The new Portuguese tax regime for non-habitual residents

Ricardo da Palma Borges*

1. The Decree-Law

Decree-Law nr. 249/2009, of September 23, approved the Tax Code of Investment (“Código Fiscal do Investimento”), which, among other measures directed at improving Portuguese international competitiveness, created a new Personal Income Tax (“Imposto sobre o Rendimento das Pessoas Singulares”, hereinafter “IRS”) regime for non-habitual resident individuals.

This status would apparently be granted to individuals who became resident for tax purposes in Portugal starting from January 1, 2009 without having had this status in the five years preceding its acquisition.

Non-habitual resident individuals may enjoy such status for a ten year period, after which they will be taxed under the standard IRS regime.

Portuguese tax residence for IRS purposes, in a given fiscal year, may be acquired via a number of different ways, such as:

1. Staying for more than 183 days in the Portuguese territory, whether these days are consecutive or not;
2. If staying for a shorter period, having in the Portuguese territory, on the 31st of December, a dwelling under circumstances that lead to the presumption of an intention to hold and occupy it as a place of habitual abode; 
3. Being, on the 31st of December, a crew member of a ship or aircraft at the service of an entity with residence, head office or effective management in Portugal; or
4. Being a member of a household where one of the spouses is, on the 31st of December, a Portuguese tax resident.

The new tax regime targets non-resident individuals who are likely to establish a permanent or a temporary residence in Portugal.

The regime includes two different sets of rules, one of them applicable to foreign-sourced passive income, similar to non-domiciled taxation regimes such as the ones of the United Kingdom and Switzerland, and the other to active income, in this case encompassing income derived both from foreign and domestic sources, following expatriate, rectius impatriate, taxation regimes such as the ones existing in Spain and France.

Under the first set of rules, passive income derived by non-habitual residents will be IRS exempt (with progression) in Portugal, provided that it may be taxed in the source State under the rules of a tax treaty entered into by Portugal or, if no treaty exists, that i) it may be taxed in the source State according to the rules of the OECD Model Tax Convention on Income and on Capital, as interpreted according to the Portuguese reservations on its articles and observations on its commentary; ii) it is not considered to arise from a Portuguese source under the IRS Code territoriality rules; and iii) the source State, region or territory is not included in the Portuguese tax havens’ black list.

The regime requires only a potential liability to taxation in the source State under the rules of a tax treaty or of the OECD Model Tax Convention, no effective taxation being thus required. However, in respect of income deriving from pensions, taking into account its specific nature, this will not be the case. Actual taxation under the rules of a tax treaty or, in the cases where no treaty is in place, no connection of the income with the Portuguese territory under the territorial scope rules of the IRS Code, is required in order for the exemption regime to be applicable.
The passive income included in this regime comprises interest, dividends, capital gains and other income from capital, income from immovable property and pensions.

The second set of rules will be applicable to active income deriving from employment, independent personal services and also to royalties.

Under it, foreign-sourced employment income will be exempt (with progression) from IRS, provided that it is taxed in the source State according to the rules of a tax treaty entered into by Portugal or, if no treaty is in place, that it is taxed in the source State and that it is not considered to arise from a Portuguese source under the IRS Code territoriality rules. Income from independent personal services and royalties will be exempt (with progression) if it may be taxed in the source State according to the rules of a tax treaty entered into by Portugal or, if no treaty is in place, that i) it may be taxed in the source State according to the rules of the OECD Model Tax Convention on Income and on Capital, as interpreted according to the Portuguese reservations on its articles and observations on its commentary; ii) it is not considered to arise from a Portuguese source under the IRS Code territoriality rules; and iii) the source State, region or territory is not included in the Portuguese tax havens’ black list.

Effective taxation is therefore only required in regard of employment income. However, the independent personal services exemption will only be applicable to income derived from certain high value added activities of a scientific, artistic or technical nature, as defined by a Ministerial Order.

Income deriving from employment or independent personal services of a domestic source or from a foreign source, but, in the latter case, not qualifying for the exemptions applicable under the first set of rules, will be liable to autonomous taxation at a special 20% flat rate and not to the general and progressive IRS rates (whose higher bracket is 42%), provided that it derives from high value-added activities of a scientific, artistic or technical nature.

Non-habitual residents deriving foreign-sourced income that will be IRS exempt under both these sets of rules will be allowed to opt, in its regard, for the credit method, the standard method for the elimination of international double taxation in Portugal. Whenever this option is exercised, the income will be taxed under the standard IRS regime, being liable either to progressive rates of up to 42% or to special lower flat rates, depending on its nature.

