Tax Issues of Digital Nomads
As a result of working remotely in different countries, digital nomads face an important issue — how to calculate and pay taxes on their income. This article attempts to explain the fundamental tax concepts relevant to digital nomads without
focusing on any specific jurisdiction and considers certain tax benefits that they can enjoy if they plan carefully. It covers the following topics:
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Identifying your tax residency is a critical concept. You need to know where you are liable for tax on the income you earn. The basic principle is that if you are a tax resident in a particular country, you are obligated to pay taxes there. Earned income refers to salary, self-employed profits etc., as opposed to unearned income, which refers to dividends, royalties, interest, etc. There are several approaches and criteria used traditionally by various countries to identify persons liable to taxation.
For individuals, physical presence in a particular country is the main test. Some jurisdictions also determine the residency of an individual using other factors, such as ownership of a home (or availability of accommodation), family, and financial interests.
Physical Presence
Physical presence is the most common criterion used globally for individuals to determine their tax residency. If you are present in a specific country for long enough, you will effectively become a tax resident of that country and will have to pay taxes there. This approach is used by more than 130 countries, including:
- Most of the EU
- UK
- Canada
- US (with certain peculiarities)
- Australia
- China
- Japan
- Mexico
Usually, you must stay in a country for at least 183 days within a 12-month period to be considered a tax resident of that country. The 183-day rule is used by most countries. Let’s review some examples.
United Kingdom
The UK Finance Act sets out that an individual who spends more than 183 days in the UK in a tax year is a UK resident. If the individual fulfills this criterion, there is no need to consider any other tests.
Germany
German legislation deems individuals to be tax residents if they are physically present in Germany for more than six months in any one calendar year or for a consecutive period of six months over a calendar year-end.
Switzerland
Switzerland uses timelines that are a bit different. In this country, an individual establishes a tax residence if he or she stays there for a minimum of 30 days during the year combined with a gainful activity, or without such activity if the stay lasts 90 days or more.
United States
Apart from taxing all its citizens and permanent residents, the US uses a physical presence approach as well. The Internal Revenue Service (IRS) uses 183 days as a threshold in the "substantial presence test," which determines whether people who are neither U.S. citizens nor permanent residents should still be considered residents for taxation.
It is worth mentioning that in most countries, if a person stays in a particular country solely for educational or health reasons during the mentioned periods, he or she is not deemed to be resident for tax purposes.
Domicile
Domicile is a bit more complicated concept. Unlike the physical presence test, it is a much more flexible approach that relies on factors such as the location of an individual's main residence and the location of his or her spouse and children, source of income, and center of economic interests. Domicile is used by many countries as an alternative when the physical presence test doesn't provide clear guidance, such as in the case of tax orphans.
Citizenship
Apart from physical presence and domicile, some countries apply other tests, such as citizenship. Citizenship is self-explanatory but is rarely used as a criterion: the US and Eritrea are the only two countries that tax their citizens regardless of where they live or for how long. So, if you are a citizen of US, you are considered a US tax resident no matter where in the world you live.
Territorial taxation
In the territorial system, only local income – income from a source inside the country – is taxed. Territorial taxation, though less common, is used in quite a few countries, such as:
- Costa Rica
- Hong Kong
- France
- Singapore
- Paraguay
- Panama
- Thailand
1. It’s your responsibility
In most cases, you will be considered a tax resident in the country where you have spent more than 183 days in a calendar year. However, if you simply reside in a country during that period of time, you will not automatically become a tax resident. It’s your responsibility to change your tax residency and file the necessary papers.
2. Notify your country
In practice, this means that if you expect your country of citizenship to stop considering you a tax resident, you must notify the relevant tax authority and keep a note of this notification, with the date and details of the officer who accepted it.
3. Take care of your new tax residency
Once you notify your home country, you must make your new tax residence valid. To do this, it will be enough to register with the tax office of your new permanent residence and get an individual tax number. You will need this number for many things; for example, to open a bank account in your new country of residence.
