If you are a contractor working for clients in Europe outside of your home country, you will need to know when you become a tax resident of the host country. Tax residency is not always the negative that you may think, as some EU countries do extend tax breaks to resident ex-pats. It is worthwhile to understand the basics of tax residency, and then research the rules in the country where you will work.
What is tax residency?
Tax residency may be one of the more complex issues facing international contractors, as it can affect your overall financial status and retained earnings. You become a tax resident in a country when you either stay for a defined period or have other sufficient ties to the country. The typical period is a cumulative 183 days in 12 months, but each country sets its criteria. The 12-month period is often cumulative and ‘rolling’ so it’s not based on the calendar year, and you can’t stop the clock by leaving and returning.
Non-residents will only pay tax on revenue earned inside the host country in the tax year. This avoids imposing a tax on ex-pats that are only in the country for a short stay, either as contractors or employees on assignment.
Tax residents will pay local tax rates on income earned anywhere in the world. So, this means that if you have other types of earned revenue outside the country, the host country will want to tax you on those earnings. You will of course pay tax on revenue earned inside the country as well. Foreign passive revenue, such as investment, is usually exempt.
This may seem unfair to some. However, there are ways to offset this such as:
- If your home country has a similar period (e.g., 183 days) you may not be a tax resident at home while working abroad, as you could ‘lose’ your tax residency. Other elements do come into play such as having a primary residence or substantial ties to your home country.
- EU citizens will have to look to their home country’s rules on being exempt from tax residency. For example, citizens of Finland and Norway have to prove they no longer live there for up to four years before they can lose their tax residency. Portugal and Spain require proof that you are paying similar taxes while working and living abroad.
- A country like the US which imposes a tax on worldwide income regardless will often have tax treaties with EU countries that prevent double taxation. The same is true between countries in the EU, so you are unlikely to have to pay both at home and in the host country. But you may have to file a tax return in both countries.
How is tax residency different from legal residency?
A point of confusion with tax residency is how it differs from legal residency. Tax residency only relates to the right of the host country to tax your global earnings. It does not confer any type of legal residence, permission to stay or immigration status.
Depending on the country, legal residency has an entirely different set of requirements and qualifications that have to be met. This means that although you are taxed the same as a legal resident, you do not have any residency status.
What are tax treaties and how do they work?
A tax treaty is a bilateral agreement between two countries that prevents double taxation of individuals with cross-border earnings. The actual rate applied and the country where it is paid will depend on the treaty. In general, the higher rate will apply, and there will be credits or offsets deducted in the tax return of the amount paid.
Do EU right to travel rules affect tax residency?
EU citizens enjoy the right to travel within the EU, which includes working visa-free. However, this is an immigration agreement within the EU and does not affect tax residency. For anyone who is contemplating not paying tax as a resident, keep in mind that immigration will have a record of your length of stay. Immigration and tax authorities do not necessarily routinely audit or exchange that information, but if a question arose it would be available.
Tax residency guidelines in Europe
The EU does not impose standardized tax rules for its member states, but some guidelines are followed to create consistency. This is known as ‘tax harmonization’ and one guideline is a minimum 10% tax rate on earned income. You will have to look to the specific country to learn the tax residency rules and rates.
Comparison of tax residency rules of member states in Europe
Although many contractors would prefer to avoid the burden of tax residency, some EU countries do have special tax schemes for long-term ex-pats. Also, the actual tax rate can vary based on residency.
The tax residency period in Sweden is 183 days in 12 months. Tax rates for contractors will vary depending on residency and income level, and the rates are notably high. Self-employed freelancers pay the same tax rates as Swedish employees as follows:
- Residents: 32% + 20% on annual income over SEK 509,000 ($60,000)
- Non-residents: 25%
You will become a tax resident after 183 days in Austria. Non-residents only pay tax on Austrian-sourced income but must add a fictional EUR 9000 to their income amount for purposes of tax calculation.
While it also uses the 183-day rule, the Czech Republic has a special lower flat tax rate for self-employed which may make tax residency desirable. This will also depend on if you have other income and can ‘lose’ your home tax residency.
Portugal is another country where being a tax residency is an advantage. The non-habitual residency regime applies a 20% flat tax on all income, and many tax resident professionals are exempt from paying tax on worldwide income.
Italy also has a program to benefit ex-pat tax residents. The impatriate regime is a tax incentive for foreign workers, including self-employed, who are new residents. It exempts 70% of income from the normal tax rates (or 90% if the ex-pat relocates to Southern Italy) and lasts for five years.
The requirements are:
- The worker has been a resident outside of Italy during the previous two years (new resident)
- There is a commitment to reside in Italy for two years (or the government will recover the exempted amounts)
- The work is performed on Italian territory (it’s not clear if working remotely for a non-Italian client would qualify)
How can Contractor Taxation help with tax residency in Europe?
If you don’t want to take any chances navigating the tax residency rules in Europe, Contractor Taxation can be your valuable partner. We have a network of umbrella companies across the EU with local experts who know all of the residency criteria and tax rates.
The umbrella company can also assist with handling client payments, withholding taxes and negotiating any client disputes. Please contact us if you are interested in using an umbrella company for all of your contracting needs.