, creating a foreign subsidiary also has its perks which could make it a suitable option for your company. This is generally the case if you plan to have a long-term presence in your new targeted location and if:

• You want full access to new markets for your products and services.

• You are looking for a way to enhance your business’s growth.

• You want to set up a cost-effective production.

• You are striving for worldwide brand recognition.

• You want local competition to take your company seriously.

In addition, many countries facilitate international business incorporation by offering foreign investors certain tax incentives and less to zero restrictions. Not to forget that establishing a legal presence in a foreign market may also get you access to free trade zones.

Whether an Employer of Record solution or setting up a foreign subsidiary company is the right choice for your company depends on how advanced your global expansion project is and what your business intentions are. In order to find out which strategy will work best for your organization, it can be helpful to answer the following questions.

What is the scale of your planned business expansion?

Are you only planning a temporary presence in the market or are you in it for the long run? How many employees will you need to achieve your business goals? Will you even need offices? Are you interested in establishing a presence in one or several foreign markets? Are you intending to conduct core business activities from within your targeted location?

What stage are you at in the expansion process?

Do you already know the local market and are prepared to commit to it? Or are you still in the testing phase? If the latter is the case, it may be wiser to take your first steps into a new market with a competent Employer of Record by your side. Another option at this point is starting with a team of local freelancers which you can easily do by using Lano's contractor management system.

How much knowledge do you have about compliance, tax and labour laws in your targeted location?

Are you familiar with local labour laws, tax and compliance requirements? Or would you have to invest a lot of money and HR resources to compliantly hire new staff in the new country? Making sure to fully comply with all the legal and tax restrictions in a foreign jurisdiction can be challenging, so it’s definitely not a decision that should be taken without careful consideration.

Also, setting up a subsidiary usually means you’ll have to appoint at least one - if not several - local director(s). Do you already have a qualified executive on hand who could take on this responsibility?

Are you under time pressure?

When expanding internationally, it’s always good to keep a close eye on what your competitors are doing. Have they already kicked off their expansion project? Are they a step ahead of you? If you are in urgent need to move fast and have no time to spend months on end going through all the steps it takes to set up a legal entity, using an Employer of Record will allow you to fast-track your expansion project.

• When it comes to global expansion, there is no one size fits all solution. Whether establishing a foreign subsidiary or hiring local staff through an Employer of Record is the better solution for you largely depends on the scale of your expansion project, your timeline for it and your knowledge of operating in the new target market.

• Cases where it is advisable to contract an Employer of Record include: little experience managing foreign operations and restricted knowledge of the new market, need to expand fast and without capital requirements, parallel expansion into several foreign markets required, wish to test the new market before taking any further steps etc.

• Main advantages of an Employer of Record: saves time, money and resources, allows you to focus on your core business activities, takes out all the risk involved in entity set-up as EOR partner takes care of everything.

• In some cases, setting up a subsidiary is worth the extra money and effort. Some perks of international business incorporation are: cost-effective manufacturing options, increased worldwide brand recognition, full access to a new market for your services and products which will benefit business growth.

Curious to explore new markets and see what potential they could offer to your business? Why not go ahead and start your global expansion today by hiring the best talent available in your targeted market?

Lano’s Employer of Record solution makes it easy to compliantly hire new employees in foreign countries and create a strong global team that will turn your global expansion into a full success. Beat your competition and be the first to test a new market without having to worry about compliance risks and capital requirements.

Already one step further in the expansion process? Setting up a legal entity in a foreign country requires a lot of time and effort. Let Lano handle payroll for your new local team and cross that item off your to-do list. No matter what stage you are at in your expansion project, we’ve got you covered.