A Complete Guide to Filing US Tax Returns in Portugal: What Expats Need to Know

Posted on 08-06-2023 05:59 PM

Expats living in Portugal often need to navigate complex tax codes. Many American citizens living there fear the possibility of double taxation so I managed to steal an hour from a well esteemed US tax accountant in Portugal Derren Joseph who's been providing US tax service for Americans in Portugal for years.

At present, both Portugal and the US have tax treaties, which may help ease these fears. Furthermore, expats can use various options available to them in order to lower their taxable income.

1. Tax Treaty

With its mild climate, stunning beaches, and 16th to 19th-century architecture, Portugal is becoming increasingly popular as an expat destination. But it is essential that US expats remember they must file both Portugal and US taxes when living there.

Portugal and the US have an existing tax treaty which helps prevent double taxation on expat income earned in both countries, as well as providing deductions and credits that may offset US taxes owed for income earned there.

Individuals are subject to progressive tax rates for wages, business and professional income, investment income, capital gains and increases in asset value. Non-resident shareholders pay withholding tax of 20% (or the treaty rate), while interest expense can be deducted accrually.

Inheritances are taxed at a flat rate of 10%; gifts and inheritances passed directly between spouses or immediate family members are exempt. Property taxes depend on which municipality your property resides in and range between 0.3% to 0.45% depending on its value; residents also owing a municipal real estate tax of 0.8% for rental properties used for commercial purposes.

2. Non-Habitual Resident (NHR) Program

Non-habitual resident (NHR) status allows you to receive some of your income in Portugal tax-free. NHRs do not pay taxes on passive investments or royalties earned in Portugal, rental income, capital gains and pensions are subject to progressive rates; some categories of income such as employment in the US and UK may not be taxed under a Double Taxation Agreement between countries - it's best to consult a professional before considering applying for NHR status in Portugal.

Non-residents do not need to invest in Portuguese real estate or businesses, but must maintain a permanent residence there and their NHR status is restricted to ten years.

The NHR program was created to attract foreign investment and talent to Portugal. It targets high-income earners such as investors or tech talent, though anyone interested in moving here is welcome. To qualify as an NHR you must not have been living there for five years prior to applying and must register at your local tax office or citizen service bureau (Loja de Cidado), where a taxpayer identification number will be assigned.

3. Expatriation

Portugal boasts an attractive culture, stunning beaches and temperate climate which attract many expats looking to relocate in Europe. While living here has many advantages, expats should also be mindful of US tax laws when moving there as this could have an effect on their Portuguese income taxes as well.

For income tax purposes, the IRS considers you a resident of the US if you spend at least 183 days within any calendar year in this country and maintain a permanent home there. As a resident of the US, income taxes must be withheld from all worldwide income but certain preferential tax treatments may help lower this figure significantly.

Foreign Earned Income Exclusion and Foreign Tax Credit are two preferences available to qualifying taxpayers that allow them to deduct up to $108,700 of foreign earned income from US tax, respectively. Furthermore, these preferences do not release you from filing returns and fail-to-do-so can incur severe penalties.

4. Foreign Earned Income Exclusion

The United States and Portugal share a tax treaty that offers expats benefits when living and working abroad. One such benefit is the Foreign Earned Income Exclusion, allowing individuals to exclude up to US$108,700 of earned income from US taxes if they can show that income tax was paid on it in Portugal. Another incentive offered by Portugal's Non-Habitual Resident program (NHR) allows tax exemptions or a flat 20% rate on Portuguese-sourced income over 10 years.

Individuals in Portugal are subject to income tax on earnings derived from employment, business activities or professions, investments, increased value of immovable property, pensions and betting or gambling profits. Residentship status can be determined either through physical presence in Portugal for at least 183 days annually, or owning a place they consider their permanent home.

South Africa is well known for its quality of life and temperate climate, making it a top choice among expats. US citizens and green card holders who relocate overseas should remember they must still file U.S. taxes - with those holding foreign bank accounts required to file FBAR reports if applicable - although experienced tax preparation firms like Tax Samaritan can make filing your US returns as simple and painless as possible.

5. Foreign Housing Exclusion

US expats living in Portugal sometimes forget that their US taxes remain due, even though they no longer reside there. As a result, penalties could incur which could have been avoided with earlier filing. HTJ offers services to assist them by filing their IRS returns for them.

HTJ offers expert help with capital gains tax and FBARs for anyone selling property in Portugal, which can be complex due to various tax bands and exemptions; for instance if you have lived in your home for two years then this counts towards full exemption of capital gains tax.

Portugal's NHR program provides tax advantages to foreigners who purchase residential properties worth over EUR500,000 in designated interior areas or on Madeira and Azores islands, but this does not exempt individuals from paying Portuguese income tax, nor from filing US and FBARs as the IRS shares information regarding taxpayers with Portuguese authorities; any failure or error can have serious repercussions for expats in Portugal.

6. Foreign Tax Credit

Many US expats moving to Portugal will qualify for reduced tax rates through Portugal's non-habitual residency program. You are considered a resident if you: reside there more than 183 days annually; are part of an airplane or ship providing services directly for Portugal; perform commissions or public functions abroad on behalf of Portugal; own or rent property that serves as your permanent home in Portugal; or own/rent one that you use for this purpose as your permanent address in Portugal.

Non-habitual residents can lower their tax liabilities by deducting foreign income taxes paid on Form 1116; however, this deduction does not apply to rental or capital gains income.

As a US citizen or resident, you will still need to file a federal tax return each year you live in Portugal. Though determining your tax regime can seem confusing at first, both countries offer comprehensive double tax treaties which make the process far simpler. By keeping both US and Portugal tax information current and keeping FBAR (Foreign Bank Account Report) submission deadlines on track.

7. Foreign Bank Account Report (FBAR)

US expats with financial assets in foreign accounts must abide by special reporting requirements known as the Foreign Bank Account Reporting (FBAR) filing. Filing must take place using FinCEN Form 114 by April 15 or October 15, and extensions cannot be provided for this reporting requirement unlike taxes.

The Foreign Bank Account Reporting Act, or FBAR rules, apply to individuals, business entities and trusts with signature authority over foreign bank or financial accounts or financial interests abroad. Although not a tax rule itself, reporting requirements enforced by the IRS ensure they know about these accounts.

Typically, filing is required if your total foreign account balances surpass $10,000 or you hold financial interests or signature authority over foreign financial accounts; however, certain exemptions apply; it's wise to consult an experienced international tax attorney prior to moving forward with plans regarding foreign bank accounts.

Unfiling of an FBAR timely or correctly can carry stiff penalties, with each violation carrying penalties of either $100,000 or 50% of any foreign bank accounts at the time of violation, whichever is greater. If you fail to recognize and correct a problem quickly enough, however, an IRS Streamlined Procedure in Portugal could help get things back on track without incurring penalties.