Discover 8 of the most tax-friendly countries for tech startups in 2023 plus 6 important questions about tax matters that founders should always ask.
This article discusses information pertaining to tax rates and tax regulations. None of this information is legal or tax advice. This article is for informational purposes only.
Let's imagine you've just decided to register a company for your new business. More often than not, you’ll have to choose between registering your company in your country of residence or registering it in a jurisdiction abroad. Even though registering in the same country is typically more straightforward and cost-effective, founders of tech companies regularly opt for registering their company abroad in more favorable jurisdictions. There might be several reasons for this, including the fact that foreign jurisdictions offer more regulatory clarity and have a friendlier investment climate.
In our experience, startup founders don’t spend as much time as they need to on analyzing the tax implications of registering a company abroad. This is often because of a simple reason: it's expensive to engage multiple advisors in different countries to get a thorough understanding of all tax implications of registering a company abroad. Unfortunately, failure to analyze all the implications up-front may lead to unwanted consequences for founders. Choosing a not-so-suitable country could result in the founder:
- having to pay fines or penalties
- not understanding the actual tax duties in both their country of residence or in the foreign jurisdiction where their company is registered
- not knowing where the taxes should be paid
- having issues with transferring proceedings between banks and countries
In this article, our goal is to help founders who are trying to figure out where to register their company abroad. We will provide an overview of the most tax-friendly jurisdictions in 2023 and their key advantages. We’ll also outline the key questions founders need to take into account when choosing their jurisdiction.
At the end of the article, you'll be able to use our new Legal Nodes Tax Analysis Tool. Simply fill out a few details and receive a detailed analysis of the tax consequences of registering a company in a foreign jurisdiction. Click here to use the Legal Nodes Tax Analysis Tool now.
Why do founders choose foreign jurisdictions for their company registration?
It is increasingly common for many sectors of the modern economy to produce businesses that are global by default. Many founders of innovative projects position their product as one that is ‘global’, meaning that it is accessible to users from anywhere in the world.
However, the legislation of most countries does not always keep pace with technological developments and fails to keep up with regulations for new types of business models that are emerging every day. Complicating matters even further is the fact that even the countries that have adopted legislation designed to regulate certain innovative activities may have distinctive regulatory differences, making things complicated for founders. The same project may be classified differently in different jurisdictions, so in practical terms this might mean that a business operating in Country A needs a license, whereas in Country B, it needs special authorization, and in Country C, it doesn’t need anything at all. Knowing which licenses and authorizations are required from the relevant authorized regulatory bodies to conduct various business activities can make things even more complicated for founders of global businesses.
One of the key reasons why founders who are building default global companies choose to register their company in a foreign jurisdiction is legal certainty. If a country offers a degree of legal certainty, then founders can better understand the legal consequences of conducting certain activities in that jurisdiction. So for example, selling a product might be easier in a country where there are clear rules surrounding the sale of that product, compared to selling the product in a country where the law seems vague or seems like it may change.
In search of a suitable jurisdiction for the registration of a foreign company, founders often turn to jurisdictions with a favorable regulatory climate for technological projects. These jurisdictions often also have:
- Clear rules of the game for innovative business models
- Flexible regulation for new technologies
- A well-developed legal and financial infrastructure
These kinds of jurisdictions are typically attractive for both investment purposes and from a tax burden perspective.
Which countries are considered tax-friendly jurisdictions for innovative technology projects?
Let’s take a look at the various tax regimes offered by jurisdictions for a technology business. A number of jurisdictions around the world are interested in attracting financial and intellectual capital to their economy. These jurisdictions often implement various tax reliefs and exemptions that result in a more competitive tax burden (including exemptions in specific cases) for projects operating in the field of innovative technologies.
We offer a comparative analysis of jurisdictions from different parts of the world in terms of taxation. We will consider both island jurisdictions, often referred to as “offshore”, as well as European jurisdictions (including EU member states) and Asian jurisdictions.
🔖 We have previously discussed the best practices for startup legal structuring in another article, so be sure to check that out to get a fuller picture on how to legally structure your global startup.
Due to the development of legislation regulating the activities of virtual asset service providers (VASP), jurisdictions such as the Cayman Islands and the British Virgin Islands have gained new life. These are classic “offshore jurisdictions” that offer founders complete absence of taxation on the income of “local” companies. In other words, founders of a company registered in these jurisdictions can expect that the income from the activities of their project, accumulated by the company registered in the Cayman Islands or the BVI, will not be taxed.