It is very important to recognize that, until you have completed changing your tax residency, you must abide by the tax laws of your home country or risk penalties for non-compliance with tax regulations.
4. Show economic activity
In addition, you will need to show economic activity consistent with your activities in the country of new tax residency. This could be receiving a small salary in a newly opened account, buying stocks or renting real estate, or engaging in other economic activity that may be taxable or reported to the local tax authorities.
5. If I do nothing?
If you do not take any action to enhance your tax residency status, your new country may not even know you exist and your former country of residence may claim you as a tax resident.
6. What are the consequences?
If you don’t register in a new country, you may face challenges while founding a company, opening accounts, or registering real estate and other property in your name, because these activities may require you to file your latest tax return.You may also be assessed back taxes and penalties if you do not follow the correct tax registration.
If you are going to carry out proactive business operations in many countries, you will have to become a tax resident somewhere. If you don’t want to pay too much in taxes on your international income, it is best done in a country with zero taxes on income earned outside its territory.
Some digital nomads think they can become tax orphans by constantly traveling and avoiding ties with any single country. But Is it possible? Hypothetically, yes. You can have tax residency in no country if you are willing to, say, live out your life on an isolated platform in the middle of the ocean while being the citizen of a country that does not use citizenship as a criteria for tax residency.
But to be more realistic, you can qualify as a tax orphan if you meet the following conditions:
- Your country of citizenship exclusively applies the physical presence test to determine tax residency; and
- You are situated outside of your home country for long enough to lose tax residency; and
- You don’t become a tax resident in any other country by either (i) overstaying a given time period or (ii) having some other ties with that other country under its local law; and
- There is no international treaty, such as a Double Taxation Agreement, between the countries that you visit that obliges you to become a tax resident of one of those countries.
Thus, becoming and staying a tax orphan for the long-term is a very difficult and expensive proposition that requires constant international travel and change of residence.
So are there any tax benefits to becoming a digital nomad? Yes.
It is very difficult to become a tax orphan, and at the same time it’s risky to avoid paying taxes in a country where in fact you have become a tax resident. The truth is, most of us are liable to pay taxes somewhere in the world. However, that doesn’t mean it isn’t possible to legally reduce your tax burden by relocating to a jurisdiction where income earned outside of the country is taxed at a low or zero rate. Let us review some countries with the most beneficial tax regimes for digital nomads.
Croatia
In Croatia, individuals who have acquired digital nomad status (that is, they have obtained a Digital Nomad Visa) are not taxed on their income derived from employment or self-employment activity conducted for a company registered outside of Croatia. This tax exemption, which came into force on January 1, 2021, marks Croatia as one of the most nomad-friendly jurisdictions in the world.
Malta
In 2021, Malta launched its Nomad Residence Permit, which enables digital nomads to work remotely from this beautiful island for a year (renewable for up to 3 years). After obtaining such a visa you will have to pay taxes only on your local income, but you will be exempt from paying taxes on your worldwide income that hasn't been sent to Malta. As an additional benefit, any money earned from that remote work does not require even filing a local tax return.
Georgia
A new Georgian initiative called “Remotely From Georgia” has been designed to enable digital nomads to work remotely in Georgia. To qualify, your monthly income must be at least US$2,000, or you’ll need a bank statement confirming US$24,000 on hand. This country offers a fantastic program for individual entrepreneurs, which taxes your business's gross revenue of up to US$155,000 at the rate of just 1%. This alone makes this program one of the most attractive visas available to digital nomads today.
One of the common questions asked by digital nomads is whether they can avoid paying taxes at all. The simple answer is “no”. Digital nomads should pay taxes in the country of their tax residence unless they want to have problems with the law.
However, certain countries offer many tax incentives for digital nomads and using those incentives, digital nomads can reduce their taxes very significantly.
It goes without saying that when it comes to financial and tax matters, you should not rely solely on online advice. Should you have any questions regarding your tax residency or immigration regulations in any specific country and you’re not sure how to proceed, do not hesitate to contact our tax and immigration advisors, who can properly advise you on your individual situation.