Permanent establishment and VAT

Entrepreneurs often establish companies in Estonia but actually operate in another country. However, for VAT and corporate income tax purposes, this may mean the company has acquired a permanent establishment (PE) abroad. Along with it, new tax liabilities arise.

Let’s explore this.

What is a «permanent establishment»?

A permanent establishment is more than just a legal address or a company’s registration in the commercial register. According to EU and Estonian law, a PE arises where the company is actually managed. This means where decisions are made, where employees work, or where key business functions are performed.

The most common situations are when a director or even an entire team permanently works in another country. Or when transactions are concluded abroad. In this case, from the tax authorities’ perspective, this is no longer “Estonian activity,” but rather activity at the place of actual presence.

VAT implications permanent establishment

The main risk is the need to register for VAT in another EU country. When services or goods are actually provided from abroad, the place of taxation is shifted. It moves to the location of the actual office or personnel.

Example 1: IT Services
The company is registered in Estonia, but its programmers work in Riga and carry out projects there. In this case, Latvian tax authorities have the right to assume that the services are provided from Latvian territory. They may require registration of a Latvian VAT number and reporting in accordance with local regulations.

Example 2: Real Estate Services
An Estonian company provides marketing services related to real estate in Portugal. Since the property is located there, the place of supply of the services is considered to be Portugal. This means the obligation to register for VAT in Portugal and report in their system.

Impact on Corporate Income Tax

If the PMT is recognized in another country, profits related to this activity must be taxed under local law.

Even if the head office remains in Estonia, the foreign tax authority may demand taxation. They will want to tax the portion of profits actually generated by their residents or within their territory. Here is how to avoid double taxation.

To avoid paying taxes twice:

• Check for a double taxation agreement between Estonia and the country where you work;
• Document where functions are performed (employment contracts, IP addresses, workstation locations, business trip reports);
• Execute contracts with foreign branches or contractors if the actual work is not performed in Estonia.

Before working abroad, we recommend consulting with lawyers.

Practical Recommendations

Several important recommendations:

• Analyze your business model—where the main added value is created. Working abroad may not be justified.
• Track employee locations—constant work from abroad = risk of VAT.
• Promptly register for VAT in another EU country if services are provided from there.
• Keep evidence: correspondence, time reports, work logs, contracts.
• Consult with local tax authorities—the criteria for VAT may differ from country to country.
• Hire employees in the company’s country of registration and organize management and operations in Estonia.

We repeat, but this is extremely important: consult with specialists.

Conclusion

A company’s place of registration does not always determine where tax liability arises. If the business is actually conducted outside of Estonia, then taxation should also occur there. In the era of remote work and IT projects, this is especially important. One decision can lead to a requirement to retroactively register for VAT in another country. You may also need to pay taxes for several years.

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Expert advice:
If you are conducting projects in several EU countries, conduct a “tax presence” audit. Check the actual location of your employees and managers. This will help you identify tax risks early and avoid claims from foreign tax authorities.