At the same time, one of the challenges of using these jurisdictions is their inclusion in various gray and black lists of international organizations. This makes them less attractive to founders and significantly complicates working with the international banking system. For example, the Cayman Islands are included in the FATF’s “grey list”. The Financial Action Task Force is an international organization that serves as the global money laundering and terrorist financing watchdog. Subsequently, it could cause quite a few problems for some founders if their company is registered in a country that appears on an international gray list.
Nevertheless, these jurisdictions are popular due to their more transparent approach to taxing crypto asset transactions compared to onshore countries. Many regulators in onshore countries still don’t have a clear position on how these types of transactions should be taxed, which complicates the operations of businesses using crypto assets.
Among the European jurisdictions that stand out for favorable tax regimes, we want to highlight two jurisdictions in the European Union: Cyprus and Estonia. We’ll also look at one of the most reputable jurisdictions for startup registration, not only in Europe but in the world: the United Kingdom.
Cyprus remains a popular jurisdiction due to its membership in the European Union and moderate tax burden on businesses registered in the country. The corporate tax rate is only 12.5%, and the legislation provides for a range of tax incentives, including for innovative projects that rely on the use of intellectual property to generate income.
Cyprus tax legislation has special rules for determining taxable income from company intellectual property (including inventions and computer programs), based on a special formula for calculating qualifying profits (profits subject to taxation), which largely depends on the characteristics of expenses incurred by the company. Expenses are divided into “good” ones (internal company expenses for development and payments to unrelated subcontractors) and “bad” ones (payments to associated subcontractors and acquisition of intellectual property objects). Depending on the amount of the latter, the company has the right to exempt a portion of its profits from taxation.
The types of income to which incentives can be applied include royalties, licensing fees, compensation income, and trading profits from the disposal of IP, which provides a wide range of choices for monetizing a project. Under certain conditions, up to 80% (yes, eighty percent!) of a company's income can be exempt from taxation, which means that the company's income from the use of intellectual property will be taxed at an effective rate of 2.5%.
Thus, Cyprus offers one of the most favorable tax regimes for innovative projects, which is confirmed by the high demand for company registration services in this jurisdiction.
The Estonian tax system is one of the most competitive in the world due to a special tax regime implemented in the country since 2000, which remains too attractive to ignore. Despite the absence of specific tax incentives for IT projects, Estonia is always on the founders' shortlist of potential jurisdictions, not least due to its favorable taxation.
Unlike the majority of countries that tax corporate profits, according to Estonian legislation, only the so-called ‘distributed profit’ is subject to taxation. Distributed profit includes, for example, dividend payments and expenses unrelated to the company's activities. Only these transactions will be subject to taxation at a basic rate of 20%, allowing founders to reinvest in project development without any tax burden on the company's income.
Thus, the Estonian tax system allows businesses registered in this jurisdiction to avoid paying taxes on the company's income from activities during each business cycle of the project, which is not related to the distribution (or withdrawal) of funds from the company. Often, this alone is a sufficient reason to choose Estonia as the place of company registration for the development of an innovative project.
The United Kingdom
This jurisdiction is positioned as one of the most attractive jurisdictions for company registration, as the investment climate and regulatory policies implemented by the government are favorable for most innovative projects worldwide. Therefore, the tax system in the United Kingdom includes a significant number of tax incentives for the innovative business segment.
Despite the relatively high corporate tax rate of 25% (19% for small businesses with annual profits up to GBP 50,000, or approximately USD 61,000), the tax legislation provides at least 2 mechanisms through which a company engaged in intellectual property-intensive activities can benefit from substantial tax reduction.
The first mechanism, the ‘patent box regime’, can be advantageous for companies that have patented inventions generating project income. Activities eligible for preferential taxation under this regime include selling patented products (including products incorporating the patented invention), licensing out patent rights, and providing a service using a patented tool. Similar to the example of tax incentives in Cyprus, “good” R&D expenses are taken into account for calculating the incentive, and applying the incentive allows for taxing profits from patent use at an effective rate of 10%.
Another mechanism that enhances the tax attractiveness of this jurisdiction is the R&D tax relief, which allows for deducting an extra 86% of costs incurred on R&D from yearly profit, in addition to the normal 100% deduction, resulting in a total deduction of 186%. In other words, this tax relief system allows for nearly doubling your R&D expenses when calculating the company's profits, thereby taxing a significantly smaller portion of the actual profit.
Furthermore, these described mechanisms can be applied simultaneously, making the United Kingdom a favorable jurisdiction in terms of a tax burden on innovation projects relying on intellectual property.
