The End of Tax-Free Living in Portugal?

I wanted to get away from writing about life here in Portugal, but some potential changes in tax laws have come to light in the past week that merit the attention of this week’s posting. First, I’ve written about the tax benefits of Non-Habitual Residency here in Portugal. Accounting firms have referred to it as Europe’s best kept secret. The Portuguese Communist Party has been pushing for an end to NHR for several years without any success. However, this year, they may be able to push through changes to the retirement scheme for pensioners. This week’s blog is going to preview those changes and outline how you can plan to best keep your own tax bill at a minimum. 

What is NHR?

The system of NHR available in Portugal allows foreign residents to avoid Portuguese tax, or to pay a reduced rate, for a period of ten years. For more on this, check this posting

Why NHR?

The Portuguese people aren’t foolish. They aren’t giving tax advantaged residency to foreigners just to be nice. The influx of foreign money is beneficial to the local economy- particularly in rural areas. The Portuguese minimum wage is 700 a month. Many foreigners come with more cash to spend. I easily spend triple the Portuguese minimum wage in restaurants alone each and every month. Plus, after NHR expires (ten years), expats who are Portuguese tax residents will be subject to the same tax rates as locals- which are HIGH! The highest tax bracket here in Portugal is 48%. Even those earning over 36,856 are taxed at a rate of 45%. So, there is the potential for substantial future tax revenue for the Portuguese government. 

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Why do people want change?

There are a lot of Portuguese people who absolutely hate NHR. That’s understandable. They pay high taxes themselves and get to see new foreign residents enter their country and pay nothing- or next to nothing. What’s more, is that those same foreign residents get access to Portuguese social services, such as universal healthcare. The other side of the argument is that those foreign residents are bringing more money to the local economies than many local people do. There’s truth in both sides of the argument. 

What changes are coming?

It appears that the preferential tax rate for income earned within Portugal will remain in place (20%). The list of high value professions has been amended, as is common with many governments who try to attract skilled labor. However, the proposed changes will be to pension income. There is a lot of noise at the moment, and some sources have indicated that the government hopes to charge a minimum of 7,500€ or 10% of pension income (whichever is greater) to foreign retirees. What seems clear is that the government is seeking to tax pension income (which would previously be tax-free) at a reduced rate. 

What does it mean to you?

If you’re collecting a pension, it means you may have to pay. If you’re an American, you may be able to apply the foreign tax credit to your US return. Depending on your income, this may not affect you much. If you’re a low earner, who is just getting by (and the 7,500€ minimum really does come to pass) then these changes could be seriously life altering. I have spoken to several expats who fund their retirements almost exclusively through social security and would be forced to leave Portugal if they incurred such a heavy tax burden. There is also talk that those who are previously part of the NHR scheme will be grandfathered in. Again, there is a lot of uncertainty at this point. For me, being far from official retirement age, the proposed changes are scary because they indicate that the government is tightening the purse strings and more taxes may be likely in the future. I love Portugal, but if I were working for 52 cents on the dollar, I would be gone in a New York minute.

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Planning For Change

I see three possible approaches to the impending change:

Leave

Some people will do this. I think this may be the only option if the rumor of a 7,500€ becomes a reality. That seems incomprehensible to me, but this is a country with an exceptionally high tax burden placed upon its citizens. Having said that, it would be a real letdown as Portugal is a beautiful country that really offers so much to citizens and expats.

Pay the Tax

Many people will choose to pay the tax on their pension income here and look into taking advantage of the foreign tax credit. If US residents who pay a reduced rate in Portugal have a very large US tax bill, they may receive a credit for the amount of tax they pay in the US. Thereby reducing their US tax bill by the amount of Portuguese tax which is paid. This would be effective for those receiving pension income, as this income would be taxable in the US regardless of where you are in the world. If the Portuguese government decides in the future to scrap NHR altogether, this would be huge hit to those who are earning income here in Portugal (digital nomads).

Get a Passport and Become a Non-Resident

 

Six years. That’s all it takes to get a Portuguese passport- six short years. After five years living here, you can become a permanent resident. After one year living as a permanent resident, you can apply for your passport. After you have a Portuguese passport, you can come and go as you please. Americans who own property here (like me), can enter and stay as long as they like. If you choose not to be a tax resident of Portugal (wise given the outrageous tax rates here), you can choose to stay for less than 180 days and avoid the pitfalls of Portuguese taxation. This would be a decision that each person would have to make based on his/her own financial situation. I’m not sure that paying exorbitant taxes for six years is worth it to receive a second passport, but that is decision that each person will have to make.

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Final Thoughts

Portugal is a great place to live. Whatever your opinion of the tax regime and the proposed changes to NHR, the Portuguese government needs to do what is in the best interest of their citizens. By the same token, those who’ve chosen to make this country home or are considering doing so, need to make an informed decision about what is best for themselves and their families. It would be best if the government would come to a decision on this and communicate it clearly to all residents and prospective expat residents. Like many things here in Portugal, there is not a lot of clarity and transparency on the issue. Hopefully this will be sorted out sooner rather than later. 

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Norita
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Norita

So for a pensioner, the worst case scenario is that I would pay 10% tax on my gross or net income?