Tax Guide for US Expats Living and Working in Estonia
Who Is Liable For Income Taxes in Estonia
Residents of Estonia are subject to tax on their worldwide income. Nonresidents may not claim the deductions and allowances available to residents, unless they are residents of European Economic Area (EEA) member states and they derive at least 75% of their taxable income from Estonia and submit an income tax return in Estonia.
For tax purposes, individuals are considered to be resident if they have a permanent place of residence in Estonia or if they remain in Estonia for at least 183 days during a period of 12 consecutive calendar months. Effective from 1 January 2011, natural persons must inform the tax authorities about the establishment or change of their Estonian residency by submitting a special tax form.
Income subject to tax. Income for tax purposes is income derived from all sources, including salaries, wages, pensions, scholarships, grants, lottery prizes, directors’ fees, insurance indemnities, payments from a pension fund (supplementary or voluntary pension), rent payments, royalties, interest accrued from loans, securities, leases or other debt obligations, and other payments made for services rendered (under contracts governed by the Law of Obligations, which stipulates the terms of civil law agreements).
Individuals acting independently in their own name and at their own risk are subject to income tax on income derived from self-employment or entrepreneurial activities.
Education allowances provided by employers to their local or expatriate employees’ children are taxable for income tax and social tax purposes.
Items excluded from taxable income. In general, fringe benefits, including a company car, housing, lunch vouchers and similar items, are not treated as taxable income of the recipient. Instead, the company pays the income tax on fringe benefits. However, foreign employees working in Estonia who are paid solely by a foreign company must pay income tax on fringe benefits received from the foreign company.
Various items are excluded from the taxable income of residents including, but not limited to, the following:
- Inheritances received (accepted succession)
- Gifts received from other individuals, state or local government authorities, resident legal persons or nonresidents through or on account of their permanent establishment registered in Estonia
- Insurance proceeds received under insurance contracts
- Dividends received from resident companies
- Dividends received from nonresident companies, if income tax was paid on the share of profits out of which the dividends were paid or if income tax on the dividends was withheld in a foreign
- country
- Income from the exchange of a holding (for example, shares) in the course of a merger, division or transformation of companies or nonprofit associations
- Income from the increase or acquisition of a holding in a company through a nonmonetary contribution
- Income from the exchange of units of an investment fund in the EEA
- Interest received from credit institutions resident in the EEA and branches of nonresident credit institutions located in the EEA
- Income from transfers of movable property used for personal purposes
- Gains derived from transfers of real estate, structures or apartments treated as movables or as contributions to housing associations, if the asset is privatized under government order, is received as restitution for the unlawful alienation of property or is used as the taxpayer’s primary or permanent place of residence
- Gains derived from transfers of summer cottages or garden houses owned by residents for more than two years if the size of the land related to the cottage or house does not exceed 0.25 hectares
- Employment income and service fees for working in a foreign state if the individual has stayed in the foreign state for the purpose of employment for at least 183 days during a period of 12 consecutive calendar months and if the relevant income has been included in the taxable income of the person in the foreign state and this is certified, with the amount of income tax indicated on the certificate (even if the amount is zero)
- Per diem allowances and accommodation costs of business trips, and compensation for business use of a private car, in accordance with the prescribed rates
- Childbirth allowances paid by an employer to an employee or public servant, in an amount not exceeding 5/12 of the basic exemption (€1,728 in 2011) granted to a resident individual during a tax year (see Section D)
- In-service training and retraining of employees paid for by the employer on termination of the employment or service relationship as a result of redundancy
- Payments at prescribed rates by an employer for the treatment of damage caused to the health of an employee or public servant as a result of an accident at work or an occupational disease
- Payments made to diplomats on the basis of the Foreign Service Act
- Benefits paid to victims of crime under the law
- Lottery winnings received from a lottery organized on the basis of an operating permit and gambling winnings received from a person holding an activity license for the organization of gambling
- State pensions and scholarships and other scholarships
- Property returned as restitution in the course of ownership reform
In addition, compensation for certified expenses incurred for the benefit of another person and compensation for direct proprietary damage that is not paid with respect to entrepreneurial activities are not deemed to be taxable income of a resident, except for compensation that is paid subject to separate terms, conditions and limits, such as compensation for the business use of a private car.
