In general, individual taxpayers are taxed on a cash basis. Exceptionally, the Estonian controlled foreign company (CFC) (anti-deferral) rules attribute undistributed profits of foreign ’tax haven’ companies to resident individual taxpayers if such companies are controlled by Estonian residents.
Employment income is taxed on a gross basis and includes salaries, fees for personal services, and directors’ fees. In general, fringe benefits are only taxable at the employer level and are not included in the gross income of an employee.
For resident individuals, foreign-source employment income is exempt from Estonian income tax if the following two conditions are met:
- The individual is present in a foreign country for employment purposes for more than 182 days during any 12-month period.
- The foreign-source employment income is taxable in the foreign country and this can be substantiated by written documentation, which has to indicate the amount of the related foreign income tax (even if this is zero).
Non-resident individuals are liable to Estonian income tax on Estonian-source employment income. This is deemed to arise if the location of performing personal services is in Estonia and the remuneration is paid by an Estonian employer (including non-residents acting as employers in Estonia and PEs of non-residents if the remuneration is paid out or borne by it) or if the individual has been present in Estonia for employment purposes for more than 182 days during any 12-month period. Directors’ fees paid for the work done for Estonian companies are always taxable in Estonia regardless of the residence of the payer of the fees.
Capital gains and investment income
Capital gains from the sale or exchange of assets are generally taxed on a net basis as part of ordinary income, but capital losses can only be offset against capital gains. Certain qualifying capital gains are exempt from income tax, such as the gain from the sale of a personal residence.
Certain capital gains realised by non-residents form part of their Estonian-source income, for which they are liable for self-assessing 20% Estonian income tax and submitting a tax return to the Estonian tax authorities. Such types of income include:
- certain capital gains (e.g. gains linked with immovable property located in Estonia)
- profits derived from business conducted in Estonia without a registered PE, and
- other items of income from which tax should have been withheld but was not.
Investment income is generally taxed on a gross basis as part of ordinary income. This may include, for example, certain foreign dividends, interest, and insurance proceeds. However, a tax-exempt investment account scheme is applicable for resident individuals, under which individuals can defer the moment of taxation of investment income and capital gains derived from qualified securities. Under certain conditions, individuals can reinvest such income or gains without paying any income tax.
In fear of an increase in payment of 'dividend salaries', the total corporate income tax (CIT) burden of a dividend is kept at approximately 20%. If a resident individual receives a dividend that has been taxed at 14%, then a 7% WHT rate applies. Foreign dividends are tax exempt provided that either the underlying profits out of which dividends are paid have been subject to foreign income tax or if income tax was withheld from dividends received.
If the recipient of a dividend that is taxed at 14% CIT is a non-resident individual, a 7% WHT rate will apply unless a tax treaty provides for a lower rate of WHT (5% or 0%).
Rental and royalty income
Rents and royalties generated from the use of certain assets are generally taxed on a gross basis as part of ordinary income, unless the taxpayer elects for net basis taxation as part of business income.
For non-resident individuals, the gross amounts of rents and royalties are generally subject to WHT at source, at 20% and 10%, respectively.
For resident individuals, there exist numerous items of tax-exempt income (i.e. excluded from gross income). As described above, some of the more important items of tax-exempt income include qualifying foreign employment income, qualifying foreign dividends, and certain qualifying capital gains.