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US LLCs are one of the most common and attractive tax planning structures in Portugal and particularly for benefiting from the NHR scheme. 

The extensive use of US LLCs as a tax planning vehicle in Portugal can be traced back to a binding ruling that was requested by a taxpayer quite some time ago (processo 2360/2016).

Case 2360/2016

It is important to remember that such a ruling is limited to the facts of the matter and that it can change in the future. However, the ruling provided important information on the manner in which the Portuguese tax authorities view US LLCs.

In that ruling, the relevant LLC was taxed as a partnership and it was a finding of fact that it was not managed or directed from Portugal.

The Portuguese tax authorities considered the fact that an LLC is a transparent entity in the United States and that income passes to the members but arrived in the conclusion that only companies that are professional societies or companies for simple administration of assets could be tax transparent in Portugal, as these are the type of companies that can be transparent under Portuguese law.

It follows that for companies that are not one of the above structures (not professional companies or holding companies), an LLC will not be considered transparent. 

Flowing from there, the income from the LLC was classified as "other income" that both countries have the right to tax and the taxpayer was charged at a 28% tax. Importantly, the taxpayer in that case have not benefit from the NHR scheme. Had the NHR scheme been applied, the outcome of the fact that both countries have the right to tax the income would have been zero tax in Portugal.

This case led to an avalanche of tax planning using US LLCs, taking advantage of the different tax treatment (transparent/pass-through in the US, opaque in Portugal) and taking full advantage of the Portuguese NHR regime.

It is important to remember, however, that the case has been limited to the specific circumstances and also carefully read the clues from this case. It is our view that LLCs that are used as a vehicle for income from work done in Portugal could be taxed in Portugal under a number of doctrines, but the risk profile of different cases is on a very wide spectrum.

How can Portugal tax LLC income?

Risk 1 - interpretation changing

One option is that the tax authorities will change their interpretation. "hard cases make bad law" and in the relevant case the taxpayer did not have NHR. It is possible that the authorities will change their view. We believe that it is less likely - a conclusion of transparency is not well-supported in Portuguese law. The finding that an LLC is not a transparent entity is a fairly common finding and the same finding has been reached in a number of other countries, including the UK. 

Risk 2 - different treatment for single person disregarded entities

The relevant case dealt with a partnership. Many LLCs are single-person pass-through entities. Whilst a single person pass-through entity is still an LLC, it is not required to have an EIN (employer identification number) and is not required to file a separate tax return. These factors could weigh against considering a single-person LLC as a company in a similar manner as a partnership was considered to be a company. However, hypothetically a single-person LLC that is not member-managed is more likely to be deemed a company than a member-managed LLC. 

Risk 3 - the LLC is a resident in Portugal

In the relevant case, there was a finding of fact that the company was neither managed not directed from Portugal. Accordingly, if a company is managed from Portugal it would be deemed a tax resident in Portugal. 

There is no single definition of the "place of effective management" but some guidance is offered in paragraph 24 in the Commentary on Article 4 which was included in the 2000 Update to the Model:

“24. …The place of effective management is the place where key management and commercial decisions that are necessary for the conduct of the enterprise’s business are in substance made. The place of effective management will ordinarily be where the most senior person or group of persons (for example a board of directors) makes its decisions, the place where the actions to be taken by the enterprise as a whole are determined; however, no definitive rule can be given and all relevant facts and circumstances must be examined to determine the place of effective management. An enterprise may have more than one place of management, but it can have only one place of effective management at any one time.” 

Different factors that have been taken by courts over the world have been: 

− Place of incorporation.
− Place of residence of shareholders and directors.
− Where the business operations take place.
− Where financial dealings of the company occurred; and
− Where the seal and minute books of the company were kept.

Risk 4 - permanent establishment

Even if effective management of the company is not in Portugal, the income associated with a permanent establishment could be taxed in Portugal. Permanent establishment is often created when there is a permanent physical office in Portugal (an office will typically be seen as permanent if it exists for more than 6 months) or where a director with the ability to bind the company in contracts resides in Portuguese territory.

