Digital nomads usually reside in places where living costs are low and income is tax-free. However, digital nomadism can be dangerous for people without a solid knowledge of their tax situation. This article seeks to provide important information on digital nomad taxes and show digital nomads how they can avoid unnecessary taxes.

Digital Nomads’ Taxes In A Nutshell

Where Do Digital Nomads Pay Taxes?

Most countries use the following criteria to determine who should pay tax:

• “Citizenship-based taxation”
• “Semi-citizenship-based taxation”
• “Residence-based taxation”

“Citizenship-Based Taxation”

Citizenship is a relationship between an individual and a state to which the individual owes allegiance and in turn is entitled to a state’s protection. Such allegiance may include a duty to pay taxes.

Citizens of some countries must pay taxes on their worldwide income regardless of where they live. An example of such a country is the United State of America. By default, all US citizens must pay taxes in the US on their worldwide income. It doesn’t matter where a citizen earns money. Although there is no way for US citizens to avoid paying absolutely all taxes to the US Government, US citizens may reduce or eliminate such a duty. US citizens who spend at least 330 full days during any period of 12 consecutive months in a foreign country or countries are eligible for Foreign Earned Income Exclusion (FEIE).  Such citizens can exclude their foreign earnings from income up to an amount that is adjusted annually for inflation (e.g. 108,700 USD for 2021, and 112,000 USD for 2022). In addition, they can exclude or deduct certain foreign housing amounts.

The good news is that only a few countries in the world apply this criterion of taxation (e.g. Bulgaria, Myanmar, Philippines, Romania, Vietnam, etc.).

“Semi-Citizenship-Based Taxation”

According to this principle, a citizen must pay taxes in his country of citizenship unless: (i) he leaves the country and becomes a tax resident of another country (e.g., such a practice is employed by Spain. Its citizens are entitled to seize paying taxes after 5 years); or, provides evidence that he has no ties with his country of citizenship (e.g., Finland).

“Residence-Based Taxation”

The majority of countries in the world apply this principle according to which the duty to pay taxes is related not to citizenship but to the physical presence of an individual in a country.

The common rule embraced by most countries is a 183-presence in the country rule. If you spend 183 or more days in a tax year in the country, no matter what your citizenship is, you must pay taxes in such a country because you automatically qualify for a tax resident status. This status is like tax citizenship.

However, even if you travel a lot and spend just a few months in any country during a year, you may be obliged to pay taxes anyway. It’s called a tax home test.

Tax Home Test

Tax authorities use this test to prove that the person has ties with the country and for this reason, he or she must pay taxes in this country.

Most governments adopted rules that are sued to determine whether a person is eligible for an exemption entitling him or her not to pay taxes in the country of residence. If no exemption can be applied, then he or she must pay taxes. For example, UK residents must pay taxes in the UK if they meet at least one of the following criteria:

• He or she stays in the UK for at least 183 days during a tax year.
• His or her main home is in the UK, and he or she has owned, rented, or lived in it for a total of at least 91 days, including 30 days in the tax year under consideration.
• He or she works full-time in the UK for any period of 365 days with no significant break of 31 days or more. At least 274 of the days must be in the tax year under consideration.

Other countries may have different rules. You may find them just by googling or reading information available on tax authorities’ websites (e.g.: Money and tax – GOV.UK (www.gov.uk)). Digital nomads must know these rules if they want to reduce their tax burden.

Double Taxation Avoidance Agreements

Under certain circumstances, your income may be taxed twice if two countries have the right to tax it. For example:

• You live in country A but work in country B;
• You permanently live in country A, but temporarily moved to country B;
• You have settled in one country after retirement and receive your pension from another.

In these cases, although the rules of your country of residence will always apply, you may have to pay tax in another country. Luckily, most countries have double taxation agreements in place. As a rule, such agreements prevent you from paying tax twice:

• under most bilateral tax agreements, the amount of tax you pay in the country where you work will be reduced by the amount of tax you have to pay in your country of residence;
• in other cases, income earned in the country where you work may be taxed only in that country and not in your country of residence.

If you are curious, you can find an example of such a treaty here: Model Tax Convention on Income and on Capital.

It should be noted that tax rates are likely to be different in the two countries. If the tax rate in the country where you work is higher, this will be the final rate of tax payable, even if the amount of tax paid in this country reduces the tax payable in your country of residence or if your country of residence exempts you from any other tax.

To claim relief from double taxation, you may need to prove where you live and that you have already paid income tax. Check with the tax authorities to find out what evidence and documents you need to provide.

Double taxation avoidance treaties are available on the websites of tax authorities or other state institutions. For example:

• United States Income Tax Treaties.
• Treaties for the avoidance of double taxation concluded by EU Member States.
• UK Tax treaties.

