Payments to Individuals and Tax Rules

Employment income is generally taxable.

Income tax is withheld when wages are paid. The withholding consists of state income tax and municipal income tax.

Employment income includes all payments an individual receives for work performed or services provided to an employer. This includes not only regular monthly wages, but also various additional payments, taxable benefits and benefits in kind.

Travel per diems are paid to employees who travel for work and are intended to replace reimbursement of expenses incurred during the trip. They are intended to cover the additional costs of being away from home, such as accommodation and meals.

Certain expenses may be deducted from travel per diems before tax is calculated. The rules depend on the destination of the trip.

See Per Diems Payments for Travel for further information.

An employer's contributions to a pension fund are not treated as taxable employment income until pension benefits are paid.

The contributions must comply with the Act on Mandatory Pension Insurance and the Activities of Pension Funds and the Act on Occupational Pension Funds.

However, if the employer's contribution exceeds 12% of the contribution base, plus 2,000,000 ISK per year, the excess is treated as taxable employment income at the time the contribution is paid into the pension fund.

Where pension contributions are required under a collective agreement or by law, they are never treated as taxable income before pension benefits are paid, regardless of the amount.

In practice, employers usually report pension contributions correctly through their payroll systems. However, individuals should review their tax return to ensure that contributions which should be tax-exempt have not been incorrectly reported as taxable employment income.

For individuals who are resident in Iceland (and therefore subject to unlimited tax liability), employment income earned abroad is generally taxable in Iceland as employment income. The actual tax treatment depends on the applicable double taxation agreement, if any, and on whether tax has already been paid in the other country.

Foreign employment income, its source, and any foreign tax paid must be reported in the annual tax return. Such income may affect both your overall tax liability and income-tested benefits or entitlements.

See Taxation of Cross-Border Income for further information.

Salaries from International Organisations

Salaries paid by international organisations are generally treated as taxable employment income.

In certain cases, a deduction may be available under the terms of a specific international agreement.

Salaries from international organisations must always be reported in the annual tax return and may affect the calculation of benefits and other income-tested entitlements.

Cost-of-Living Allowance

A cost-of-living allowance paid to employees working abroad on behalf of the Icelandic government is treated as taxable employment income.

However, an equivalent deduction may be claimed, so that the allowance is not subject to either state income tax or municipal income tax.

The allowance may nevertheless affect the calculation of benefits and other income-related entitlements.

Wages paid during study leave, for example under the provisions of collective agreements for public employees, are considered taxable income and are subject to income tax and municipal tax in the same way as other wages.

As these payments are not considered grants, no deductions may be claimed against them.

Commuting allowances are not treated as taxable employment income up to an annual limit determined each year in the Tax Assessment Guidelines (Skattmat).

A commuting allowance is a payment made by an employer to an employee to cover travel between the employee's home and workplace under a specific agreement relating to the use of public transport or environmentally friendly modes of transport.

The Tax Assessment Guidelines set out the detailed conditions for this exemption.

Unpaid wages are generally considered income in the year in which the work was performed, even if the payment is received later. This applies, for example, to December wages that are paid in January.

If the wages are not paid, for example due to the employer’s bankruptcy, they are not considered income.

If payment is later received, such as through a wage guarantee scheme, it is considered income in the year the payment is made.

A vehicle allowance paid for the use of an employee's private vehicle for work purposes is treated as taxable employment income. However, the employee may claim a deduction for eligible expenses.

A deduction may be claimed against the vehicle allowance if the employee's private vehicle has demonstrably been used for travel on behalf of the employer.

See Vehicle Allowances and Deductions for further information.

Benefits in kind are non-cash benefits or perks that have a monetary value. They are treated as taxable employment income. Examples of benefits in kind include clothing, goods, accommodation, vehicles and more.

Benefits in kind may be provided to an employee in connection with their employment, but they may also be provided between other related or unrelated parties.

Benefits in kind are generally valued at their market value (fair market value), unless a specific valuation is prescribed in the Tax Assessment Guidelines.

If an employer provides an employee with a car for their use or disposal, the value of that benefit is treated as taxable employment income.

The same rules apply whether the vehicle is owned, leased or borrowed by the employer or business.

The taxable value of a car benefit is determined in accordance with the valuation rules published annually in the Tax Assessment Guidelines (Skattmat).

Different rules apply depending on whether the employee has:

• full and unrestricted use of the vehicle, or

• restricted use of the vehicle.

See Taxation of Car Benefits for further information.

