Before becoming an e-Resident, owning a company in Estonia, one of my main concerns was what kind of taxes would I need to pay and how to pay them. In this article, I want to explain VAT and Taxes for e-Residents owning a company in Estonia.
One of the main reasons that encouraged me to start my business in Estonia was how easy it is to understand their tax system, as opposed to Spain.
Don’t be fooled, though, Estonia is not a tax haven. It is a remote management haven for entrepreneurs and freelancers like me.
This means that you, of course, are going to pay taxes. Only, you will be paying a fair amount of taxes. Furthermore, the system is designed so you can focus on your business and forget about the administrative, tedious tasks.
VAT For e-Residents Owning A Estonian Company
When you open your company, using any Business Service Provider, you can opt to register for a VAT number.
Do I need A VAT Number?
Your business will need a VAT number if some of these conditions apply:
- First, if some of your customers require it for their sales invoices. This is usually the case with European companies.
- Next, if you sell services like software development or design to European customers, and you make more than
16k€ per year (Edit: this limit was raised to 40k in 2018).
- Also, if you sell digital services or products (software or digital content) to B2C customers in the European Union.
- Finally, if you sell digital services or products (software or digital content) to B2B customers only if your sales exceed
16k €per year (Edit: this limit was raised to 40k in 2018).
What’s a digital service? Any good or added value that’s not physical. This includes software development, web design, marketing and SEO services, etc.
Should I Bother?
Even though you don’t need a VAT number, it’s always interesting having one.
For starters, it allows you to operate more easily within the EU. Additionally, a VAT number always adds trust in your company for your customers, suppliers, and providers. Lastly, a European VAT number will help you to avoid dealing with different VATs and regulations when doing operations within the EU.
When To Add VAT To Your Invoices
Ok, so you have registered your company in Estonia, and have a VAT number. When should you add VAT in your invoices, and when not?
Overall, it depends on the type of services you offer:
If your services need your direct intervention (i.e: consultancy, software development), then:
- If your customer is a B2B from the European Union, with a valid VAT number, you don’t add VAT (0%). Instead, you add a clause to your invoice: “The purchase is liable to Intra-Community supply 0%, Reverse charge”. There’s a website here where you can check if a customer VAT number a is valid.
- On the contrary, if your customer doesn’t have a valid VAT number, you need to add the Estonian VAT (20%). This applies to B2C and B2B customers.
- Finally, if the customer is outside of Europe (i.e: an American customer), you don’t add any VAT (0%).
Most freelancing activities fall into this category.
Conversely, if your services are automated (i.e: cloud hosting, SaaS), then:
- If your customer is a B2B from Europe with a valid VAT number, similarly to the previous situation, you add the same clause and add no VAT (0%).
- Conversely, if your customer does not have a valid VAT number, you apply the VAT from their home country. This applies for B2B and B2C customers. Thus, if your customer is from Spain, you will add the Spanish VAT (21%).
- Finally, if your customer is outside of Europe, you don’t apply VAT (0%).
Most SaaS will fall into this category. As you can see, Europe is still a mess when it comes to entrepreneurs and startups with a subscription model or an automated online software product.
As an exception, if you are selling your services to an Estonian company, you need to add Estonian VAT to your invoice.
Taxes For e-Residents Owning A Estonian Company
Ok, now that you know how to build your invoices and what VAT to apply, let’s talk about taxes.
There’s no taxation whatsoever for the revenue of your company, or if you reinvest this money in your company. Thus, if you just work, deliver invoices to your customers, earn money and use it for valid company expenses, you don’t need to pay a cent.
This is actually pretty cool. I have owned companies in the past in Spain and the UK, and you pay taxes for the money your company earns. I think the Estonian way encourages you to reinvest and grow your company.
Then, when do you pay taxes? When you get the money out to your personal account. If you are unclear about the distinction between you and your business, read: “You are not your company” or my post “Demystifying Digital Nomad Taxes“.
There are two ways of earning money from your Estonian company: salaries, and a yearly dividends payment.
