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. Last Updated: 07/27/2016

Avoiding Double Trouble: A Taxing Question

Where to pay income tax and how to avoid double taxation are serious questions for any expat.

Even when there are double-tax treaties between Russia and an expat's home country, it can be difficult to work out what they actually mean in practice.

Russia has double-taxation treaties with more than 60 countries, including Britain, the United States, Canada, Australia, New Zealand, Germany, France and Italy. The treaties aim to determine which country has priority to tax income and how to eliminate double taxation.

If a foreign citizen is in Russia for 183 days or more in a calendar year, then he or she becomes tax resident in Russia and must pay tax on worldwide income in Russia. However, those who are tax resident in Russia may in some cases remain tax resident in other countries at the same time.

"There are typically a series of so-called 'tie-breaker' tests to determine the country of residency for treaty purposes," said Tim Carty, partner at the human capital group of Ernst & Young in the CIS.

The first step in determining tax residency is usually to look at home ownership in either country. If a person has homes in both or neither of the two countries, the next step is where a person lives. If that is unclear, the determining factors are vital interests -- including investments, work, family and club membership -- then nationality.

A foreigner whose country of residency is not Russia typically has to pay Russian taxes only on Russian-source income.

"For most people, this would mean Russian investments and income derived from working here, even if it is paid outside of Russia, which is a point many people may not focus upon," Carty said.

When there are treaties between Russia and a country of origin, those foreigners may be eligible for tax credits.

For example, imagine the case of an individual who is tax resident in Russia while also being tax resident in another country, and viewed as a resident of the second country under the tie-breaker clauses in the treaty. He earns 200 rubles, of which 100 rubles is for work done in Russia for a Russian company and 100 rubles is for work done in the second country for a company based there. He pays the 13 percent income tax in Russia. He determines that his tax rate in the other country is 40 percent and that it applies to worldwide income. Under the credit system, he would pay 80 rubles of tax, minus 13 rubles credit for his Russian taxes. Net tax is 67 rubles, and with the addition of the Russian tax of 13 rubles, the total tax paid is 80 rubles.

While citizens of most countries can terminate tax residency, it is impossible for those from the United States.

"U.S. nationals and U.S. green card holders always are liable to tax on worldwide income, no matter what the circumstances are," said Nancy MacEntee, senior tax manager at Deloitte in Moscow. "Therefore, a U.S. individual will always have to file a U.S. tax return. Depending on a number of factors, he will be able to use a credit of taxes he paid in Russia."

Ernst & Young's Carty added that under the protocol attached to the double-tax treaty between Russia and the United States, U.S. nationals who are tax residents in Russia only pay Russian tax on the income that comes from Russian sources.

Moreover, MacEntee said, even if U.S. citizens pay income tax in Russia, they will still have to pay "top-up" taxes equal to the difference between their U.S. effective tax rate and the 13 percent rate for Russian tax residents.

"U.S. taxpayers may also get to exclude $80,000 of foreign-earned income plus some additional amount related to foreign housing costs, and the interaction of this exclusion and foreign tax credits is a complex area," Carty said.

Carty added that some countries, including Belgium and Germany, use a system known as "exemption with progression." Under exemption with progression, the citizen described in the previous example exempts 100 rubles of income from German tax because it has already been taxed in Russia. So he pays 40 rubles of German tax on the German 100 rubles, and 13 rubles of Russian tax on the Russian 100 rubles. His total tax is 53 rubles, compared with 80 rubles paid under a tax credit system.

Still, even when foreigners are eligible for tax relief under a treaty, it is not automatically granted to them.

"Relief from double taxation under treaty technically has to be claimed with the Russian tax authorities, and this process can often be very complex and administratively burdensome," Carty said, adding that Russian law imposed a time limit for making tax relief claims.

Under Russian tax legislation, such claims must be made by Dec. 31 of the year after that in which the money was earned.

Things are more complicated for citizens of countries that do not have double-tax treaties with Russia. MacEntee said Russia did not give foreign tax credits in the absence of treaties.

However, things are not all bad.

If expats terminate tax residency in their home countries, then they are required to pay only local tax on income coming from those countries.

It is only when people remain residents or continue receiving income as non-residents from foreign countries that they may have to pay double taxes on their worldwide income, unless their home countries give double-taxation relief under domestic laws.

"Close scrutiny of any applicable rules would need to be made to see if anything beneficial exists and would apply," Carty said.