If an employee is provided with clothing for their use, the benefit must be reported as income at cost price.

However, this does not apply to:

• uniforms and necessary safety or protective clothing provided to employees for use in their work,

• clothing that is identified or branded with the employer’s name and is mainly used in the course of work for that employer.

Such clothing is not considered a taxable benefit.

If an employer provides meals to an employee (or the employee’s family) free of charge, the benefit must be treated as taxable income based on the valuation set annually in the tax assessment rules.

If the employee pays part of the cost of the meals, that payment must be taken into account:

• If the price paid for meals is higher than the valuation amount set by the tax assessment rules no taxable benefit arises.

• If the price paid is lower than the valuation amount, the difference is treated as taxable income.

Meal allowances paid in cash are always treated as taxable wages without any deduction.

When an employer provides an employee with accommodation free of charge, the benefit is treated as taxable income. Further details on the valuation rules can be found in the annual tax assessment guidelines.

If electricity and heating are included, these benefits must be reported as income at cost price according to the relevant bills.

If the employee is required to live in accommodation provided by the employer as a condition of employment, the value of the benefit may be reduced if the employee is considered not to use the housing full-time.

Housing is considered fully used when it is:

• up to 150 square meters for up to six residents,

• for more than six residents, an additional 5 square meters should be allowed for each additional resident.

The valuation and calculation of housing benefits follow the rules published annually in the tax assessment guidelines.

Accommodation in dormitories or work camps, where an employee stays temporarily while working for the employer, is not considered a taxable benefit.

If an employer provides an employee with free use of holiday accommodation for more than 10 days in a year, the excess days must be treated as taxable income based on a fixed amount for each additional day.

The amount is determined annually in the tax assessment guidelines. The same applies if the accommodation is used by the employee’s family members.

Holiday accommodation includes summer houses and other accommodation intended for such use, including apartments in urban areas, as well as caravans, folding campers, tent trailers and other trailers.

Special rules apply to the taxation of stock options when an employee purchases shares based on an option granted through employment. The difference between the market value of the shares and the price paid is treated as wages and taxed in the same way as other employment income.

Further information on the taxation of stock options.

The private use of motor vehicles other than cars must be reported as income based on a percentage of the purchase price of the vehicle, in accordance with the valuation rules published annually in the tax assessment guidelines.

Private use of aircraft must be reported as income based on a fixed amount per flight hour. The amount is determined annually in the tax assessment guidelines.

All pension payments from pension funds, including payments from private pension savings, are considered taxable income of the recipient and are taxed as income.

If a pension (retirement pension) is paid directly by an employer, the payment is treated in the same way as any other employment income.

If a child has lost one or both parents and is taxed separately on income other than employment income, the child's pension is included in the child's taxable income.

Benefit Payments

Various benefits may be paid by insurance companies, trade union sickness funds or other parties. The tax treatment depends on whether the benefits replace income or are paid as compensation for loss or injury:

• Benefits for temporary loss of income, such as benefits replacing wages, are generally taxable.

• In contrast, lump-sum payments for permanent bodily injury or disability are often tax-exempt.

Payments from private pension savings and supplementary pension savings are generally considered taxable income in the year in which they are paid out.

During the contribution period, tax deferral or tax relief has often been granted, and the funds are therefore taxed when they are paid out.

If private pension or supplementary pension savings are paid to an heir, the payments are considered taxable income of the heir.

In practice, it is important to distinguish between regular pension payments and special withdrawals. Regular payments are generally subject to withholding tax in the same way as employment income, while individual withdrawals may be taxed differently depending on how the pension rights are structured.

Special Withdrawals from Private Pension Funds

Special withdrawals from private pension funds, for example under authorized arrangements or special temporary measures, are generally considered taxable income unless otherwise stated.

Such payments are reported as income in the year in which they are paid out, regardless of the years in which the pension rights were accrued.

When filing a tax return, it is important to ensure that such payments are classified correctly, as incorrect classification may affect the calculation of income tax and benefits.

Child pension paid by the Social Insurance Administration because one or both parents are deceased is not considered taxable income. The same applies to a child’s pension paid in respect of a child whose paternity has not been established or whose parent is in custody or serving a prison sentence.

The same rules apply to a child’s pension paid for educational purposes (education child’s pension) as to educational maintenance payments. If the payment does not exceed the amount of the child’s pension, it is not taxable.

Child support payments determined or confirmed by the District Commissioner are not taxable up to a maximum amount equal to twice the child’s pension.

