There are 206 independent States in the world today. They all have total autonomy when it comes to their tax system and tax policy. There are those countries that steal a good part of their money from their citizens, but there are also others that don’t.
Around the world, 23 countries don’t have direct taxes, and in some 50 more it’s possible to optimize taxes according to the case until the point of not having to pay. There are tax systems in the world that differ greatly from the residence-based taxation that we are familiar with in Western countries.
In this article, we are going to give a general introduction to the 4 types of tax systems that can be distinguished in the world.
Just because you don’t pay taxes in a country doesn’t mean it is the best option. More subjective factors at play include the quality of life, and objective factors include the ease with which one can emigrate to a country.
It should be understood that this article is not an exhaustive list of all the countries; rather it tries to give you global themes by showing you different examples. As is standard in these cases, there are some that are simplified for comprehension of the principles.
The world’s four tax systems
In broad strokes, you can identify two types of tax systems (which some countries combine into one): residence-based taxation and territorial taxation. These combined systems have resulted in the “non-dom” system (non-domiciled) inspired by Anglo-Saxon traditions. Finally, the last group is made up of countries with systems without a direct tax.
The most widely-used tax system throughout the world is known as residence-based taxation. In theory, residence-based taxation implies that the country of residence should tax income generated in any part of the world.
In contrast to this, there is another tax system that principally spread in developing nations: territorial taxation. This type of taxation stipulates that only income obtained within the country is subject to taxes. Income obtained outside of the country, however, is tax-exempt.
The mixed type is called the non-dom system, most widely-used in Great Britain and its old colonies. Here, citizens pay taxes like in the residence-based system except that foreigners can enjoy the advantages of territorial taxation. But in most cases, the transfer clause is applied, which is when foreign income is only free of taxes if they aren’t transferred to the domestic territory. Likewise, in general you need to contribute to social security in these Countries.
Independent of the three systems mentioned, there are also States that don’t impose any direct taxes. Nevertheless, these are generally small, insular countries or wealthy oil monarchies where it is usually very difficult for immigrants to settle down in the country.
On the other hand, there are many countries that broadly fit within one or two of these systems, but present some exceptions. For example, there are countries that reduce the tax burden starting at a determined sum (like the Isle of Man) or that only tax some income generated outside the country, such as interest and dividends (like Uruguay).
In relation to the tax systems, the existence of CFC rules is important in those respective countries. For example, reduced residence-based taxation can continue being attractive as long as it’s possible to manage foreign tax-free companies with no complications. However, many countries with residence-based taxation—in particular those countries with a high tax burden—have promulgated CFC rules with the goal of preventing tax avoidance.
Residence-based taxation is the farthest reaching tax system in the world, applying in about 130 countries. If a country imposes tax duties on citizens who are registered at the census office or have habitual residence (meaning they have a fixed domicile), they will have to pay taxes on income, no matter what country it is obtained in.
If the person has a business outside the country, they will have to continue paying taxes on the income earned from distributing dividends or from their salary. If, though, the company pays local taxes, it will be regulated by international tax laws (CFC rules).
In many countries where there is a high tax burden, once their tax residents reach a certain share in foreign companies that enjoy lower-than-average tax burdens (below 10%-15%), or if these companies operate from their country of residence, they will also have to pay local taxes according to the corporate tax rate in the country with the higher tax burden.
However, only 45 countries have CFC rules. This means that almost 85 countries—the world majority—have a residence-based system where foreign companies can be run without complications or having to pay tax.
Given that many countries don’t consider cash payments and withdrawals from a business account a covert method of profit distribution (or because the exchange of information between the banks and the State is lacking), it’s often unnecessary to distribute dividends or pay salaries subject to tax; and if it is necessary, it’s only in a limited form. Although given that residence-based taxation is between 5-15% in these countries, it shouldn’t be too painful to pay the taxes.
So if you’re a business-owner, it might be a good idea to emigrate to a country that uses residence-based taxation as long as it doesn’t have strict international tax laws. Many countries with residence-based taxation, but without CFC rules, can be very attractive places to live.
In Europe and the EU there are many countries with residence-based taxation that lack CFC rules. Countries like Switzerland, Belgium, the Netherlands, and Luxembourg, along with the majority of southeastern European States, hold very interesting opportunities for business-owners who want to considerably reduce their taxable income.
Countries like Montenegro, which has a fixed tax of 13%, can compete perfectly well with tax-free countries that often have much higher social security rates to pay or charge more for residence, such as some non-dom States. Similarly, on the international level, countries like Chile, Colombia and Ukraine shouldn’t be forgotten as countries that also use residence-based taxation.
Countries that use territorial taxation are most attractive to business-owners that aren’t tied down to one place. In these countries, you only pay taxes on income obtained within the country. This means that if a person earns money in other countries, this income would be tax exempt.