Singapore is one of the most developed economies in Asia, and its government pays significant attention to tax policies, making this jurisdiction extremely attractive in terms of taxation due to a wide range of tax incentives. Despite the base corporate tax rate of 17%, the legislation includes a number of tax exemptions for startups, especially those relying on innovative developments in their activities.
Firstly, a company registered in Singapore, in most cases, is entitled to tax exemption for new startup companies for the first 3 years of operation, which means exemption from taxation on up to SGD 125,000 (~USD 91,000) of annual income. After the lapse of a 3 year period, the company will be eligible for partial tax exemption, allowing for a reduction of up to SGD 102,500 (~USD 75,000) of annual income.
Additionally, starting in 2024, Singapore is introducing the Enterprise Innovation Scheme, which offers the possibility of deducting up to SGD 400,000 (~USD 293,000) of expenditures incurred for R&D activities undertaken in Singapore (e.g., staff costs) and expenditures incurred for intellectual property registration. The total deductions/allowances granted are effectively 400% per dollar of the mentioned expenditures, up to the applicable cap of SGD 400,000 (~USD 293,000), for each activity.
Due to the available tax incentives and ongoing government efforts to make Singapore even more investment-friendly and reduce the tax burden on innovative projects, Singapore remains one of the most attractive jurisdictions in Asia for company registration.
The general corporate tax rate in the Hong Kong Special Administrative Region is 16.5%. However, companies registered in this jurisdiction can choose a “double-tier” approach, where a rate of only 8.5% will be applied until the annual profit reaches HKD2,000,000 (~USD 255,000). After crossing this threshold, the profit exceeding this value will be taxed at the rate of 16.5%.
However, the cornerstone and peculiarity of Hong Kong's tax system, which contributes to the extraordinary attractiveness of this jurisdiction, remains the “territorial tax system”. This means that a company registered in this jurisdiction is only liable to pay tax on income derived from Hong Kong. Therefore, no tax is levied on profits arising abroad (except for certain passive incomes), even if they are remitted to Hong Kong.
At the same time, the territorial tax system operates more as a tax exemption, which is not applied by default and needs to be proven to the local tax authority. The eligibility for using the tax regime is determined based on facts and circumstances that demonstrate that the company does not carry on a trade, profession, or business in Hong Kong, and that the profits do not arise in or are derived from Hong Kong. Typically, a company is eligible for the tax exemption if:
- It has no customers or suppliers in Hong Kong
- It does not sell products or services in Hong Kong
- The products do not transit through Hong Kong
- It is not managed from Hong Kong
Considering these peculiarities of Hong Kong's tax system, this jurisdiction is understandably extremely popular among international entrepreneurs whose companies generate income from clients worldwide. However, due to some attention received from international intergovernmental organizations (such as the EU), Hong Kong occasionally needs to review its internal tax rules.
United Arab Emirates
In addition to the countries discussed above, the United Arab Emirates deserves a mention. This jurisdiction is a global investment hub and, despite introducing corporate tax within the mainland, continues to offer tax exemptions for many companies registered within certain ‘Free Zones’.
What are the tax implications of establishing foreign companies?
Most founders choose a foreign jurisdiction solely based on the advantages it provides. Often, potential cross-border tax risks are not thoroughly investigated. This is likely caused by founders’ limited budgets, forcing founders to rely on a few local lawyers for advice on jurisdiction selection. These lawyers may be easily accessible and able to offer insights on choosing their local jurisdiction for company registration, but they lack the knowledge of taxation options on an international scale. Engaging consultants to analyze the risks of each jurisdiction is too expensive during the initial stages of startup development.
At the same time, when registering a company in a favorable jurisdiction from a tax or other perspective, it is important to consider additional factors that may create unwanted tax burdens (e.g., filing tax returns) in the jurisdiction of the founder's tax residency or even negate the tax advantages offered by a particular jurisdiction.
Therefore, we recommend analyzing the following factors before making a decision on where to register your company.
Withholding tax on dividends
Since the distribution of a project's profits to founders is often done through dividend payments, it is important to analyze the tax burden on the dividends.
Typically, dividends are subject to taxation twice:
- In the jurisdiction where the company is registered, at the time of dividend payments to founders (known as withholding tax), and
- in the jurisdiction where the founder is a tax resident.
Therefore, it is crucial to understand the applicable rate of taxation of dividends in the jurisdiction of company registration in advance. Moreover, the jurisdiction of your tax residency also directly affects the applicable rate, as the tax treaty (often abbreviated as Double Tax Treaty or DTT) between your country of residency and the jurisdiction where the company paying dividends is located may establish reduced rates.