If the payments exceed this amount, the excess is considered taxable income of the recipient.

Payments to Day-Carers

Reimbursements from a municipality to parents for childcare provided by a childminder are not considered taxable income for the parents.

However, payments made by a municipality to a day-carer in respect of the childminder’s own children are considered taxable business income of the childminder.

Home-Care Payments

Grants (so-called home-care payments) paid to parents or guardians to care for a child at home from the end of parental leave until the child is offered a place in preschool or starts compulsory school are not taxable.

The payments are made instead of a municipal subsidy for childcare.

The tax exemption applies only to the parent or guardian. If the payments are made to another person who cares for the child, they are considered taxable income of the recipient.

See further information on payments for childcare in a private home.

Maintenance payments from a former spouse are tax-exempt, provided that the payments do not exceed the amount of the basic pension (old-age pension excluding supplements and additional benefits) paid by the Social Insurance Administration.

See old-age pension amounts.

Housing benefits from the Housing and Construction Authority (HMS) are not considered taxable income. The same applies to special housing support provided by municipalities.

Pension supplements related to maintenance costs (social assistance) and supplements for the cost of operating a vehicle are not considered taxable income.

These are specific supplements intended to cover certain expenses.

Strike grants paid by trade unions are considered taxable income and are taxed in accordance with the general rules applicable to wages.

Grants from an employer or a trade union to cover the cost of regular participation in sports are tax-exempt up to an amount determined annually in the official tax assessment. Payments exceeding that amount are considered taxable income.

Examples of regular participation in sports:

• Training fees

• Access to gyms, swimming pools, ski resorts, and golf courses

• Sports courses

• Personal training

Expenses for equipment or clothing are not covered by this exemption.

Recreational grants paid by municipalities for children’s participation in sports or other past times are not taxable.

Grants for education, courses, or research are considered taxable income. Direct expenses may be deducted from such grants, for example course fees, tuition fees, the purchase of textbooks, or travel expenses related to the studies.

However, personal expenses or expenses for the purchase of equipment, such as a computer, are never deductible.

Accommodation and travel grants paid to offset study costs (often referred to as rural student grants) are not considered taxable income for the student.

The payments are generally intended for students who need to live away from home or incur additional travel expenses.

Grants for holiday stays or the rental of holiday accommodation are tax-exempt up to an amount determined annually in the official tax assessment. Payments exceeding that amount are considered taxable income.

Grants from the Cultural Heritage Preservation Fund are exempt from income tax. The amount of the grant reduces the acquisition value of the relevant property.

Disability benefits awarded as a lump-sum payment for permanent disability resulting from an accident are not considered taxable income.

In contrast, disability benefits paid on a regular basis (for example, monthly) are taxable.

It is therefore important to distinguish between a lump-sum payment for permanent disability and regular benefit payments.

Childcare allowance paid by the Social Insurance Administration as financial support to parents of children with disabilities or serious illnesses is not considered taxable income.

The purpose of the allowance is to cover additional costs related to healthcare, treatment and rehabilitation.

Compensation for non-pecuniary damage and lump-sum compensation for permanent disability are not considered taxable income. The same applies to damages and insurance compensation for damage to assets that are not used in business activities.

Other types of compensation, such as compensation for loss of employment, loss of wages or payments that replace employment income, are generally considered taxable income.

It is therefore important to distinguish between:

Death benefits from insurance companies and trade union sickness funds that are determined and paid as a lump sum are not considered taxable income.

They are generally intended to cover expenses related to a death.

Death Benefits Due to Accidents

Death benefits paid by the Social Insurance Administration as a result of an accident are not considered taxable income.

These benefits are paid to a widow, widower or cohabiting partner who was living with or financially dependent on the deceased.

A child’s pension is paid for each child under the age of 18 who was financially dependent on the deceased. This payment is also not considered taxable income.

Funds collected by individuals or organisations to support a specific individual or family are not considered taxable income.

This applies where the collection is based on humanitarian grounds, for example due to illness, accidents, or other unforeseen circumstances.

Grants paid by the organisation Umhyggja to parents and relatives of children with disabilities or chronic illnesses are not considered taxable income.

The grants are generally intended to cover additional expenses arising from the child’s circumstances.

Vehicle grants are paid by the Social Insurance Administration (TR) to old-age pensioners, disability pensioners, disability benefit recipients, and care allowance recipients are not considered taxable income.

Instead, they reduce the acquisition value of the vehicle.