Self-employment income. All income attributable to self-employment or entrepreneurship is subject to income tax and social tax. General partnerships are taxed as entities.
Investment income. Dividends received by residents from resident companies are exempt from tax. Residents are taxed on all dividends and other profit distributions received from foreign companies unless income tax was paid on the profit out of which the dividends were paid or unless income tax on the dividends was withheld in a foreign country.
Dividends paid to nonresident shareholders are not subject to withholding tax.
Dividends and profit distributions paid by resident companies are subject to corporate income tax at a rate of 21/79 of the net amount at the level of the distributing companies. This tax is not a withholding tax and is paid by the company in addition to the amount of dividends distributed.
Interest received with respect to deposits and bank accounts by resident individuals from resident credit institutions, credit institutions resident in the EEA and branches of nonresident credit institutions located in the EEA is exempt from tax.
Rental payments and royalties paid to resident individuals are subject to withholding tax at a rate of 21%.
Nonresidents. Nonresident individuals are taxed on the following types of income derived from Estonian sources:
- Income from the alienation or lease of assets registered in Estonia
- Interest received from the Republic of Estonia, residents of Estonia and nonresidents with a permanent establishment registered in Estonia, to the extent that the interest received significantly exceeds the amount of interest payable on a similar debt obligation under the market conditions
- Royalties and income from sales or licenses of patents, copyrights, trademarks, software, know-how and other information received from Estonian persons
- Liquidation distributions and payments related to a company’s reduction of its stock capital, to the extent the amount received exceeds the acquisition cost of the shares, except for the portion of the amount received that has been taxed at the level of the company making the payments
- Salary, wages and other employment income for work performed in Estonia if more than 183 days are spent in Estonia or if the payments are made by a resident or a nonresident registered in Estonia
Nonresidents are exempt from tax on the following types of income:
- Inheritances received (accepted succession)
- Income from the transfer of movable property used for personal purposes
- Expropriation payments and compensation paid on expropriation
- Income from the exchange of a holding (for example, shares) in the course of a merger, division or transformation of companies or nonprofit associations
- Income from the increase in or acquisition of a holding in a company through a nonmonetary contribution
- Income from the exchange of units of an investment fund in the EEA
- Interest received by nonresident individuals from resident credit institutions or branches of nonresident credit institutions entered in the Estonian commercial register
- Per diem allowances and accommodation costs with respect to business trips, and compensation for business use of a private car, in accordance with the prescribed rates
Taxation of employer-provided stock options. Under new rules, effective from 2011, grants of stock options are not considered taxable. However, the income received from the transfer of employer-provided stock options or from the exercise of stock options, is considered a fringe benefit that is taxable to the Estonian employer for purposes of income tax and social tax.
Effective from 2011, fringe benefits include benefits that are provided by other group entities to the Estonian employee. The taxable value of a fringe benefit is the difference between the fair market value of the securities and the purchase price paid by the employee.
No tax obligations are imposed on employees with respect to the receipt of nonmonetary benefits from Estonian or foreign employers. Employees must report income and pay income tax when a gain is derived from the sale of the shares. A capital gain equals the sales price reduced by the acquisition price and by the taxable value for income tax purposes of the fringe benefit paid by the employer.
Capital gains. Capital gains derived by resident individuals with respect to the following sources are not subject to income tax:
- Transfer of movable property in personal use
- Transfer of land and assets returned in the course of ownership reform
- Transfer of a dwelling house or an apartment, if it has been used as a permanent home until transfer (applicable to one transfer of residence during a two-year period), received as restitution or acquired as a result of privatization with the right of preemption and if the size of the related land does not exceed two hectares
- Transfer of a summer cottage or garden house if it has been owned for more than two years and if the size of the related land does not exceed 0.25 hectares Capital gains derived from the sale of business property or securities are taxable at a rate of 21%.
