Portugal is a beautiful country with warm people, rich culture, beautiful architecture, spectacular beaches and forests, and a low cost of living. There are a lot of reasons to consider moving to Portugal. The US tax treaty with Portugal can help US citizens living in Portugal to potentially save more on taxes or at least avoid double taxation.
The tax treaty was designed to prevent double taxation for citizens of both countries. Simply put, you’re not required to pay US income tax on Portuguese-sourced income. Likewise, if you’re a freelancer working in Portugal and meet certain criteria, you’ll pay taxes in Portugal and not in the US. Read on to understand the US tax treaty with Portugal and what it means for you.
Understanding the US-Portugal Tax Treaty
The US and Portugal first entered into a tax treaty in 1994. The tax treaty serves to clarify various international tax issues involving investment income, earnings, and pensions. By claiming tax treaty benefits, a resident of one of the contracting countries may be able to limit or avoid certain taxes in the other country. In other words, it can help you avoid double taxation.
The purpose and objectives of the treaty are to support individuals and companies and promote business between the two countries by reducing tax burdens such as double taxation. If you’re a US citizen living in Portugal or a Portuguese citizen living in the US, this tax treaty will affect where you pay taxes and how much you’ll have to pay.
However, individual considerations and special cases can make tax treaties complicated to analyze and evaluate. You can find the entire 29-page Convention Between The Government Of The United States Of America And The Portuguese Republic For The Avoidance Of Double Taxation And The Prevention Of Fiscal Evasion With Respect To Taxes On Income, Together With A Related Protocol here. We’ll make it simpler to understand the key points.
What Are the Key Provisions of the Treaty?
The US-Portugal tax treaty addresses issues such as double taxation, tax residency, and the prevention of tax evasion. The main provisions of the treaty aim to establish how US or Portuguese citizens, who qualify as residents of the other country, are treated for tax purposes.
First, the treaty establishes the type of taxes covered, the general definition, and what constitutes residence or permanent establishment of citizens moving to another country. This is covered in Articles 1 through 5.
Then, the treaty lays out the definitions to decide an individual’s residence. Next, it specifies how different types of income are treated, including real estate, business, shipping and air transport, royalties, capital gains, freelance income, and director’s fees. These are outlined in Articles 6 through 24.
Finally, the treaty addresses relief from double taxation, non-discrimination, and a mutual agreement on procedures and exchange of information, as well as diplomatic and consular offices between the two countries.
How Does the Treaty Benefit US Taxpayers in Portugal?
The advantages of the treaty to US individuals and businesses operating in Portugal are diverse but generally come down to savings on taxes and simplified filings to avoid double taxation.
For example, you would qualify for reduced withholding rates on certain types of income, in which case withholding taxes on dividends paid cannot exceed 15%. In cases where the recipient of the dividends owns at least 25% of the company paying the dividends, the rate may be lower but not lower than 5%. In addition, withholding on royalties may not exceed 10% of the gross amount of royalties.
The treaty can help US taxpayers avoid double taxation and clarify their tax obligations in Portugal. However, tax laws between the two countries often require the support of a tax professional who understands taxation laws in both countries and the application of the treaty for your situation.
How Does Taxation Work in Portugal for US Citizens?
The way taxation works in Portugal for US citizens varies by individual situation. Key considerations are whether you’re considered a resident of Portugal and whether the income is earned in the US, Portugal, or somewhere else.
As a US citizen, you will qualify as a resident of Portugal if you live there for more than 183 days out of 365. US citizens who are classified as non-residents are subject to a flat 25% tax rate on income earned in Portugal. For residents, you’ll be taxed at applicable tax rates based on your income. These rates are progressive up to 48%.
However, you are not required to pay U.S. income taxes on your Portuguese-source income. Instead, you’ll file Form 2555 to claim the foreign earned income exclusion, up to $120,000 of foreign earned income, the foreign housing exclusion, or the foreign housing deduction.
Likewise, the Foreign Tax Credit (FTC) prevents double taxation for US expats. And don’t worry, if you’ve lived in Portugal for years and are behind in filing with the IRS, you can use the Streamlined Filing Compliance Procedure without penalties to back file tax returns.
In addition, Portugal introduced the Non-Habitual Residency Program to attract skilled workers and wealthy individuals to the country. Eligible individuals won’t have to pay taxes in Portugal on their foreign income for 10 years. If you work in Portugal under the NHRP program, you’ll get a 20% flat tax for that 10-year period. As an American living in Portugal, that’s a major benefit, as there’s no net wealth tax in Portugal.
How to Claim Treaty Benefits?
The process of claiming treaty benefits for US and Portuguese taxpayers simply involves proper income tax filings with the IRS and the Portuguese tax authorities. In addition to Form 2555 for foreign earned income exclusion and claiming a foreign tax credit with Form 1116, corporations may claim a foreign tax credit with Form 1118.
There are forms that you must file if you have foreign bank or financial accounts, a foreign investment company, or own 10% or more of a foreign corporation or foreign partnership. You will need to file these forms regardless of whether you owe income taxes or not.
Working with a qualified expat tax accountant is essential. They will be able to guide you on capital gains, dividends, income earned in other countries, and additional personalized considerations to file your taxes with both countries. Ready to get started? Learn more about US tax filing requirements for international founders, how to do your own business taxes, and how to file business taxes for your LLC for the first time.
Final Thoughts on the US Tax Treaty with Portugal
The US tax treaty with Portugal can ensure you’re not double-taxed while opening the door to a new lifestyle in a country with a rich culture. However, if tax filings seem complicated, you may need professional help. With doola tax packages, you’ll get worry-free tax filings with expertise specialized in helping the global community. Get doola’s help to simplify US tax filings today, or start your US business from Portugal.
Can the tax treaty affect my eligibility for benefits or credits in either country?
Yes, depending on which country you have citizenship in, and in which country you’re considered a resident, the tax treaty could affect your eligibility for certain benefits or tax credits.
Do I still need to file tax returns in both countries if I benefit from the tax treaty?
Yes, generally you will still need to file tax returns in both countries, but you’ll only be responsible for paying taxes in one country. Of course, there may be additional tax obligations for high earners or if you have income in both countries.
How can I determine my tax residency status under the tax treaty?
Under the tax treaty, if you’re an American living in Portugal for more than 183 days in any tax year, you’re a resident of Portugal for tax purposes. If you’re an employee of a US company that has a permanent establishment in Portugal, you may be considered a Portugal tax resident regardless of whether you meet the 183-day criteria.
Can the tax treaty protect me from being taxed by both countries on the same income?
Yes, the purpose of the US-Portugal tax treaty is to prevent you from being taxed by both countries on the same income. You will still need to make tax filings in both countries.
Are there any recent changes or updates to the tax treaty I should be aware of?
There are no recent changes to the tax treaty between the US and Portugal. However, changes in your situation, from residency to source of income to marital status may affect the application of the treaty and tax obligation for your situation. It’s important to speak with a certified tax professional who specializes in the US and Portugal tax treaty to ensure correct tax filings for both countries.