Additionally, non-habitual residents deriving income taxed at the special 20% flat rate may also opt for the standard IRS regime in its regard. However, individuals exercising this option and also earning foreign-sourced income eligible for the above mentioned exemptions should beware that it implies that all of their income will be, in this case, taxed under the standard IRS progressive rates (no flat rates whatsoever being applicable), and that the credit method will switch-over (the exemptions therefore being lost).

Recently, two relevant developments for the application of the regime have unfolded.

2. The Ministerial Order

The first of these developments was the publication of Ministerial Order no. 12/2010 of January 7 defining “high value added activities of a scientific, artistic or technical nature” for the purposes of the regime in January 7, 2010. The main feature to be highlighted from this Order is the fact that sportspersons’ activities are not included in the scope of such activities, contrarily to what was initially expected and thereby departing this regime from the well known and so-called Spanish “Beckham Law”.

Nevertheless, the Ministerial Order encompasses a wide range of activities and professions, such as architects, engineers, artists, actors, musicians, auditors, medical doctors, dentists, college professors, psychologists, computer technology and data processing activities, news service activities, scientific investigation activities and company’s senior personnel, as well as investors, directors and managers of companies benefiting from tax relief contracts entered into with the Portuguese Republic.

3. The Administrative Ruling

The second development is the recent issuing of Administrative Ruling no. 2/2010, of May 6, by the Portuguese tax authorities, dealing with practical aspects of the regime, namely its application in 2009 and the requirements to obtain the non-habitual resident status.

Concerning the application of the regime in 2009, Portuguese tax authorities therein assume the position that the features depending of the definition of the qualifying activities (the 20% flat tax rate for employment and independent personal services income, as well as the exemption for foreign-sourced independent personal services income) will only apply starting from fiscal year 2010.

The remaining features of the regime (the exemptions for other types of foreign sourced income) will be applicable in 2009. However, this position is likely to raise doubts, as the law sets out that the benefits of the regime are granted for a 10-year period. It thus remains to be seen if this 10-year period will be taken into account in different ways, starting in 2009 for the benefits not depending on the Ministerial Order and in 2010 for those which are.

In regard of the requirements to obtain the non-habitual resident status, the ruling takes the position that for those becoming Portuguese tax residents in 2009 the regime will only be applied on a case-by-case basis, and to:

1. taxpayers registering as tax residents “under the assumption that they would be covered by the regime”; and
2. doing so after 23 September 2009, the publication date of the Decree-Law approving the regime.

Both of these requirements may be viewed as illegal, as the Decree-Law establishes that it is applicable starting from 1 January 2009 and the regime itself determines that its benefits must be granted automatically to all persons registering as a Portuguese tax residents and not having been taxed as such during the previous five years, regardless of any request by the taxpayer.

The ruling creates an additional requirement: the potential beneficiaries are also requested to present a foreign certificate of residence establishing that they have suffered an effective tax burden abroad prior to their redomiciliation into Portugal.

Several objections can be made to this requirement. The first of them is that Portugal has no sovereignty to control the conditions under which foreign States grant tax resident status. Secondly, the regime only requires taxpayers not to have been treated as Portuguese tax residents for the five years preceding the acquisition of this status and makes no demands concerning the previous tax residence. Therefore, in our view, no certification of a past tax residence may be demanded. This view is further enhanced by the fact that there is case law in Portugal declaring the illegality of administrative rulings requiring the presentation of foreign certificates of residence in the absence of a law so providing.

Finally, it must be noted that vis-à-vis “company’s senior personnel” the ruling has adopted a very restrictive view on this issue, defining that only persons with management roles and powers to bind companies may fit into this category.

Despite these nuisances, it is still expected that this tax regime for non-habitual residents will be effective in the attraction to Portugal of the high net worth individuals, increasing demand in the domestic market, and fostering increased fiscal revenue, namely in regard of real estate and consumption taxes, from individuals that otherwise would not be taxpayers in Portugal. Moreover, it should encourage the return of highly qualified Portuguese nationals currently domiciled abroad.

We trust that the restrictive position of the Portuguese tax authorities will not curtail a more widespread enjoyment of the vast opportunities present by the regime. In view of its complexity, proper legal advice is recommended before a decision to become a Portuguese tax resident in order to take advantage of the non-habitual resident status.

* Specialist Lawyer in Tax Law by the Portuguese Bar Association / LL.M.
  Ricardo da Palma Borges & Associados - Sociedade de Advogados, R.L.