Effective from 2011, natural persons can register their bank accounts as investment accounts and defer the taxation of financial income until it is withdrawn from the accounts; that is, it is possible to invest the income gained from some common financial investments without being liable to annual taxation on such income.
Nonresident individuals are taxed on gains derived from the sale of property located in Estonia, excluding securities issued by companies registered in Estonia. However, this exclusion does not apply if the transferred holding is a holding in a company, contractual investment fund or other pool of assets and if both of the following circumstances exist:
- At the time of the transfer or during the two-year period before the transfer, more than 50% of the property of the company, fund or pool of assets was directly or indirectly made up of immovables or structures as movables located in Estonia.
- At the time of transfer, the nonresident had a holding of at least 10% in the company, fund or pool of assets.
Deductions
Deductible expenses and exemptions. Estonian residents, as well as residents of other EU member states who derive at least 75% of their taxable income from Estonia and file an income tax return in Estonia, may claim deductions for the following items:
- Gifts to nonprofit organizations registered as tax favored in the EEA. The deduction of such admission and membership fees and gifts is limited to 5% of taxable income for the tax year of the payments.
- Unemployment insurance premiums, acquisitions of pension fund units and contributions to mandatory funded pensions.
These deductions are limited to 15% of income for the tax year, after subtracting the deductions from business income.
- Training expenses, which include costs of educating individuals and their dependents who are under 26 years old and permanent residents of Estonia who are under 26 years old and in certified educational institutions.
- Interest paid to EEA credit institutions on housing loans for the purpose of acquiring an apartment or dwelling house.
The total amount of deductible gifts, housing loan interest and training expenses for a tax year is limited to €3,196 or 50% of an individual’s income after business deductions.
In addition to the above deductions, the following tax exemptions apply for each tax year under the same circumstances:
- Basic tax exemption of €1,728
- Additional tax exemption of €1,728 for each child beginning with the second child
- Additional tax exemption of €2,304 for retirement allowances if a person receives a state pension, a mandatory funded pension or a pension arising from a social security agreement
- Additional tax exemption of €768 for work accident or occupational disease compensation
Effective from 1 January 2011, the deductions and exemptions for a resident natural person are restricted if the income earned abroad is not taxed in Estonia (for example, the exemption method applies) and if the individual derives at least 75% of his or her taxable income abroad during the tax period. In this case, an Estonian resident can claim deductions only from the income taxable in Estonia pro rata based on the percentage of Estonian income in the total taxable income (worldwide income).
Also, effective from 1 January 2011, other EEA residents with at least 75% Estonian income may claim the deductions described above from income taxable in Estonia pro rata based on the percentage of Estonian income in the total taxable income. As a result, if the income derived in Estonia is 75% of the global income of the nonresident, the individual is entitled to 75% of the applicable tax deductions. In addition, EEA residents with less than 75% Estonian income may be entitled to claim the Estonian tax deductions listed above if the person proves that he or she is not entitled to the tax deductions abroad.
Business deductions. Registered individual entrepreneurs may deduct documented expenses directly related to entrepreneurial or self-employment activities, including expenses for work-related advanced training and retraining of employees, and losses incurred from the disposal of assets (except for losses incurred on the sale of securities). If certain expenses are only partly related to the entrepreneurial or self-employment activities, only the part directly related to those activities is deductible.
Documented expenses for entertainment, recreation, reception (catering, transport or cultural expenses incurred to serve clients or business partners) and other expenses incurred for clients or business partners with respect to entrepreneurial or self-employment activities may be deducted from income, up to a maximum amount of 2% of adjusted income. Adjusted income is financial income after adjustments for nontaxable income and expenses that are not deductible for tax purposes.
Credits. Residents may claim a credit for foreign tax paid, up to the amount of Estonian tax attributable to the foreign-source in come. The rules regarding the calculation of the credit are summarized below.
Income tax is calculated separately for income derived in Estonia and for income derived in each foreign country. The individual must pay in Estonia the difference between the foreign income tax and Estonian income tax if the income tax calculated on income derived from abroad exceeds the amount of income tax paid in the foreign country. The overpaid amount of income tax abroad is not refunded in Estonia.
