Permanent Establishment & Dual Residence

When you manage your Estonian company from another country, two important tax concepts may apply: permanent establishment and dual residence. These arise when business is operating cross-border. 

Note that these are two different concepts with different tax consequences.

What is Permanent Establishment (PE)

If you are new to international business or taxation, you may not have heard of the term “permanent establishment” or “PE”. It is a legal concept used in international taxation to determine when a company has a taxable presence in another country.

A PE is not the same as a company's legal address, place of management, branch, or tax residency. Instead, it is a way for tax authorities to determine whether your business activities in another country are significant enough to be taxed there. 

Understanding the basics of PE is important if your company operates across borders.

Definition

According to the OECD Model Tax Convention, a "classical" permanent establishment means: 

a fixed place of business through which the business of an enterprise is wholly or partly carried on. 

Each element of this definition is crucial for a PE to exist. Most countries have based their domestic tax rules and tax treaties on this OECD definition. 

Agency PE

PE can also arise through people, not just through premises. This is known as a “dependent agent” or “agency PE”.

As per international practice, such a dependent agent is described as „a person acting on behalf of an enterprise who has, and habitually exercises an authority to conclude contracts in the name of the enterprise in the other state“. As opposed to a “classical PE”, it does not require a specific fixed location in order to be triggered but instead relates to the nature of the agent’s activities.

Country-specific differences

Each country has a slightly different approach to PEs and the specific domestic definition should always be checked. After looking into domestic law, be sure to also check the tax treaty between Estonia and the PE state. Tax treaties usually limit the existence of a PE compared to rules in domestic law.

PE and your Estonian company

A PE can exist only  in another country - not in the country where the company is established. This means that your Estonian cannot have a PE in Estonia, but if your activities check all the boxes for creating a PE in Germany for example, then you would have an Estonian company with a PE in Germany.

Registration and taxation

Although a PE is not a separate legal entity, it is treated as taxable presence in that country.

This usually means: 

• registration with the local tax authority,
• maintaining separate accounting for local business activity, and
• filing tax declarations for the PE's income. 

Please review the available information about PE registration and compliance in the jurisdiction where your activities might trigger a PE.

Estonia avoids double taxation by exempting the profits of a foreign PE from Estonian corporate income tax, provided these profits are taxed abroad. 

Dual residence

The second tax aspect that can arise in cross-border business is dual residence. This happens when a company is  considered a tax resident in two countries at the same time. 

Most countries tax their own residents on worldwide income, so each country defines tax residence independently. When those definitions overlap, the same company can end up being treated as tax resident by two tax authorities - each expecting to tax its profits. 

Estonian rule

Estonia has a simple rule which says that a company is tax resident in Estonia if it is incorporated under Estonian law.

If you have registered your Estonian limited liability company (OÜ) in the Estonian business register, then this means your company is an Estonian tax resident and subject to tax in Estonia. The Estonian Tax and Customs Board can issue a Certificate of Residence to your company confirming this status. 

How dual residence can occur

Some countries apply additional criteria for determining tax residence. 

One of the most common is the place of effective management - the country where key management and commercial decisions are made. 

If your company's strategic decisions are made from a country that applies this rule, that country might also claim your company as its tax resident. The result can be dual residence, where two countries both believe your company is resident and entitled to tax its profits. 

Resolving dual residence conflicts

If dual residence occurs, the issue is usually resolved through tax treaty between the two countries. 

Earlier treaties used the "place of effective management# as a tie-breaker, but newer treaties - following the OECD's BEPS recommendations - require the competent authorities of both countries to agree which country will treat the company as resident for treaty purposes. 

This process can take time and involves submitting detailed information about where the company is actually managed and controlled. 

Not the same as a permanent establishment

A company with dual residence is not the same as a company having a permanent establishment in another jurisdiction.

• Dual residence means two countries both claim the company as their home resident.
• A PE means that one country remains the home, while another country recognizes a taxable presence of the same company. 

Also, keep in mind that rules for determining tax residency are different for companies and individuals!

Want to know more?

Now that you have read the basics about both concepts, learn more about them under Permanent establishment and Dual residence.