Yearly Dividends Payment
At the beginning of every standard financial year, you can pay dividends to yourself. Distributed profits are generally subject to a flat 20% income tax at 20/80 of the net amount of profit distribution.
The tax subject -the person to be taxed for dividends- is the company, and not you (as an individual). This distinction is important. You don’t have to pay additional personal income taxes in Estonia for just being a shareholder of your Estonian company.
This means that if you pay yourself 10.000€ in dividends at the beginning of the year, your company will pay an extra 2.500 € in taxes (10000 x 20/80).
Assigning Yourself A Salary
As the owner of a micro-company in Estonia, you are supposed to perform two very different types of tasks:
First, you are the only board member of the company. Thus, you are supposed to take care of administrative tasks, contacting customers, accountancy, etc. Additionally, you will perform some technical or specific tasks related to your area of business and professional expertise -programming, design, consulting-.
As a result, you need to divide the salary into two parts, your board member salary, and the employee salary.
Your employee salary is not taxed at all in Estonia, as long as you are living and working outside of the country. However, for the board member salary, you are supposed to pay two taxes: the Income Tax (20% of the gross amount) and the Social Tax (33%) of the salary plus the income tax.
Furthermore, the social tax can be ignored if you can provide some evidence that you are already paying social contributions in another EU country (i.e: the freelancer’s fee in Spain).
On most occasions, however, you will have to pay both.
The distribution of both salaries is up to you, but a recommended division is 70% (employee) / 30 % (board member). You are free to assign a 100% to your employee salary, but then you’ll have to justify why are you performing your board member duties for free.
If you are a freelancer selling your time in a technical area (i.e: a programmer), it makes sense that your employee salary is slightly higher. In my case, I use a 20/80 distribution.
Thus, from your salary, you need to pay the board member salary taxes in Estonia (when you assign yourself the salary) and the employee salary taxes in your residence/home country (when doing your tax statement, if applicable).
Let’s see how this works with a concrete example:
Let’s say your company earns around 3000 € from your customers a month (around 36k a year). To test the waters, you decide to start with a salary of 1000€ a month.
You decide that the initial 30/70 distribution of your salaries is OK for now, so you pay yourself 300€ as “board member salary” and 700€ as “employee salary”.
Your employee salary doesn’t have to pay any taxes in Estonia. Therefore, only your board member salary (300€) is taxed there. Then, the calculations are:
- Income tax (20% of gross): 300 x 20 / 80 = 75€
- Social tax (33% of your salary + income tax): (300 + 75) x 0,33 = 123,75 €
As a result, we have a total amount of 198,75€, which is slightly below 20%. At the end of the year, you will end up with a surplus of 21650€ in your company’s account.
Easy, right? Of course, if you apply a 20/80 salary distribution, you will have to pay 132,50€ in taxes, which is around 13%. This could be the case if you are a freelance developer and most of your time is not spent on administrative tasks.
Important reminder: You need to pay personal taxes in your home country/residence country if applicable
2019 Update: You Can Now Pay Yourself Employee Salary Only
It has been determined by the Estonian Tax Office that you can actually pay yourself only Employee Salary. This only applies if your activity is performed outside of Estonia, meaning, you are not a tax resident in Estonia.
This has some implications. First and foremost, you are obviously responsible for reporting and paying your taxes in your country of residence. If you are a digital nomad, and don’t spend more than 183 days a year in any specific country, you can however avoid paying personal taxes.
The second important point to have in mind is that, if you assign yourself only the Employee Salary, you won’t be able to enjoy the Daily Allowance (see below). Obviously, your business trips will still be justifiable expenses that your company can pay, but you won’t be able to benefit from the Daily Allowance.
It’s important to note that this change is mostly applicable to freelancers or sole proprietors. If your company has several shareholders or board members, or any of the members of the board operates from Estonia, this scenario does not really apply to you.
Smart Expenses And Reducing Taxes for e-Residents
The concept of tax-free reinvestment in your company is certainly one of the main appeals of the Estonian business system. Let’s dig a little deeper in expenses and how your company can grow by making use of this smart system.