More on Vehicle grants.

Grants paid for the rehabilitation of persons with disabilities are not considered taxable income, provided that they are intended to cover expenses related to treatment, training, or other measures that support rehabilitation or increased functional ability.

Grants paid by the state or municipalities for the purchase of assistive equipment for persons with disabilities are not considered taxable income.

This applies only to grants paid under laws and regulations on assistance for persons with disabilities, and not generally to grants for the purchase of assets.

Grants from Iceland Health Insurance

Grants provided by Iceland Health Insurance to persons with disabilities for the purchase of assistive equipment are not considered taxable income.

However, the grants are linked to the asset purchased and must be deducted from the cost basis of the equipment.

Grants from Iceland Health Insurance for the purchase of special dietary products and nutritional supplements, paid following a professional assessment (for example, by a doctor and/or dietitian) due to impaired bodily function, are not considered taxable income.

These payments are intended to cover additional costs incurred due to health conditions.

Payments made to a user of User-Administered Personal Assistance (NPA) are generally not considered personal income. Instead, they are funds intended to cover specific costs associated with the service.

User-Administered Personal Assistance (NPA) is based on an arrangement where an individual receives funding to organise their own assistance and hire staff.

The tax treatment depends on the role of the person receiving the payment:

• Payments to the user are generally not considered taxable income, provided that they are used in accordance with the approved service plan.

• Wages paid to personal assistants are taxable employment income and are subject to withholding tax in the same way as other wages.

If a user receives payments exceeding the actual cost of the service, or if the funds are used for purposes other than NPA services, the excess amount may be taxable. It is therefore important to maintain clear accounting records, retain agreements and keep payments properly itemised.

NPA funding generally does not need to be reported as income in the annual tax return. However, it is important to ensure that wages paid to personal assistants are correctly reported as employment income of the recipients.

Grants paid by trade union sickness benefit funds to cover funeral expenses are considered taxable income and are reported, as applicable, by the surviving spouse or by the estate of the deceased. No deduction is permitted against such grants.

The same applies to funeral grants paid by other parties, for example employers.

Adoption grants are considered taxable income.

If the grants are paid from an adoption fund in accordance with the law, it is permitted to claim a deduction against the grant. No deduction is permitted if the grant is paid by a party other than the adoption fund.

In certain cases, work performed by an individual may be taxable even if no payment is received, for example when a person works for someone else without payment but receives a financial benefit in return.

Work on Your Own Home Outside Regular Working Hours

Work carried out on your own home for your personal use outside regular working hours is not considered taxable income, provided that you have worked full-time in your regular occupation and earned a normal annual income from that work.

The work must be reported in the annual tax return where applicable, for example when a home is being built or renovated.

However, work carried out during regular working hours, or work on property other than a home for your own use, may be taxable. In such cases, the value of the work must be calculated according to the rates published in the House Construction Report, which are updated annually.

Voluntary Work and Exchange of Work

Voluntary work and exchange of work involve individuals exchanging work or services without monetary payment. Even if no money changes hands, such work may be taxable.

The value of the work must then be assessed based on the market value of comparable work. This applies particularly where the work is regular or substantial.

Occasional gifts are generally not considered taxable income for the recipient, provided that their value does not exceed what is customary for such gifts.

If a gift is given instead of payment for work or in connection with employment, it is considered taxable income and must be valued for tax purposes.

Prizes and Awards

Prizes and awards are generally considered taxable income unless they are specifically exempt from tax. This applies both to cash prizes and prizes in the form of goods or other items of value.

Minor prizes and certain lottery winnings may be tax-exempt. Each case must be assessed based on the nature of the prize and the authorisation under which the lottery operates.

Tax-Exempt Lottery Winnings

Winnings from lotteries that have received specific authorisation from the District Commissioner and confirmation from Iceland Revenue and Customs are tax-exempt.

Winnings from certain other lotteries may also be tax-exempt if the lottery has been authorised and approved to pay tax-exempt winnings. A list of these lotteries is published annually in the tax return instructions issued by Iceland Revenue and Customs.

See further information on lottery licences.

Lottery winnings from within the European Economic Area (EEA) may qualify for the same tax exemption as tax-exempt lottery winnings in Iceland, provided that equivalent requirements regarding authorisation and documentation are met.

Honorary Awards and Prizes

The Nordic Council Literature Prize, Music Prize and Environment Prize, as well as the Nordic Playwrights Award, are exempt from tax.