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Portugal/USA – capital gains under the NHR tax regime

Under the non-habitual resident regime, capital gains resulting from the sale of movable property (personal property) – for example, from the sale of shares or other holdings in companies or other legal entities – are generally taxed in Portugal at a flat rate of 28% for IRS purposes, except if the capital gains are earned by a company or other legal entity located abroad owned by the individual who is a non-habitual resident in Portugal, or if the income results from a permanent establishment that he also owns abroad, for example, an office.

Article 81, no. 5, § a) of the Portuguese Personal Income Tax Code clearly states that “non-habitual residents in Portuguese territory who obtain, abroad, income from the category […] G [mais-valias]The exemption method applies, provided that [os rendimentos] may be taxed in the other Contracting State, in accordance with the convention for the avoidance of double taxation concluded by Portugal with that State”.

Thus, Portugal will tax capital gains resulting from the sale of movable property, unless they can be taxed abroad under the double taxation convention, and even if the other state does not actually exercise its power.

At first glance, the double taxation convention signed by Portugal with the United States of America provides for a similar solution in its article 14, where, in point 6, we find a default rule according to which “gains from the disposal of any property, with the exception of the property referred to in paragraphs 1 to 5, shall be taxed only in the Contracting State of which the transferor is a resident”.

However, Article 1(b) of the Protocol to the Double Tax Convention adds that “notwithstanding anything in the Convention […] a Contracting State may tax its residents, and the United States may tax its citizens, as if the Convention had not entered into force. For this purpose, the term ‘citizen’ includes a former citizen whose loss of citizenship was primarily for the purpose of avoiding the payment of taxes, but only for a period of 10 years after such loss.”

This apparent contradiction was the subject of an arbitration decision by the Lisbon Arbitration Court “CAAD”, since the Tax Administration wanted to tax the income, but the taxpayer argued that the Protocol should be applied, so that the exemption provided for in Article 81(5)(a) of the IRS Code was met.

Thus, in the words of the court, “with regard to category G income (capital gains) from a US source, the subsumption of paragraph a), no. 5 of article 81 of the IRS Code seems straightforward, since such income is, according to the Convention, of which the aforementioned Protocol is an integral part, taxable in the State of residence (Portugal) and, simultaneously, in the State of nationality (United States of America)”, so the exemption method should have been applied.

The decision is still subject to appeal and there is no formal precedent arising from it, which means that the Portuguese Tax Authority is not legally bound by it in similar future situations. Nevertheless, the Court’s decision was unanimous and represents the first court case to prevent the taxation of any kind of income or capital gains of non-Portuguese origin at the level of US citizens resident in Portugal and beneficiaries of the NHR regime.

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