What’s a valid company expense?
Basically, everything that costs you money and it’s directly related to your activity. The e-Residency program has been thought for digital nomads and traveling entrepreneurs. Thus, with that in mind, these are usually valid expenses for your Estonian Company:
- Hosting, domains, cloud services, and other software services with a recurrent subscription. From the fee of your business service provider to legal advice from a lawyer or hosting costs.
- Consumables or expendable equipment for your professional activity.
- Software and tools you buy for work.
- Travel expenses, including flights, car rental, services like Uber or Bolt, accommodation and apartments. This includes trips to Estonia (i.e: to open your bank account).
- Payment fees (i.e: gateways for your e-commerce site) and bank fees.
- Lunch meals, but only the part of your customer. You cannot declare your own lunch as business expenditure.
However, due to the special nature of the e-Residency program, there are some caveats you must be aware of:
- Fuel/gas invoices from domestic trips within a country are generally not included. I.E: if you travel from Madrid to Barcelona (both in Spain) by car, that’s not included. Curiously enough, public transport trips are allowed as long as you are visiting a customer or going to a work meeting. I.E: if you take the underground in Paris to visit one of your customers at their offices in the city center.
- Vacation and holiday trips. They are especially wary about trips to your home country, especially during the holiday seasons. You will need to justify that this was, in fact, a business trip.
- Permanent offices. To avoid having a permanent establishment in any other country, the maximum time that you can declare a concrete office or rental as a business expense is 6 months.
The Daily Allowance
Additionally, there’s a very interesting concept called Daily Allowance. When we travel, there are many extra expenses, like lunches, coffee, taxies and public transport to name a few. The daily allowance allows you to get some tax-free money from your business account to pay those justified expenses.
In order to be able to do that, you have to add some documents that justify your trip, like flight invoices or AirBnB reservations. Of course, daily allowance is only available for trips between two countries with a clearly predefined duration.
For example, traveling from Italy to Germany to attend a conference there and back in a week. It doesn’t work for changing your location on a semi-permanent basis.
The daily allowance allows you to expend 50 EUR per day for the first 15 days (max) in a calendar month, following 32 EUR per day for the rest of the month if the trip (or a combination of multiple trips) is that long. Tax-free.
Take into account that the Daily Allowance can only be claimed for a business trip with a very specific purpose! Some blogs depict this basically as if it was a tax-free 1230€ salary. It is not. You cannot travel to Thailand to live there for one year and claim the Daily Allowance every month.
Out Of Pocket Expenses
The Estonian business system is very flexible and gives you plenty of possibilities. One perfect example is “Out of pocket expenses”. Say you find yourself without your business card or a way of paying a business expense with your business account. In that case, you can just pay this expense with your own personal money (either with cash, bank transfer from your personal account, or your personal card).
Then, by uploading the invoice, it will be marked as an “Out of pocket expense”, so you can reimburse your money back to your personal account later.
Thinking About Opening Your Company In Estonia?
If you have decided to open your company in Estonia, I can recommend you the services of the business provider Your Company In Estonia. They take care of everything, from registering your company to doing your accountancy and taxes, so you can focus on growing your business.
If you register your company with the link above, you will get 100€ discount!
In this article, I described how VAT and taxes for e-Residents work when you own a company in Estonia. The Estonian system is pretty straightforward and easy to understand.
Even if you are a geeky developer like me, a designer with no idea of financial matters, or a newcomer to the whole entrepreneurship world, you will probably be able to know how to generate invoices for your customers, charge VAT and pay taxes.
However, the idea is that you don’t need to bother with any of these. I can definitely recommend the services of Your Company In Estonia. They take care of everything, and you only need to upload the invoices in PDF and grant them access to your bank statement for the invoicing reconciliation. That’s all.
Isn’t it beautiful when you can just take care of working and growing your business?
I hope this post was helpful. Do you have a concrete doubt? Let me know in the comments below.
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