Taxes And Digital Nomad Visas

Around 40 countries offer a digital nomad visa entitling its holder to stay in the country and work online for up to a year on average. Such a visa is perfect for digital nomads because it legitimizes nomads’ stay in the country and allows them to work remotely. However, there is a pitfall. Most countries rushed to introduce digital nomad visas but did not amend their tax laws. For this reason, digital nomads staying in the country for more than 183 days, risk becoming tax residents of such countries.

Estonia was the first country to offer digital nomad visas. However, Estonia did not amend its tax laws. For this reason, after 183 consecutive days spent in Estonia, a digital nomad becomes a tax resident in Estonia and must pay taxes according to local requirements. It is not difficult to reset that by leaving Estonia for a short period of time. However, it is not convenient, and this loophole may be closed if Estonian tax authorities identify that as a way to avoid taxes in Estonia.

Spain also offers digital nomad visas. However, its holders are subject to a 24% income tax rate on income earned during your first 183 days in Spain. Thereafter, the applicable tax rate depends on a double taxation agreement concluded between the digital nomad’s country and Spain. But, there is good news. Recently, the economy ministry of Spain in his tweet said that Spain is going to enact new legislation that will “attract and retain international and national talents” by helping “remote workers and ‘digital nomads’ set up in Spain”.

Already now Croatia’s digital nomad visa exempts its holders from income tax in the country. I believe that in future most countries offering digital nomad visas will exempt digital nomads from taxes on income received outside the country that issued the visa.

How Can Digital Nomads Pay Fewer Taxes?

1. By Becoming A Resident In A Low-Tax Country

If you are a citizen of the “residence-based taxation” country, you can look for another country that offers better conditions than your home country. Traditionally, many expats, digital nomads, etc. chose Panama. However, according to Andrew Henderson (Nomad Capitalist Limited), these days Latin America can be an expensive and very bureaucratic choice. For this reason, Europe or Asia may be a better choice. For example:

Andora

Andora is a landlocked country between Spain and France that is not part of the European Union but does use euros. You can get there by bus in 2-3 hours from Barcelona (Spain) or Toulouse (France); it’s also close enough for an airport flight at towering heights – about 45 minutes away. Andorra has only 468 km² total surface, making this country one of the smallest in the world.

You have to pay taxes in Andora but they are rather small. Personal income tax is 0% for up to 24,000 USD per year. Up to 45,000 USD is taxed at 5%. Over 45,000 USD is taxed at 10%. Married couples see a combined 45,000 USD at 0% tax and 10% over this amount.

Czech Republic

The Czech Republic is a landlocked country in Central Europe. The country is bordered by Poland to the northeast, Germany to the west and northwest, Austria to the south and Slovakia to the east. The Czech Republic is a developed country with an advanced, high-income social market economy. It is a welfare state with a combination of free-market capitalism and government-directed public services.

EU nationals may find it especially attractive as a place to establish residency because the 15% flat tax rate allows for deductions that, especially for business owners, can reduce the effective rate to 6-9% for self-employed entrepreneurs.

Downsides Of This Strategy

The right to enter and stay in the country. To enter a country and stay in it, you need to have a visa, be eligible for a visa-free regime or have a residence permit. Visas allow you to stay for a limited period of time and only for a certain purpose, e.g. leisure, business, etc. So, visas are useless in acquiring tax residency. Only a residence permit that entitles its holder to stay in a country long enough to become a tax resident is useful. However, most countries grant such permits only to individuals investing a certain amount of money in the local economy. For example, to get residency in Andora may require investing 350,000 EUR (e.g. buying a house) and paying a 50,000 EUR bond to the government.

A tax home test. Most “residence-based taxation” countries use a tax home test to assess whether you still have any ties with your country of citizenship. For this reason, if you want to establish really strong ties with your new place of residence, apply for the local driving license, enter into a long-term apartment lease agreement, buy a car, etc. 

Citizenship. If you are a citizen of a country that obliges its citizens to pay taxes regardless of their place of residence, then you have to either renounce your citizenship or very carefully plan your way to tax freedom for many years ahead.

2. By Establishing An Offshore Company

An offshore company is one that you incorporate or register in another country, i.e., outside where its principal investors live. In some cases, a company is deemed “offshore” by virtue of being located outside the jurisdiction where the person or entity that controls it is located or incorporated.

Very often the term “offshore company” is used to describe a company established in a low-tax jurisdiction or tax haven. In fact, some of them have a zero-tax rate. Examples of tax havens include Belize, Panama, the British Virgin Islands, Bermuda, Gibraltar, and the Cayman Islands. However, in some cases, it may be difficult to operate through a company incorporated in a tax haven jurisdiction. As an alternative to tax havens, you can choose countries with a low corporate tax rate. For example:

Andora

Andorra may be the perfect place for digital nomads to establish a company. With company taxes from 0% to 10%, Andorra has one of the lowest corporate taxes in Europe.