Risk 5 - Portuguese-sourced income

Even if a company is managed from outside of Portugal and does not have a permanent establishment in Portugal, there is still a path to taxation. A country can still tax income sourced in its territory. However, the burden of proof is on the tax authorities.

Defending LLCs from Portuguese taxation

As can be seen above, there are multiple ways for tax authorities to try and tax income. In practice, authorities would rarely carry out an FBI-style enquiry and would normally focus on relatively "low hanging fruit". 

For our clients who are considering LLC structures, we often offer the following advice:

- Partnerships are more defensible than single-person-disregarded entities.

- An overseas management reduces the risk dramatically. Management should be documented properly.

- An office in Portugal or a manager in Portugal with the right to bind the company in contracts increases the chances of a permanent establishment.

Many people trade from LLCs and are oblivious to the risks and to the ways to mitigate them. So far, the Portuguese tax authorities have not been cracking down on LLCs but we always prefer to be ready because things are good until they are not. 

It is important to remember that when a structure is created purely for tax optimisation, it often looks just like what it is, whilst genuine partnerships between people in different countries are much easier to defend. We therefore always advise on trying to work with real relationships.

To get a NIF, you need the following documents (in a Latin language or with a certified translation):

1. A photocopy of a valid passport. 

2. Proof of residential address, with the name on the address matching the name on the passport. This can be:

 (a) A valid driving license (both sides). For US citizens - issued within the last 12 months. 

 (b) First page of a bank statement, dated within the last 3 months. 

 (c) Utility bill from the last 3 months.

 3. Power of attorney.

We are often asked by people we advise who are under the NHR scheme whether capital gains would be taxable in Portugal.

Capital gains on property 

When the capital gains are a result of selling immovable property (like homes or commercial property), the answer is often fairly straight-forward. The double taxation treaties that Portugal is party to normally state clearly that capital gains from a sale of property are taxable in the country where the property is based. Therefore normally only people holding property in a country that does not have a double taxation treaty with Portugal should be worried about taxation from property gains. Such people are almost always better off selling their property before coming to Portugal or holding on to it as long as they are in Portugal. 

Capital gains on securities (such as shares) 

The question becomes more complex when it comes to capital gains from securities or other assets. The NHR law clearly includes capital gains as a category that could benefit from NHR (category G). The rule that is states in the law is that if the other country may tax the gain, Portugal will not tax it. To know whether a country may or may not tax the gain, we need to look at the relevant tax treaty between Portugal and the other country. 

There are three countries that we are aware of that currently may tax capital gains from securities: 

Brazil - Brazil presents an interesting case because the Brazilian government informed the Portuguese government that the DTT between the countries is terminated. However, it is unclear whether the Portuguese government treats the agreement as terminated and so far as it is in force from the Portuguese side, it awards Brazil the right to tax capital gains. 

United States - the United States has a unique tax policy of taxing citizens wherever they live and all the tax agreements that the US is party to allows the US government to tax its own citizens for all types of gain, including capital gains. This is called “the savings clause”. 

Canada - Canada has a specific provision (Article 13.6 of the double taxation treaty) allowing it to tax its citizens or people who were residents for at least 15 years in Canada prior to moving to Portugal, for capital gains occurring up to 5 years after the move. There may be other agreements allowing taxation of capital gains so it’s always best to check the specific agreement, but normally double taxation treaties set out that taxation of capital gains occurs in the country of residency. In a comment to this article, a Canadian CPA noted that Canada does not in fact apply such tax, but the exemption in Portugal should nevertheless trigger.

The law is therefore clear that there are circumstances where capital gains will not be taxed in Portugal, whilst in most circumstances it will be taxed. 

Declaring capital gains on tax returns 

Sadly, however, whoever created the online tax return form “didn’t get the memo”. Even if the taxpayer rightfully claims an exemption from capital gains, the automated calculation will not acknowledge it and will produce a tax assessment that includes full taxation on the gains. This leaves the taxpayer to choose between three bad choices: (1) pay the tax even through it isn’t due (2) choose different category and submit a wrong return (3) submit a correct return and dispute the wrong outcome. In one case, a US citizen taxpayer chose option 3 and successfully won in court, but that had not changed the form. 

