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A tropical island off the southern tip of India, Sri Lanka has worked hard to forge its own identity since gaining independence from Britain in 1948, and especially since changing its name from Ceylon in 1972. Much of its economy is underpinned by tourism, but many more of its population of around 22 million work in the production of tea, coconuts, rubber and precious stones, among other goods.

Sri Lanka has been able to grow significantly in recent years, and its annual GDP of around $84billion in 2019 was more than five times the equivalent figure from 2000. This is thanks in no small part to a more positive attitude from the Sri Lankan government to international businesses wanting to set up there.

The country has had its fair share of political upheaval, and has had to work hard to cut down on corruption. However, the good news for international companies evaluating Sri Lanka is that its payroll rules and regulations are relatively straightforward compared to many other Asian countries. This guide runs through the most important considerations around running payroll in Sri Lanka.

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Getting Started 

Businesses in Sri Lanka can register as one of many different entities. The most common for foreign businesses are limited liability companies (LLCs) and public limited companies (PLCs), neither of which come with any minimum capital requirement. Branch offices can also be set up, but profits from these are subject to a 10% ‘branch tax’.

The set-up process starts with the reservation of a company name online with the Registrar of Companies, then the signing of a consent form in person by the company secretary and director. These consent forms, the company registration and the Articles of Association must then be submitted to the Registrar of Companies.

Next, a notice of incorporation should be filed with the Daily Newspapers and Government Publication Bureau, followed by contacting the Taxpayer Services Unit for a Tax Identification Number. The final steps are registering for VAT, and with the Department of Labor for an EFP number.

The whole process should take around ten days, and is easier if conducted in person in Sri Lanka and with an in-country bank account set up. Fees for the various processes are relatively small.

Employment Considerations

Written employee contracts are not required in Sri Lanka. Collective bargaining is permitted for certain sectors, but Sri Lankan laws do not make it easy for unions to conduct business. In addition, it can be difficult to organize workers because of varying cultural norms and economic circumstances.

Probationary periods are allowed, with the duration negotiated and agreed to by the employee and employer before work begins. Trial periods are usually set at six months but may extend an additional three months if necessary. 

Working hours in Sri Lanka vary from industry to industry. For example, workers in offices and shops are subject to a maximum of eight hours per day and 45 hours per week, but limits for factory workers are nine hours per day and 48 hours per week. All employees working at least eight hours per day are entitled to a one-hour break. Overtime is paid at a minimum of 125% normal rate, with a maximum of 12 hours of overtime permitted per week.

Compensation, Bonuses and Severance

Sri Lanka’s current minimum wage has been in place since the start of 2016, at 10,000 Sri Lankan rupees per month (approximately £35; $50; €40). There are no regulations regarding the payment of bonuses, although they are more common within the public sector than they are in the private sector. Nonetheless, compensation and bonus structures should be agreed upon between employer and employee in the contract.

Termination of employment for non-disciplinary reasons normally requires approval from the Commissioner of Labor, unless a notice period (typically one month) is mutually agreed in the contract of employment. Employees with at least five years of service are entitled to severance pay, as long as the employer has a workforce of at least 15 people. Entitlement is half a month’s wages per year of service.

Tax and Social Security

Income tax in Sri Lanka is levied progressively across three bandings and is paid on a ‘pay as you earn’ basis:

• The first LKR 300,000 per year (approx. £1100, $1500; €1250): 6%
• Beyond this up to LKR 6,000,000 (approx. £22,000, $30,000; €25,000): 12%
• Beyond LKR 6,000,000: 18%

Corporation tax rates vary depending on the size of a business and the industry they operate in. Most industries are rated at 14%, but a 28% rate applies to construction, financial services, manufacturing and healthcare, and a 40% rate for businesses involved in alcohol, tobacco or gambling. The VAT rate in Sri Lanka was cut from 15% to 8% in December 2019, and exports and selected international services are exempt.

There are two types of social security contribution in Sri Lanka:

• Employees Provident Fund: 12% employer, 8% employee
• Employees Trust Fund: 3% employee

The Employees Trust Fund also incorporates a gratuity system, whereby an employee of more than five years’ service at the time of resignation or retirement generates an employer contribution of half a month’s salary per year of service.

Holidays and Leave

Paid leave entitlement is 14 days per year, once an employee has completed their first year of service. At least seven of the 14 days must be taken consecutively. All workers are also entitled to time off on the eight days of constitutional holidays each year; however, Sri Lanka has a total of 26 public holidays each year, and paid time off for the others varies from industry to industry.

Paid maternity leave entitlement (for a first or second child only) is 12 weeks: two weeks before the birth and ten weeks after it. For a third child onwards, paid maternity leave entitlement is cut to six weeks. All maternity leave pay is covered by social security. Sri Lanka has no statutory provision for paternity leave. Paid sick leave entitlement is a maximum of seven days per year for medically certified illnesses or injuries.

In Summary

Sri Lanka’s low cost of living, geographical proximity to India, and strong international likes through its Commonwealth membership all make it an attractive proposition for foreign businesses. But despite the willingness of the Sri Lankan authorities to help incoming enterprises get set up, there are still some challenges to navigate when running payroll in Sri Lanka and attempting to maintain compliance. That’s why it’s still worth seeking help from a global payroll partner who can help you meet your obligations without the risk of either losing money or making a costly error.

This article is for informational purposes only and not intended to convey or constitute legal or any other advice. It is not a substitute for advice from a qualified professional.