If the income tax on income derived in a foreign country is paid during a tax year other than the tax year in which the income is derived, the foreign income tax is taken into account in Estonia during the tax year in which the income taxable in a foreign country is received.
Income tax withheld on interest payments in accordance with the procedure contained in Article 11 of Directive 2003/48/EC of the EU Council (on interest payments) received by a resident individual from a resident of Austria, Belgium or Luxembourg may be credited against the income tax payable in Estonia on the income for the same tax year. The portion of the income tax that is not credited is refunded based on the individual’s income tax return.
Relief for losses. Losses from entrepreneurship, except losses incurred on the sale of securities and receivables, may be offset against income derived from other sources of entrepreneurship.
Losses may generally be carried forward for seven years. However, losses incurred on the sale of securities may be carried forward indefinitely.
B. Inheritance and gift tax
Inheritance and gift taxes are not levied in Estonia. However, gifts received from nonresident entities are taxed at a rate of 21%.
C. Social security
Contributions. Social tax is levied on employers at a rate of 33%; employees are not liable for social tax. No ceiling applies to the amount of salary subject to social tax. In addition, an unemployment insurance charge is imposed on gross salary. The unemployment insurance rates are 1.4% for employers and 2.8% for employees. The unemployment insurance charge is withheld by employers.
Self-employed persons must pay social tax at a rate of 33% on their net business income, subject to a maximum amount of annual income equal to 15 times the sum of the minimum monthly wages for the tax year (€50,042.82 for 2011). Self-employed persons must make quarterly advance payments of social tax to the Tax and Customs Board by the 15th day of the 3rd month of the second, third and fourth quarter. Each payment must be at least €275.27 (€1,101.33 for the calendar year).
Totalization agreements.
Estonian social security legislation follows the rules provided in European Council Regulation No. 883/2004. Estonia has also entered into totalization agreements on social security with Canada and Ukraine.
We have been preparing US income tax returns for US Citizens and permanent residents living in Estonia for over 15 years. As a US Citizen or permanent resident (green card holder) you are required to file a US return each year regardless of the fact that you file and pay taxes in your residence country. The expatriate earned income exemption ($100,800 for 2015) can only be claimed if you file a timely tax return. It is not automatic if you fail to file.
We have scores of clients located in Estonia and know how to integrate your US taxes into the local income taxes you pay. Any income tax you pay there can be claimed as a dollar for dollar credit against the tax on your US return on the same income.
As an expat living abroad you get an automatic extension to file until June 15th following the calendar year end. (You cannot file using the Estonia tax fiscal year for US tax purposes). You must pay any tax that may be due by April 15th in order to avoid penalties and interest. You can get an extension to file (if you request it) until October 15th.
There are other forms which must be filed if you have foreign bank or financial accounts; foreign investment company; or own 10% or more of a foreign corporation or foreign partnership. If you do not file these forms or file them late, the IRS can impose penalties of $10,000 or more per form. These penalties are due regardless of whether you owe income taxes or not.
There are certain times you may wish to make elections with respect to your Estonia Corporation or Investment Company which will give you US tax benefits. There are other situations where forming a US corporation to receive your business income may be more advantageous than using a corporation in your resident country. We can help you with these decisions.
If you are self-employed while working in Estonia, you will have to pay US self-employment taxes (social security). If you are a bona-fide employee you do not have to worry about paying US social security on your wages earned in Estonia.
We have helped hundreds of expats around the world catch up because they have failed to file US returns for many years. Unfortunately, unlike India, Canada, UK, etc. you must also file so long as you are a US citizen or resident. You can if you follow proper IRS and State Department procedures surrender your US Citizenship and therefore cut off your obligation to pay US taxes in the future. You must surrender that Citizenship for non-tax avoidance reasons and then can usually not return to the US for more than 30 days per year for the subsequent ten years.
Let us help you with your US tax returns, US tax planning and other US tax and legal concerns. Download our expat tax questionnaire or request a consultation by phone, skype or email