Malta

In Malta, companies are taxed at the rate of 35%. However, for foreign-owned businesses, it is only 5% because they can get a refund when paying into Maltese territory. Holding corporations have various advantages such as not having to register an office there or pay any corporate taxes on dividends and capital gains realized from transactions outside of this country’s borders; no stamp duty fees either – all these make holding in Malta very attractive.

Montenegro

The country of Montenegro has an excellent corporate income tax rate, which is one reason it’s so popular with expats. The flat 9% applies not just to operating profits and capital gains but even interest payments–meaning you don’t need any special skills or knowledge in order to set up your own business there.

Bulgaria

Bulgaria offers some of the lowest rates in the European Union with both personal and corporate tax, both of which are 10%. You will also pay a 10% capital gains tax on profits from the sale of property, there is no capital gains tax on your profits if you have investments or trade the stock market in the European Union.

It’s not enough to own an offshore company to lower the tax burden. When you receive money (dividends) from your company, you have to pay taxes in the country of your tax residency. So, if you are a tax resident of France or the UK, you will have to pay quite high taxes set by the governments of those countries.

How To Incorporate A Company

In all countries, there are business registers, i.e. special institutions or agencies, that register companies and other legal entities. For example, in the United Kingdom, this is done by Companies House. You can find more information about company incorporation in my article about how to start an online business.

Downsides Of This Strategy

Questioning by authorities because of mismatch between the country of registration and the country(ies) of business. If you live in country A (the country of residence), your company is incorporated in country B, and you are engaged in business operations in countries C and D, your country of residence (country A) may question why you have established a company in country A because there are no obvious ties between you, your business and the country where you established a company. The risk is that you may be accused of tax avoidance.

Issues with clients. If you are a one-man company and your clients know that you are from Europe or the US, it may look strange for your clients if they receive an invoice issued by a company based in Singapore or Panama. Some clients may report you to tax authorities or cancel the relationships because your company is registered in a tax haven jurisdiction.

Can Digital Nomads Pay No Tax At All?

In theory, regularly travelling digital nomads can avoid paying any taxes. This is related to the so-called idea of the perpetual traveller. A person who is not a legal resident in any of the countries where he or she spends time or carries out activities is a perpetual traveller. Without being a legal resident in any country, such a person can avoid legal obligations related to paying taxes, military service and so on.

The perpetual traveller idea has been presented in terms of the flag theory. This theory is credited to investment pundit Harry D. Schultz. The idea behind the flag theory is to minimize governmental interference and maximize privacy. The theory proposes that each of the following should be in a separate country:

• Passport and citizenship – in a country that does not tax money earned outside the country or control actions.
• Legal residence – in a tax haven.
• Business base – where one earns one’s money, ideally somewhere with low corporate tax rates.
• Asset haven – where one keeps one’s money, ideally somewhere with low taxation of passive income and capital gains.
• Playgrounds – where one spends one’s money, ideally somewhere with low consumption taxes.¹

It might seem easy to become a perpetual traveller. However, the reality is more complex.

These days it is really difficult to present yourself as a person who does not have any connections with any physical place. First of all, a 183-day rule might be easily bypassed. However, it is more tricky to bypass a tax home test. It is difficult to convince tax authorities of the country of your citizenship that you have no permanent ties with your home country if you visit it from time to time. Your possessions might be stored in your parent’s house. You can own property (e.g., a car, a motorbike, etc.) in your home country. The tax authorities may see all these things as evidence of your links to your home country.

Secondly, for a digital nomad is hardly possible to live and work without having a bank account. According to the Know Your Client (KYC) principle that is compulsorily applied by all banks, a bank client must reveal his or her residence place. Banks are unwilling to accept the explanation that “I have no permanent place of residence”. If you don’t have such a place or try to conceal it, a bank can reject your application to open an account. If you indicate a certain place to a bank as your permanent place of residence, be aware that a bank will forward such information to tax authorities. This is done because of FATCA, CRS and DAC6. Almost all countries participate in international information exchange programs. Governments collect information on foreign citizens holding bank accounts in foreign countries and then transfer this information to the country of the digital nomad’s citizenship.

For these reasons, it is possible not to pay tax at all, but it is difficult to do so. It is better to choose as your country of residence a country with a tax regime favourable to digital nomads.

Never Ending Monitoring And Planning

Once you set up everything, you might think that all is done. Nope. We live in an ever-evolving world. Every year governments invent new rules and tighten their grip on individuals and companies. So, to safeguard yourself and your earnings, you have to regularly monitor legal news of the country of your citizenship and tax residency.

As a rule, changes adopted by governments don’t come into force overnight. If you become aware of the changes that can negatively impact you months before they come into force, you will have enough time to prepare for that. If you miss that, fines, warnings and criminal charges may become an unpleasant reality of your life.

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^{Images from Pixabay.}