Tax planning 

Whether tax is due or not, considerable capital gains offer a wide range of planning opportunities with the most common structure being incurring capital gains within an entity.

We often write about the NHR regime. 

One of the peculiarities of the NHR regime and what makes it so complicated is that the exemption from taxation in Portugal of foreign-sourced income depends on whether a person who generates income in a country other than Portugal could be taxed in that country.

This applied to self-employment income, dividend income, capital gains and other types of income. 

As US citizens are painfully aware, the US is the only country in the western world that taxes its citizens wherever they live. This means that the US always has the right of taxation in relation to its citizens and this right is enshrined in the double taxation treaties that it is party to, including the one in Portugal. It's called "the saving clause". 

This leads to a unique outcome - US citizens under the NHR regime are generally exempt from Portuguese taxation for almost all types of their foreign income.

Below is what we believe to be the correct treatment of US citizens in Portugal on different types of income:  

Employment income 

Work done by a US citizen as an employee (W2) who is a resident in Portugal can be taxed in the US if the work is physically done in the US. If it is taxed in the US, it should not be taxed in Portugal. A remote worker working from Portugal should be paying tax in Portugal.

Self-Employment income, via Portuguese green receipts 

Work done in Portugal that is a high value activity would generally be taxed in Portugal (because it is not "foreign-sourced").

Work done outside Portugal should not be taxed in Portugal. 

Self-Employment income, as distributions from a US LLC that is taxed in the US as a partnership

Such income will generally not be taxed in Portugal if the clients are outside Portugal and the management of the LLC is outside of Portugal. Thus it is often very important to pay attention to the management. 

Capital gains 

Such income will generally not be taxed in Portugal. In one case, the Portuguese authorities tried to argue that the saving clause is insufficient to prevent Portuguese taxation and the court rules in favour of the tax-payer. 

Dividend income

Generally not taxed in Portugal.

If you ask most people what’s their favourite thing in the world, most would probably choose their spouses, children, the seaside or romantic sunsets. 

These are the sort of things that people like to think about and when people are coming to Portugal, they definitely get a lot of the last two. 

One thing people really don’t like to think about is taxes. So they don’t. They don’t think about taxes before they move or they don’t think about them at all. There are some myths and stereotypes about taxation in Portugal and it is just convenient for people to think that they can just continue to pay tax in the countries they left and “deal with it later” or that “Portugal doesn’t tax foreign income” or that “We don’t need to pay in Portugal because we moved at the end of the year” or whatever other myth they heard. 

Then comes the first tax return and they have to crush into reality and meet the harsh truth – Portugal wants to tax its residents, it taxes them from day 1 and it’s tax legislation is really complex. Portugal is probably the country with the highest tax rates in Europe for its residents but it can also be one of the countries with the lowest tax rate in Europe for expats. The difference is in planning. 

Portugal want talented people to come and bring their income with them. It accepts that some of that income has nothing to do with Portugal and is willing to go along way exempting people from taxation. However, Portugal is not happy for people who are already paying tax in Portugal or should be paying in Portugal to try and avoid it. 

Tax planning vs tax avoidance. 

Tax Planning involves intelligent planning of reducing the tax liability by claiming all the eligible deductions, rebates & exemptions as per law. It is generally considered to wise, advisable and morally correct for people to plan their taxes, taking advantage of benefits and deduction. Tax avoidance is deliberately indulging in the practice of adjusting financial affairs to the extent that the tax liability is minimised.  It is generally considered unwise, not advisable and morally wrong. Tax authorities accept tax planning but do not appreciate tax avoidance. People who avoid taxation could be fined and in extreme cases could be prosecuted. The difference between tax planning and tax avoidance could, in many cases, come to timing and consistency.

People who are coming to Portugal with a certain business structure and continue to use the same structure would very rarely be second guessed by the authorities, whereas people who arrive in Portugal, report their income in a certain way and then realise they could have perhaps achieved a tax saving and change their structure would almost certainly raise red flags and could be on the hook. 