Common Reporting Standard (CRS) / Foreign Account Tax Compliance Act (FATCA)
CRS/FATCA are rules for the automatic exchange of information about financial accounts (including bank accounts) between the tax authority of the country where a person is a tax resident (the jurisdiction receiving the information) and the tax authority of the jurisdiction where the resident has a financial account (the jurisdiction transmitting the information). As these rules can apply to company founders (i.e., the tax authority of the founder's residency jurisdiction may receive information about the financial accounts of a foreign company owned by the founder), it is important to consider that the tax authority of your jurisdiction may have information about the financial accounts of your company registered in a foreign jurisdiction. This also means that the tax authority may also have information about the registered company in the foreign jurisdiction.
Taxation of director's fees
From our experience, founders often appoint themselves as directors of the company and pay themselves director's fees, thereby financing their own needs. Such payments are usually subject to taxation not only in the country of the founder's tax residency but also in the country where the company is registered (similar to dividends). Therefore, it is important to analyze the overall tax burden on director's fee payments by considering the applicable rates for such payments.
Controlled Foreign Companies (CFC)
The rules for controlled foreign companies are one of the most challenging tax issues for founders of foreign companies. In general, the rules for controlled foreign companies impose obligations on founders to report on registered foreign companies and often impose additional tax obligations on the founders in the jurisdiction of their tax residency regarding the company's profits. Thus, registering an offshore company that does not pay income tax, in certain cases, may result in the profits of the company being taxed at the level of the founder and at the rates provided by the jurisdiction of the founder's tax residency. Therefore, founders should carefully consider the existence of such rules in the jurisdiction of their tax residency and the tax consequences that may arise from registering a company in a foreign jurisdiction.
Place of Effective Management (PoEM)
The concept of “place of effective management” or “management and control”, present in the legislation of most developed countries. This concept determines the tax residency of a company (and, accordingly, the obligation to pay corporate income tax) based on the place of effective management of the company. This is the location of the executive body that makes key decisions regarding the company's activities. Typically, this body is the board of directors or a sole director, which means that the company can be recognized as a tax resident (and, consequently, obligated to pay corporate income tax) in the jurisdiction where the body is located. Founders who are part of the company's executive body and who reside and make decisions regarding the company's activities in a jurisdiction different from the jurisdiction of the company's registration should take this rule into account.
Permanent Establishment (PE)
The obligation to pay corporate income tax usually arises in the jurisdiction where the company is a tax resident (i.e., where the company is registered or where its place of effective management is located). However, the company's profits may also be subject to taxation in other jurisdictions where the company has a “permanent establishment”. A permanent establishment includes certain physical locations (e.g., an office) through which the company conducts profit-generating activities for a certain period of time (usually over 6 months). Thus, a company with a permanent establishment in a particular jurisdiction, where such rules apply, must register for taxation purposes and pay corporate income tax on the profits generated within the activities of the permanent establishment in that jurisdiction. Therefore, we recommend analyzing the potential tax consequences in the jurisdiction where the main part of the team is located.
How to identify important tax questions when registering a company abroad
We’ve created the Legal Nodes Tax Analysis Tool that is specifically adapted to assess your needs and consider all tax-related factors pertaining to your situation. To get an analysis, simply let us know:
- the jurisdiction of your tax residency; and
- a favorable foreign jurisdiction where you are considering registering your company.
Based on these details, you will receive an analysis of the potential tax consequences (such as the applicability of CFC rules) and applicable tax rates (e.g., corporate tax and withholding tax on dividends / director's fees) in accordance with the highest priority questions for analysis when choosing a foreign jurisdiction for your company’s registration.
This information should give you a good idea of your options. Your next steps would be to have these assumptions validated by qualified tax advisors in the relevant countries.
All information provided in this article pertaining to tax rates, prices, currency exchange estimations, and any other figures are accurate at the time of publication. Legal Nodes is not a law firm and this information does not constitute legal advice. Additionally, none of this information constitutes tax advice or should be used for tax optimization purposes. The information provided is for informational purposes only. You should seek specialist advice from legal and tax experts and do your own research.
Legal professional with a law degree and a deep passion for international taxation, particularly cross-border taxation and the application of double tax treaties. Stanislav’s expertise shines through years of advising on complex tax matters and collaborating with international organizations like the OECD and the World Bank during his tenure at the Ministry of Finance of Ukraine. As an ardent Chelsea Football Club fan who rarely misses a match, Stanislav brings the same dedication to stoicism, finding profound inspiration in its principles.