Workforce compensation-linked retention strategies

Even pre-pandemic, the challenge of attracting and retaining the right talent, especially key members of the management team, are top of mind at every organization. The “Great Resignation” that set in during the peak of the COVID-19 pandemic told the story of the unprecedent spike in talent movement. These disruptions remain a major concern for employers to this day. The 2023 PwC Global Workforce Hopes and Fears Survey, which gauged the attitudes and behaviors of over 54,000 workers in 46 countries and territories, found that the challenge of retaining the best people continues, with inflation being the topmost consideration for employees looking for better-paying jobs.

As a result, organizations must employ creative strategies in recruiting and retaining the best talent if they want to thrive. These include offering competitive compensation and benefits packages, including attractive retirement benefits, equity-based compensation, allowances, other benefits in kind, incentives and bonuses. When weighing the cost and benefit considerations, employers must ensure that they are fully compliant with relevant tax laws and regulations.

In this two-part article, let us take a closer look at some of the more effective compensation-linked workforce retention strategies and why these are gaining traction in the talent marketplace.

PERFORMANCE-BASED PAY
One of the most popular compensation-linked retention strategies is performance-based pay. This includes salary increases based on the individual performance of the employee and the overall performance of the organization. Examples would be profit-sharing or performance-linked incentives on top of mandatory 13th month pay for rank-and-file employees.

Under Section 32(B) of the National Internal Revenue Code (NIRC), as amended by Republic Act 10963 or the Tax Reform for Acceleration and Inclusion (TRAIN) Law, 13th month pay and other benefits are exempt from income tax and withholding tax on compensation up to a maximum of P90,000. Other benefits under the tax regulations include productivity incentive bonuses, Christmas bonuses, loyalty awards, gifts in cash or in kind and other benefits of a similar nature.

DE MINIMIS BENEFITS
Providing de minimis benefits to employees regardless of their job position is also a common strategy to retain talent. By definition, these are facilities or privileges furnished or offered by an employer to the employees that are relatively of small value merely as means of promoting health, goodwill, contentment, and efficiency. These benefits, which are minor perks and rewards with set thresholds on value, are tax-exempt and therefore excluded from the employee’s taxable income.

The following are considered as de minimis benefits based on Revenue Regulations No. 11-2018, the implementing regulations of the TRAIN Law, which became effective on January 1, 2018:

1. Monetized unused vacation leave credits of private employees not exceeding 10 days during the year.
2. Monetized value of vacation and sick leave credits paid to government officials and employees.
3. Medical cash allowance to dependents of employees, not exceeding P1,500 per employee per semester, or P250 per month.
4. Rice subsidy of P2,000 or one 50-kilogram sack of rice per month amounting to not more than P2,000.
5. Uniform and clothing allowance not exceeding P6,000 per annum.
6. Actual medical assistance, e.g., medical allowance to cover medical and health needs, annual medical/executive check-up, maternity assistance, and routine consultations, not exceeding P10,000 per annum.
7. Laundry allowance not exceeding P300 per month.
8. Employee achievement awards under an established written plan, e.g., for length of service or safety achievement, which must be in the form of tangible personal property other than cash or gift certificates, with an annual monetary value not exceeding P10,000.
9. Gifts given during Christmas and major anniversary celebrations not exceeding P5,000 per annum.
10. Daily meal allowances for overtime work and night/graveyard shifts not exceeding 25% of the basic minimum wage on a per region basis.
11. Benefits by virtue of a collective bargaining agreement (CBA) and productive incentive schemes, provided that the total monetary value received from both CBA and productivity schemes combined does not exceed P10,000 per employee per year.

The thresholds set under the rules should be taken into consideration to qualify for the tax exemption. Any excess amount over the ceilings will form part of other benefits which are tax-exempt up to P90,000. Anything in excess of the P90,000 limitation is subject to income tax and, therefore, subject to withholding tax on compensation in the case of a rank-and-file employees or fringe benefits tax (FBT) in the case of supervisors and managers.

EQUITY-BASED COMPENSATION
Another strategy to attract and retain talent is equity-based compensation. As defined in the NIRC, gross income includes compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions, and other similar items. Thus, compensation may also be paid in money or in any form other than cash, such as shares of stock, bonds, or other forms of property. As such, equity income is also classified as taxable compensation income.

Common types of equity awards include Stock Options, Restricted Stock Units (RSU), Restricted Stock Awards (RSA), and Employee Stock Purchase Plans (ESPP). As a rule, the taxing point for share income occurs when there is no risk of forfeiture, i.e., when all the risk and rewards associated with the share income have been fully transferred to an employee. In 2022, the Bureau of Internal Revenue (BIR) issued Revenue Regulations No. 13-2022 clarifying the income tax treatment of equity-based compensation.

