Tax Terms for Digital Nomads: Citizenship, Residence and Tax Residence
Being a digital nomad and travelling while you work is an attractive lifestyle for many. The freedom to work from foreign countries presents a great opportunity to see the world while maintaining the stability of a regular income.
But things can get complicated when it comes to determining whether you are a citizen, resident or tax resident in either your foreign country or your home country.
FreshOps founder Michael Darby says:
“Citizenship, residence, and tax residence are three key terms for digital nomads. While your citizenship is unlikely to change, as a remote worker your residence and tax residence may change frequently. Your tax residence status can even change without your knowledge, so it’s crucial to get clued up on the specific rules for each jurisdiction you plan on entering.”
In this article we explain the difference between citizenship, residence and tax residence, and what it means for digital nomads.
What Is Citizenship?
Citizenship is perhaps the most straightforward of the three statuses, since it is usually determined by where you are born and it is less likely that it will change. For example, if you were born in the USA you are an American citizen by default, and you have a right to live and work in the country.
Citizens can vote and hold positions in public office, and they have a passport that identifies them as a citizen of that country.
It is possible for people to gain citizenship in a country other than the one they were born in, but it usually involves living there for a number of years as a resident, taking a citizenship test and fulfilling other requirements too.
Some jurisdictions (many of which are in the Caribbean such as St Kitts and Nevis) offer citizenship by investment, which requires a significant monetary investment into a government fund in return for citizenship.
Citizenship-Based Taxation
There are only two countries that tax their citizens regardless of whether they are living in the country or not, and these countries are the USA and Eritrea.
While the USA does have Double Taxation Agreements (DTAs) with many countries to stop US citizens from paying tax in the USA and the foreign country they are living in, Americans living abroad are still required to file a US tax return each year – even if they don’t need to actually pay any tax. This is also true for green card holders.
What Is a Green Card?
A green card, known officially as a permanent resident card, is an identity document which shows that an individual has permanent residency in the United States. Green card holders are formally known as lawful permanent residents of the USA and can apply for citizenship after either three or five years, depending on whether they are married to a U.S. citizen.
What Is Residence?
Residence is defined as the place where you are currently living. Your place of residence can be different to your citizenship, and often this is the case for digital nomads. For example, you may be a citizen of Britain, but a resident in Portugal.
There are a number of important distinctions between citizens and residents. For example, citizens are eligible for a passport issued by the country, whereas residents are not. Citizens are also able to vote in the country, while residents do not have this right.
It is possible for residents to apply for permanent residence or even citizenship, but they are usually required to live in the country for a number of years, take a citizenship test, and sometimes even renounce their citizenship of their original country.
What Is Tax Residence?
Here’s where things get a little more complicated. Your tax residence (sometimes called fiscal residence) is the country where you pay your personal income tax. Different countries have their own definitions of what a tax resident is, but generally speaking you will be considered a tax resident of a country in which you:
- Spend six months or more per year (the 183 day rule).
- Have a ‘permanent home’ available to you (you do not have to own it).
- Have your ‘centre of vital interests’ (strong personal and economic ties).
Can You Be a Tax Resident of More than One Country?
The short answer is yes – it is possible to be a tax resident in more than one country, depending on how long you spend in each country per year.
For example, you could be a US citizen who spends more than six months per year living in Portugal, but you have a ‘permanent home in the U.S.” making you technically eligible to pay taxes in both countries.
However, the U.S. has set up Double Taxation Agreements (DTAs) with many countries (including Portugal) to reduce or eliminate an individual’s tax liability and avoid double taxation.
Understanding DTAs can be complex, and in the above example individuals may still be required to file a U.S. tax return, even if they don’t need to actually pay any tax there. More information on DTA’s can be found here.
Why is this important?
Understanding your citizenship, residence, and what triggers tax residency can be hugely important, especially for digital nomads, as it can significantly increase or decrease your tax obligations. Digital nomads often move frequently between countries, and each country has its own rules for determining tax residency. Being aware of these rules is crucial because they dictate where and how much tax you need to pay.
Furthermore, if you leave it too late, you could be stung with a large, unexpected bill should the authorities come knocking. Many countries have strict penalties for failing to comply with tax regulations, including fines and back taxes. Getting ahead of an expected move and understanding the relevant requirements will prevent your wallet getting hurt!
Looking for Help Understanding Your Tax Status as a Digital Nomad?
If you’re a remote worker, understanding your tax obligations can seem like a headache. Our network of lawyers and tax experts at FreshOps can help you to gain clarity on tax residence and ensure that you remain compliant with overseas tax regulations.
Send us an email at admin@fresh-ops.co.uk for expert advice tailored to your needs.