What’s essential is that foreign earnings are obtained through foreign companies. Any person who registers a company within the country will have to pay corporate tax. Income that comes from local business doesn’t constitute foreign earnings, thus is subject to taxation.
In these countries, it’s important to distinguish between whether territorial taxation applies on the personal level or only to companies.
Many developing countries, but also Morocco, Estonia and Singapore, have stipulated that territorial taxation only applies to businesses.
This means that a corporation in these countries won’t pay taxes on a branch located in another tax-free country, and in certain conditions it will be able to transfer these profits tax-free. However, in this case the company would need to have another subsidiary company or branch with commercial headquarters in another country.
People who simply want to do business in another country generally won’t have recourse to territorial taxation.
The only relevant States for this article are those that use territorial taxation for individuals. There are 40 of these countries around the world. Some of the more esteemed countries include the Philippines, Hong Kong, Paraguay, Nicaragua, and Panama. It’s also worth keeping in mind countries like Namibia, Georgia, Malaysia and Guatemala.
For territorial taxation to work most effectively, these countries have also rejected CFC rules.
Someone with their domicile in Panama, for example, will be able to do business in Germany or the UK with an American company without any complications, and will be exempt from paying taxes on all their profits.
The fact that many of the countries with territorial taxation are developing countries has its advantages and disadvantages. On the one hand, lack of infrastructure and crime rates can be a problem in many of these countries. But on the other hand, not only are you exempt from taxes but you can also avoid contributing to social security.
Many of the poorer countries especially have introduced various programs that help facilitate obtaining a residence permit. Aside from lots of paperwork, countries like Paraguay, the Philippines, or Panama only require you to deposit a few thousand dollars in a local bank account.
In other countries that for decades have recognized the advantages of territorial taxation, the situation today is quite different. Someone who wants to establish their domicile in Hong Kong will have to invest at least half a million dollars to get a residence permit. And some States like Thailand, for example, practically don’t grant official residence permits, so immigrants have to resort to entering and exiting the country (visa runs).
However, there are some States that use territorial taxation without social security contributions that are relatively easy to emigrate to. In many cases, they present the additional advantage that to maintain residence, it’s not necessary to comply with a six-month stay in the country.
In a few countries, after getting permanent residence, it’s possible to leave the country for years without losing your status as a legal resident. Usually, like in the cases of Belize and Uruguay, the requirement is to reside in the place for nine months of the first year of your application.
Uruguay, for example, has a special form of territorial taxation. Business-owners can earn their money outside of the country tax-free, but need to pay taxes of 12% on foreign interest and dividends.
There are also similar exceptions in other countries. For example, in the Philippines and Cuba, territorial taxation only applies to foreigners, while their citizens are subject to residence-based taxation. It’s only in North Korea—which we mention just as an interesting anecdote—that this works in reverse.
Some countries with residence-based taxation, like the Dominican Republic, offer special programs for retirees and pensioners of a certain age who want to enjoy a tax-free retirement.
An interesting combination of territorial and residence-based taxation is the non-dom system, which we will analyze next.
The non-dom system
The non-dom system comes from English law, which differentiates between a domicile and residence. In simple terms, a “domicile” is the country where you spend the majority of your life and where you intend to die. Generally, it is defined by your father’s country of origin. A “residence”, on the other hand, is the place where you reside at a fixed moment in your life.
If you have a residence but are not domiciled in a country that uses the non-dom system, you can enjoy a type of territorial taxation. In practice, every foreigner is a non-dom, but no nationals are. Given that the States that apply this non-dom system are all culturally very similar, if you come from one and can’t take advantage of the non-dom system there, emigrating to one of the other countries can be a good option.
When you have non-dom status, you are under a type of territorial taxation, while nationals of the country only have recourse to residence-based taxation.
This is especially interesting when combined with the international tax laws that exist in some non-dom countries, like the United Kingdom. These laws only apply to their citizens, not to non-doms.
The non-dom system differs from the territorial taxation system with respect to the application of certain extraordinary conditions, known as the transfer clause (Remittance Base). Foreign earnings aren’t taxable as long as they aren’t transferred or introduced into the country.
In practice, this means that you need to avoid large flows of income into a domestic bank account; otherwise you will have to pay taxes at the standard rate. All money kept in foreign accounts will remain tax-free.
Withdrawing money from an ATM or paying with a credit card attached to these foreign accounts isn’t considered to be an introduction of money into the country (as long as this doesn’t occur in the country of residence), so this money also doesn’t need to be taxed.
In practice, you can’t avoid introducing some money into your country of residence because you need to pay rent and social security. Plus, if you don’t introduce any money you can’t credibly demonstrate you live there. In any case, the taxes are reasonable.
