IMO, becoming a digital nomad is the holy grail of the modern work environment. If you can design a way to work remotely, over the internet, independent of your location, then the world truly can become your playground. You can live in a beautiful place, take advantage of geographical arbitrage, or just travel the world while you work. But, what about the tax consequences? Digital nomads have a real opportunity to save a shipload on taxes. But if they’re not careful, they can easily run into trouble too – especially American citizens. Here’s how to (legally) avoid taxes as a digital nomad:
First, Don’t Be An American
Perhaps the easiest way to avoid taxes as a digital nomad is to not be an American citizen. That’s because the United States is the only country on the planet that taxes its citizen’s income no matter where they live or travel around the world. Oh, Eritrea does that too. So that’s two countries in total. If you’re American (or Eritrean), that makes it much harder to avoid taxes as a digital nomad. But it can still be done! (keep reading to find out how).
Some American citizens choose to renounce their U.S. citizenship just to avoid Uncle Sam’s global tax reach. Over 5,000 people renounced their U.S. citizenship in 2016. I’m certainly not suggesting that path for most American nomads, but if you’re swimming in piles of money, renouncing U.S. citizenship could save you serious coin.
If you are a citizen of any other country, you only have to worry about taxes where you live and where you work – not where you have citizenship. That does make it easier to avoid taxes. There are two big strategies that digital nomads can follow – 1) constantly travelling on tourist visas or 2) becoming a resident of a tax-free or a territorial tax country.
The Constant Travel Solution
Many digital nomads travel constantly. After all, that’s the whole point of being a nomad, right? If you travel from country to country on tourist visas while you work, you can avoid taxes, yes? Well, sort of.
Americans can avoid U.S. taxes while traveling the world by claiming the Foreign Income Exclusion, which allows the first $100,000 or so of foreign earned income to be tax-free. Of course, you still have to file your taxes in order to claim the Foreign Income Exclusion. If you don’t file taxes, you’ll set yourself up for some big penalties and fines.
The nitty-gritty rules around the foreign income exclusion are rather complicated. There are lots of rules, clarifications, complications, and exceptions. You can read more about the foreign income exclusion generally and (other foreign tax benefits) here or how it applies to your specific situation in IRS Publication 54.
Non-Americans can generally avoid filing and paying taxes in their home country if they don’t maintain residency in their home country. As a general rule of thumb, that means spending less than 6 months out of the year in your home country. This is just a rule of thumb. Each country has different rules, and you need to be familiar with your country’s rules.
But What About The Places You Visit?
So Americans and non-Americans alike have the ability to avoid paying taxes in their home country. But what about the places you visit? If you travel on tourist visas, and don’t establish residency in the places you visit, then you’ll pretty much be tax-free.
I say “pretty-much” because if you are working remotely in a foreign country on a tourist visa, you may very likely be afoul of the law in that country. You’re not supposed to work while on tourist visas. Not only could you possibly owe local taxes, but you could even be up for penalties or even possible deportation or jail time.
The reality is that most countries not only don’t care if you work remotely (as long as you’re not taking jobs from locals), but they also don’t have any practical means to know that you’re doing it. Most only care if you work locally. Most, but not all.
The best practice is to be familiar with the visa restrictions of each country you visit, and if you’re going to work while on a tourist visa, keep it discreet.
Long-Stay Tourist Visas
A few countries provide long-stay tourist visas of six months or more. With a long-stay tourist visa, you can stay in a country more than just a couple of months, and still apply the same “Constant Travelling” tax avoidance strategy.
The gold standard in long-stay tourist visas is India, which gives a ten year visa that allows you multiple entries of six months at a time. You can basically live in India for ten years, and just leave for a couple of days every six months.
Other countries that have six-month long-stay tourist visas include Cambodia, Mexico, Canada, Panama, Peru, Albania, Georgia, and Jamaica, France, Sweden, and Italy. Probably there are more – this is not a comprehensive list.
On long-stay tourist visas you are also technically not allowed to work in your host country. But, if you are remotely working, most host countries won’t care. Regardless, if you work remotely as a digital nomad, my advise is to keep it on the down-low.
But who wants to travel constantly forever? Eventually, we all settle down. And that means establishing residency. If you establish residency in a foreign country, you’re generally going to have to pay taxes in that country.
Residency visas allow you to work, and typically require you to file taxes in your host country. So if you’re going to establish residency somewhere, the best way to avoid taxes in your host country is to choose a no-tax or a territorial tax country.
There aren’t too many no-tax countries in our world. Mostly they’re small islands or places where you don’t really want to be. Currently there are 21 countries that don’t have income taxes according to this wiki page. That includes UAE, the Bahamas, and the Cayman Islands. But it also includes Somalia and Western Sahara. Take away the places you really don’t want to be, and there’s not a lot of options on this list.
The Territorial Tax Solution
And that brings us to territorial tax countries. What are territorial tax countries? These are countries that only tax income earned within their borders. If you are a resident of a territorial tax country, but earn your money outside its border, then you can thus avoid income tax.
Territorial tax countries are more practical for people with passive income than a true working nomad. For example, if you are a resident of Panama (a territorial country), and earn money from a rental property in Spain (a country that taxes based on residency), then Panama won’t tax your Spanish rental income, and either will Spain (if you aren’t a resident). (Note: this is just a hypothetical example meant to demonstrate how territorial taxes work and how to take advantage of territorial tax schemes to avoid taxes. I am not familiar with the details of Panamanian or Spanish tax rules)
The good news is that there are a good number of very respectable territorial tax countries where a digital nomad might be perfectly happy establishing a long-term residency. Currently there are 36 territorial tax countries on the wiki list. That includes some beauties like Panama, Costa Rica, Singapore, and Hong Kong. And I’m aware of at least one more not on the wiki list – Uruguay.
So create some foreign passive income, set yourself up in a beautiful territorial tax country, then sit back and relax. You’ll be good to go. Unless of course, you’re an American. The foreign income exclusion generally doesn’t apply to passive income. So, even if you have a rental property in Spain, you’ll be U.S. paying taxes on that. Is renouncing that citizenship starting to look a bit more attractive?
The Biggest Tax Mistakes Digital Nomads Make
A lot of digital nomads think they have it covered. But, there are a few big tax mistakes many of them make that could end up costing them big in the end. Here are the two biggest tax mistakes digital nomads make (according to me):
Failing to File Taxes
One of the biggest errors digital nomads make is that they fail to file taxes in their home country while they travel or live abroad. U.S. citizens always need to file taxes. Always, always. Yes, always. Non-Americans often also need to file taxes, if they’ve spent more than six months out of the year at home. (That’s just a rule of thumb, find out your own country’s tax residency rule). If you fail to file taxes in your home country, you’ll set yourself up for some big penalties and fines.
Using Offshore Companies
Many digital nomads also think that if they set up a company structure in a foreign country, that they won’t have to pay any taxes at all. This is completely fake. You’re generally going to owe taxes where you live – regardless of where your company is structured. If you are living in a country, and have established residency there, then you will owe taxes in that country (unless you live in a no-tax country or a territorial country and your income is earned abroad).
As a rule of thumb, it doesn’t matter where your company is incorporated, it matters where you do the work. If you set up an offshore company to avoid paying taxes where you live, you’re probably breaking the law by not paying taxes.
Where Would You Go?
Becoming a digital nomad is the ultimate hack of the modern workplace. Unfortunately, the tax consequences of being a digital nomad can be very complicated. There are some big learning curves about visas, residency, tax-schemes, and foreign-sourced income.
If you could do it, where would you go?