Specific examples 

John is a hypothetical British person who is a teacher in an online British private academy. He receives a salary from the UK school. John arrived in Portugal 3 years ago and obtained NHR status. He continued to receive his income as a salary in the UK and has been taxed in the UK. In an audit, the Portuguese tax authorities identified that he works from Portugal and taxed his entire employment income at full rate since he is not on a high value profession, sending him to apply for a refund from HMRC, the UK tax authorities. Had John planned ahead, he would have formed a company in the UK together with his UK-based colleague offering the same services, before moving to Portugal. He could have taken money out of the company by paying himself dividends and would have suffered no tax in Portugal for that income, with the only tax being UK corporation tax of 19%.

Janice is an American SEO advisor working with a partner in Norway, each as independent contractor. Janice is a borderline IT specialist and may pay 20% tax in Portugal but is more likely to be taxed at full rate. However, had Janice formed an American LLC ahead of her move together with her partner, she may have been full exempt from Portuguese taxation. Should Janice do that when she is already in Portugal, she is fairly likely to be audited, pay full tax and fined.

Preferential treatment for newcomers 

Portugal is a wonderful country that offers a lot to its residents. The political climate is stable and the economy is gradually evolving into a modern economy. 

The tax rates for typical long-term residents are traditionally one of the highest in Europe and in turn, provides extensive social services (albeit not in-line with some other high tax rate European countries). 

Whilst “typical” residents pay very high tax rates, the government of Portugal wishes to attract talented foreigners and their capital. The popularity of Portugal has been consistently growing over the last few years, but with the changes of lifestyle triggered by the pandemic, remote workers, entrepreneurs and many other foreigners are attracted to Portugal and are moving to Lisbon, Porto, the Algarve and Madeira in increasing numbers. Portugal made it relatively easy for earners of foreign income to immigrate and settle and is also offering a favourable tax regime for new residents. The regime is called the Non-Habitual Residency tax regime (NHR). 

Obtaining NHR 

Newcomers to Portugal are people who have not been tax residents in Portugal in the last 5 years. The benefits are not obtained automatically. 

The NHR “status” must to be actively requested but it is easy and free to obtain it so far that it is done on time. The deadline is the 31st of March the year following the year a person became a tax resident. The status is in force for 10 years and cannot be extended. 

The entitlement to be taxed as a non-habitual resident in each year of the above mentioned period, depends on being, in that year, considered resident in Portuguese territory. However, if for whatever reason the relevant person is not a resident in Portugal for a particular year within the 10 years period, the entitlement is only lost for that year and can be enjoyed in following years, until the expiry of the 10 year period. One common myth is that in order to obtain an NHR status one must have a high value profession.

 This has been, to an extent, true in the past, but it is not true today. The NHR status does not require a person to have any particular type of profession or work at all. 

The benefits of NHR 

The NHR provides three primary benefits. 

• Reduced tax rate for income earned in Portugal

The first is a reduced tax rate of 20% for income earned in Portugal in a list of trades/professions that Portugal seeks to attract (i.e. high value professions). The reduced tax level is approximately 20% in the first year and up to 35% in later years, made from a 20% income tax and up to 15% national insurance contribution, with an exemption on the first year’s contributions, 25% discount on the second year and a cap of €1125 a month. 

• No income tax for foreign-sourced income

The second is a further reduced tax rate on foreign-sourced self-employment income in a the same list of trades/professions that Portugal seeks to attract, provided the country where the income was obtain may tax the income. In this case, in qualifying conditions are met, there is no income tax and the tax-payer only pays national insurance at a maximum rate of 15%. 

What is foreign-sourced income? 

Foreign-sourced income is income earned outside of Portugal. There is some debate as to whether income earned by a person when that person is in Portugal from a client who is overseas is Portuguese-sourced or foreign-sourced. Such income, in our view, would normally be Portuguese-sourced. However, each case is decided on its specific circumstances. When the income is obtained, for example, during visits to other countries or using employees or sub-contractors in other countries, the matter becomes more and more complicated. 

• Exemption on foreign profits 

 The third is full exemption from taxation on income derived from foreign sources so far as the foreign country where the income is obtained is allowed, under the relevant Double Taxation Income (DTT), to tax the income (even if the income is not in fact taxed). This includes investment income, royalties, dividends from companies etc. Such income does not normally include capital gains unless these are from property (and are therefore taxed in the country where the gains are made) or if they apply to US citizens (since the US taxes on a citizenship basis). 