Under Revenue Regulations (RR) No. 13-2022, equity-based compensation granted to employees, regardless of the employee’s classification (i.e., rank-and-file or supervisory and managerial) shall be treated as additional compensation and will form part of the gross income of the employee, subject to income tax and social tax, and will therefore be subject to payroll withholding and reporting. The Bureau of Internal Revenue (BIR) later issued Revenue Memorandum Circular (RMC) No. 143-2022 which further clarified the income tax treatment of equity-based compensation. Therefore, any exercise or availment of equity-based compensation by an employee-grantee, regardless of position on or before Oct. 29, 2022 (the effectivity date of the RR), is subject to withholding tax on compensation.

The RMC also enumerated the mandatory tax returns to be filed starting November 2022 and onwards (for equity-based compensation exercised starting the effectivity date of the RR which include the following):

• BIR Form No. 1601-C (Monthly Remittance Return of Income Taxes Withheld);
• BIR Form No. 1604-C (Annual Information Return of Income Taxes Withheld on Compensation; and
• BIR Form No. 2316 (Certificate of Compensation Payment and Tax Withheld).

In relation to reporting requirements, the following rules still apply based on RMC No. 79-2014:

Grant of Equity-Based Compensation

Within 30 days from the grant of the equity-based compensation, the issuing corporation or employer-grantor, shall submit to the Revenue District Office (RDO) where it is registered, a statement under oath on the following:

• Terms and Conditions of the stock option;
• Names, Tax Identification Numbers (TINs), positions of the grantees;
• Book Value, Fair Market Value, par value of the shares subject of the option at the grant date;
• Exercise price, exercise date and/or period;
• Taxes paid on the grant, if any; and
• Amount paid for the grant, if any.

Exercise of Equity-Based Compensation

• During the exercise period, the employer-grantor must file a report on or before the 10th day of the month following the month of exercise stating therein the following:
• Exercise Date;
• Names, TINs, positions of those who exercised the option;
• Book value, fair market value, par value of the shares subject of the option at the exercised dates;
• Mode of settlement (i.e., cash, equity); and
• Taxes withheld on the exercise date, if any.

RETIREMENT PLAN
Establishing a retirement plan which could either provide higher retirement pay benefits to employees or the minimum retirement pay as mandated by law encourages employees to stay with an organization.

Retirement plans can be divided into two major categories: defined-benefit plans and defined-contributions plans. A defined-benefit plan is the traditional pension plan while a defined-contribution plan allows the employees to contribute and invest in the retirement fund and other investments such as mutual funds over the time of employment to save for retirement.

Under Republic Act No. 7641, also known as the Retirement Pay Law, an employee is to receive such retirement benefits as he may have earned under existing laws and any collective bargaining agreement and other agreements, provided, however, that an employee’s retirement benefits under any collective bargaining and other agreements not be less than those provided herein.

In the absence of a retirement plan or agreement providing for retirement benefits of employees in the establishment, an employee upon reaching the age of sixty to sixty-five years, who has served at least five years in the establishment, may retire and will be entitled to retirement pay equivalent to at least one-half month salary for every year of service, a fraction of at least six months being considered as one whole year. Note that there is no requirement to set up a retirement plan or contribute to a fund; hence, most companies pay retirement benefits on a “pay-as-you-go” basis.

Unless the parties provide for broader inclusions, the term one-half month salary means 15 days plus one-twelfth of the 13th month pay and the cash equivalent of not more than five days of service incentive leaves.

Generally, for retirement pay to be exempt from income tax, regardless of whether the benefit is under an established reasonable private benefit plan or under RA No. 7641, there are certain conditions that must be met:

• The retiring employee has been in the service of the same employer for at least 10 years;
• The retiring employee is not less than 50 years of age at the time of retirement; and
• The benefit (i.e., the tax exemption) has been availed of only once by the employee.

However, it is noteworthy that if the retirement payment is under a reasonable private benefit plan, there is an additional requirement which is to have the plan registered with the BIR. Failure to meet any one of the prescribed conditions renders the retirement pay taxable and subject to the progressive tax rates.

Companies should be agile in developing compensation-linked employee retention strategies. While several compensation strategy approaches can be used, a market-based and performance-linked approach seems to be the most viable option. Setting compensation must be based on industry benchmarks to ensure that the compensation remains competitive within the market. On the other hand, providing compensation linked to the employees’ performance ensures that higher compensation and benefits are given to high performing and top tier employees.

People remain the most vital asset to any organization, and will always be at the heart of achieving its goals and vision. As such, every organization should make substantial efforts to ensure that its people are taken care of and nurtured in every aspect to keep them engaged, leading to long-term retention.