The 3 countries in Europe that use a classic non-dom system are the United Kingdom, Ireland, and Malta (you can read about them here). Outside of the European continent, there are also former British colonies that use the non-dom system, like Barbados in the Caribbean or Mauritius in the Indian Ocean.
There, an Englishman, Canadian, or Australian could sell their goods in Germany, invoicing the client through their tax-free company in Dubai (as long as the German sales aren’t too high a percentage of the total income) without paying taxes on any of this, thanks to their tax residence in Malta.
That said, they will have to contribute to social security in practically all non-dom States, which can be a relatively high tax, especially in the United Kingdom. Furthermore, the non-dom system is tied to certain conditions in some countries.
For example, in the United Kingdom you only have recourse to these regulations for 7 years. After this time, you will have to pay a flat tax of £30,000 (which most of the UK’s millionaires don’t mind doing, of course). If someone doesn’t want to pay tax, they can leave the UK for 3 years and come back to enjoy another 7 years without taxes.
For instance, you could spend these 3 years in Ireland, a neighboring non-dom State where neither this time limit nor flat tax exists.
Cyprus is a special case among the non-dom countries. There you will be able to enjoy total tax exemption with respect to interest and dividends, whether foreign or domestic.
Given that the non-dom systems are targeted at foreigners, the majority of the non-dom States are quite open to immigration. The simple immigration conditions for EU citizens in Malta, Ireland, and the United Kingdom have made these countries especially interesting for such citizens. You can quickly avoid taxes without any large complications and without having to sacrifice your quality of life.
Compared to other States within the territorial taxation system, we have to keep in mind that the non-doms will always have to pay social security, will have less flexibility and usually will have to spend at least half the year in the State to maintain their status. In my experience, Malta and Cyprus usually take these rules less seriously than other countries.
Systems without direct taxes
Finally, there are even countries in the world that don’t apply direct taxes (or hardly do).
In the majority of these cases, there are no income taxes or capital gains tax, and there are only limited corporate taxes, usually only on banks and oil consortiums to assure the financing of the States in question.
Thus, these tax-free countries, or rather small islands, are frequently offshore financial centers or larger oil-rich countries.
Within the first type, you can avoid paying direct taxes in the Bahamas, the Cayman Islands or Anguilla, for example. In the second case, countries like Brunei, Qatar and the United Arab Emirates function as tax havens.
In any case, you can’t forget that the absence of direct taxes doesn’t mean that there are no taxes at all. Usually there is a value added tax (VAT) and in many cases very high import tariffs that considerably increase the cost of living in the countries in question.
Also, it’s generally quite difficult to emigrate to these countries.
If you don’t have the bad luck of being sent into the desert as a civil servant, in general you need to invest considerably to obtain access and residence. And although the quality of life is usually quite high, cultural differences within the oil-rich Muslim countries, and the small size of the insular States, are often factors that dissuade people from deciding to settle there in the long run.
In my opinion, you can only realistically consider emigrating to States like the Bahamas, Bahrain or the United Arab Emirates, where very successful business-owners continue to be welcomed.
Which is the best tax system in the world to emigrate to?
So, which country has the best tax system? It depends on the individual and their own preferences.
If it’s their final intention to live without paying taxes, employees looking for local company jobs can only opt for countries that are totally tax-free. But this is hardly ever easy because companies rarely send their workers to insular tax havens, and moreover, not many people want to live and work in the hot oil States.
For entrepreneurs and freelancers that aren’t tied to any one place, there are many more possibilities.
Independent of the specific tax system, they should choose a country without international tax laws from which they can manage their business without taxes or any complications. In some cases, it might be convenient to pay the prescribed 10-20% taxes in exchange for a lower cost of living and/or a higher quality of life.
If your intention is to truly live tax-free, without a doubt you will have to make certain concessions.
Non-dom States offer freedom from a tax burden and relatively easy immigration, but they also bring with them a high cost of living and the obligation to pay social security.
In countries with territorial taxation, you can sometimes avoid these restrictions but inevitably they will have worse infrastructure, plus more poverty and crime. The deciding factor is how each person weighs each of the main factors.
In the end, you need to decide if you are really going to live in the country where you have your tax residence, or if you only want to use the second flag in flag theory as a place that gives you legal security and other advantages. For example, you will need to keep in mind if your specific State follows the 183 days rule to the letter or not.
Neither the tax system nor the tax rate are the most important thing, but rather the quality of life, security, cost of living and immigration conditions. If you can’t prolong your stay, what good is it to have found an advantageous tax system?
At Tax Free Today, we can help you to find the best place for you, keeping in mind your personal situation, desires and goals. Not only do I know the States and their tax systems; I also know their immigration requirements and the living conditions in those countries. You can take a look at our consulting services here.
If it’s already clear to you which country you are going to start a business in or emigrate to, take a look at our business creation services.
Because life is yours for the taking!