Portugal holds a list of “black-listed” countries and income obtained from such countries cannot benefit from the NHR regime. 

Tax payers must declare all their global income even if it is not taxed in Portugal. 

The tax treatment of income from services to foreign companies  

The categories mentioned above inevitably overlap - most foreigners that have a strong income are in fact receiving it from clients overseas but the income is often received as a result of work done by individuals in Portugal. 

Here, if the income is classified as employment income, it will be taxed in Portugal either at the preferential rate (if the trade is in the list) or the full rate (if it is not). If it is received from self-employment, it will be taxed like employment if it’s locally sourced or at a maximum of 15% subject to qualifying conditions if it is foreign-sourced. If it is received as a dividend from a foreign company, it will normally not be taxed in Portugal at all, provided that the agreement to avoid the double taxation between the country where this income was generated and Portugal allows the other country to tax the income (which is the case in most of the relevant agreements) There is therefore great importance to the classification of the income and diligent newcomers who wish to reduce their tax burden should carefully consider how should income be classified in the most tax-efficient way. Needless to say, classifying income also has impact in the country where that income is sourced and the key to diligent tax planning is to consider the rules in all relevant countries. One may conclude that the mere creation of a foreign entity therefore leads to a complete exemption from taxation. This is not the case, unfortunately. 

A foreign entity that is effectively managed from Portugal may be treated by the Portuguese tax authorities as a Portuguese entity. 

The treatment of U.S.-based LLCs 

One common vehicle for receiving income is a U.S. LLC. U.S. LLCs are a unique U.S.-structure that does not have obvious equivalents in other countries. The LLC can decide whether to be taxed liked a corporation (which is equivalent to a company in Europe) or whether the income passes to the members of the LLC. A structure that divides the income between the members resembles a European-style partnership, but it is not the same. In a partnership, the partners have a proprietary right to part of the profits whilst in an LLC the right is contractual – the LLC generates profit and then the partners have a right to participate in the distributions based on the operating agreement. The importance of this distinction is that the profits of an LLC can more easily be attributed to the business. There is great importance to this classification – whilst business profits are taxed by default at the country of incorporation, income from professional services is taxed by default at the country of residency. 

There are some precedents but no clear guidelines in Portugal how to treat a US LLC, giving the members some leeway how to classify their income. Under NHR, income classified as business profits will not normally be taxed in Portugal. Since the profits pass to the members, it will also not be taxed in the U.S. Again, it is important to pay attention to the fact that if a U.S. LLC is fully owned and is effectively managed by the taxpayer from Portugal, the Portuguese authorities could ignore the place of incorporation and treat the LLC as a Portuguese entity. 

The bottom line - when a US LLC is not managed by the tax-payer from Portugal and distributes revenue its members in Portugal, the member has a reasonable position that no tax is due anywhere. 

For U.S. citizens who live in Portugal, the situation is even preferable, so far as they earn less than approximately 112,000 USD a year. U.S citizens are taxed in the U.S. on their global income but they do have an exception for foreign earned income up to approximately $112,000 every year, so for U.S. citizens earning less than that amount, it is exempt from the U.S. but the US’s right to tax the global income is arguably sufficient to avoid taxation in Portugal even if the income is considered professional income. 

A U.S. LLC is very easy to create and maintain and the cost of doing so is usually negligible compared to the potential savings. At FRESH, we offer such solutions that involve the creation of an LLC that is not effectively managed by the tax payer. 

The treatment of UK Limited Companies 

UK limited companies are another beneficial structure to holders of Portuguese NHR. UK limited companies pay tax at 19%. This tax rate will rise to 25% in 2023 but companies with profits lower than £50,000 will continue to benefit from a 19% tax rate. Dividends from a UK company to an individual residing in  Portugal are exempt under NHR since the double taxation agreement allow the UK to tax dividends but in practice it does now. It is therefore also exempt in the UK. 

An often-unknown fact is that the UK corporation tax could be dramatically reduced in the event that a company is a research and development company undertaking R&D activities. 

