If you are resident in Portugal, you are liable for Portuguese tax on your worldwide income and capital gains.
If you are not resident in Portugal, you are liable for income tax on your Portuguese income and capital gains on your Portuguese assets. Particularly for capital gains tax purposes, there are various exemptions.
Broadly speaking, you will be regarded as resident in Portugal if you spend more than six months in the country during the tax year (calendar year).
The income tax rates for 2007 range from 10.5 per cent on income up to €4,544, to 42 per cent on income over €61,260. There is no personal allowance in Portugal, but your tax liability is reduced by small tax credits, which vary depending on your marital status and the number of children you have.
Married couples are taxed together as a household. This means that the couple's total income is shared equally between them, thereby fully utilising each individual's lower rate bands and minimising the tax liability, as opposed to both individuals being taxed separately on their own income. Unmarried heterosexual couples living together for more than two years can opt for this treatment.
Residents of Portugal will generally pay tax in Portugal on their British pension income, unless the pension is a British government service one - in which case the income will remain taxable in Britain.
If you have a personal pension you may be able to treat the income as arising from an annuity. This is a favourable treatment, as up to 60 per cent of the payment can be received tax-free in Portugal. Whether this treatment is available to you or not will depend on a number of factors, including the number of contributions from you and your employer, and the split between capital and income in the fund.
The pension lump sum is generally understood to be tax-free in Portugal.
Portuguese rental income
Rental income is subject to tax at the normal scale rates if you are resident in Portugal. Limited day-to-day maintenance and running costs can be deducted. For non-residents of Portugal, rental income is taxed at a flat rate of 15 per cent and this tax is withheld at source. If you are a British resident then you will also need to declare the rental income in Britain and pay any additional liability that arises there. For example, if you are a 40 per cent taxpayer in Britain, you may have to pay an additional 25 per cent in Britain, although the precise calculations are more complicated since, for British purposes, more expenses are allowable than in Portugal.
Life insurance bonds are taxed very favourably for residents of Portugal. This is because the original capital can be withdrawn from the bond at any time tax-free. It is only after you have withdrawn all of the starting capital that you begin to pay tax on withdrawals - and even then the rate is very low since usually only 20 per cent of the amount withdrawn is then liable for tax. This assumes that you do not have regular withdrawals, but ad-hoc irregular ones.
The withdrawal is discounted after five and eight years. After five years, only 60 per cent of the withdrawal is liable for tax, and after eight years only 20 per cent of the withdrawal is liable for tax. For example, on an initial investment of €100,000, assuming that €20,000 is withdrawn each year on an irregular basis, there would be no tax to pay in years one to five while the amount of the original capital is being withdrawn. In years six to eight inclusively, tax would only be payable on €12,000, and from year nine only €4,000 would be taxable each year out of the €20,000 withdrawn. However, this only applies to approved policies.
Portuguese capital gains
Portugal also has a favourable capital gains tax regime since capital gains from the sale of shares owned for more than 12 months are exempt from tax. This exemption does not apply, however, to the sale of shares in a company where more than 50 per cent of its assets are Portuguese property. Gains on the sale of shares in such companies, or other shares held for more than one year, are taxed at a flat rate of only 10 per cent.
On the sale of real estate, tax is only payable if the property was acquired after 1st January 1989. Residents of Portugal pay tax on only 50 per cent of the gain and inflation relief is given after one year. The gain is then taxed at the usual scale rates, so with the 50 per cent relief, the maximum tax rate is 21 per cent.
If you sell your main home in Portugal, the gain is tax-free provided the proceeds are reinvested into another main home within two years. The new home does not have to be in Portugal and can be in any other EU country, provided you occupy the new property as your main home and become resident in the new country.
Non-residents of Portugal pay capital gains tax on the full gain at a flat rate of 25 per cent on the sale of Portuguese property. This applies whether an individual or a company makes the gain. If you are resident in Britain, you may have further British tax to pay depending on the level of your other income.
Portuguese inheritance tax
There is no inheritance tax in Portugal between close family members i.e. spouses and children. Otherwise inheritance tax (now called Stamp Duty) is payable at a rate of 10 per cent, but only on assets situated in Portugal.
Trusts can be very useful in mitigating tax liabilities in Portugal. Where income or gains are not distributed then no Portuguese tax liability can arise. Even if there is a distribution, it should not be liable to Portuguese income or gains tax as there is no provision or schedule in the Portuguese income tax code to tax such receipts. Thus any distribution by Offshore Trustees of a Discretionary Trust is free from income or capital gains tax and can only be regarded as a non-taxable capital distribution.
In summary, Portugal can be a very tax-friendly place to live and if you are considering a move to Portugal you should seek professional tax advice in order to ensure you arrange your affairs in the most tax efficient way.
Some information contained within this article may have changed since it was first published. HomesOverseas strongly advises you to seek current legal and financial advise from a qualified professional.