Profitable companies can claim up to 230% of their qualifying R&D expenditure as expenses, thus considerably reducing and sometimes eliminating any corporation tax liabilities.

Further information For an initial assessment of your taxes in Portugal and the opportunities to optimise them, contact portugal@freship.com

Fresh Portugal is launching an an ambassador program and we are starting pre registration for our first ambassadors.

Why do we need an ambassador program?

Since expanding our tax activities to Portugal and focusing on expats, we have been advising approximately 10 people who are either planning to move to Portugal or have already moved every week.

We are the only tax lawyers with presence in Portugal, the US and the UK. Quality tax advice in Portugal is in such a shortage that tax advisors are on the list of high value NHR profession and Pedro and I are shocked on a daily basis by the bad advice that people get from accountants, friends and FB group, advice that often costs them up to half of their income.

Who can be an ambassador? 

An ambassador is anyone who is in regular contact with people (and companies) coming to Portugal or are already in Portugal and can make them aware of our high quality tax services.

Who should become an ambassador?

Anyone who likes to help people move to Portugal. 

What are the benefits?

After making successful (paid) referrals, ambassadors get:

- 40% discount on all legal/tax services from us.

- An invitation to a yearly VIP dinner in Lisbon

- A 10% commission on the 1st year income of referred clients (from 2,000 euros paid by clients onwards) 

Where do I register?

https://form.jotform.com/FRESHIP/ambassador-registration-form

Below is the current list (as of July 2020) of high value activities applicable for a preferential tax rate for employed and self-employed under the NHR regime:

I - Professional activities (PCP codes):112 - General director and executive manager of a company;
12 - Directors of administrative and commercial services;
13 - Directors of production and specialized services;
14 - Directors of hotel, restaurant, commercial and other services;
21 - Specialists working in physical sciences, mathematics, engineering and similar technical fields;
221 - Physicians;
2261 - Dentists and stomatologists;
231 - Teachers at universities and higher learning establishments;
25 - Specialists in information and communication technologies (ICT);
264 - Authors, journalists and linguists;
265 - Creative artists and performing artists;
31 - Intermediate level science and engineering technicians and professionals;
35 - Information and communication technologies technicians;
61 - Market oriented farmers and qualified agricultural and livestock workers;
62 - Market oriented qualified forestry, fisheries and hunting workers;
7 - Qualified industrial, construction workers and craftsmen, including qualified workers in the fields of metallurgy, metalworking, food processing, wood manufacturing, clothing production, handicrafts, printing, manufacture of precision instruments, jewellers, artisans, electricity and electronics workers;
8 - Operators of installations and machines and assembly workers, namely fixed installations and machine operators.The workers included in the aforementioned professional activities shall possess at least a level 4 qualification on the European Qualifications Framework or a level 35 on the International Standard Classification of Education, or they must have five years of duly proven professional experience.

II - Other professional activities:

Administrators and managers of companies that promote production investment, provided they are allocated to eligible projects and have contracts granting tax benefits signed in accordance with the Investment Tax Code approved under Decree-Law no. 162/2014 of 31 October.

Thank you for choosing Fresh.

For consultation meetings, we recommend spending some time reading the articles on this website and reading about tax in Portugal.

For tax returns booked with us, we recommend entering your income at mytaxes.pt.

As it’s reporting season, a lot of questions recently on NHR and how is it applied to different types of income. 

Trying to summarise the core principles of NHR:- If you live in Portugal and work from Portugal, Portugal wants you to pay tax in Portugal. 

- If you live in Portugal but work overseas (when you actually go there and work from an office), Portugal normally won’t tax you, but you need to say that on your tax return. 

- If you have income from investments / business profits overseas, Portugal normally won’t tax you unless it’s pension and you applied to NHR recently and then it’s 10%. 

- If you are American, the US always wants to tax you (but often grants an exemption), which means Portugal may not. 

- If you classify work income (normally pay tax in Portugal) as foreign profits (normally doesn’t pay) by channelling income via an overseas company, Portugal can try to treat the company as registered in Portugal.  

You will hear different things from different people but in reality there simply are a lot of grey areas.