Can a user that is located on a different instance from where a community is hosted be a moderator of that community?

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Yes. You can't create a community onto a different instance from your own, but you can be added as a moderator of one.
Yes. You can't create a community on another instance but you can be appointed as a mod.
Iirc its possible but likely will cause issues at some point. Your best bet is to have an account on the same instance become the mod
- likely will cause issues at some point
  
  What sort of issues?
  
  I saw a discussion about it a few weeks back iirc it was mostly that you might become unable to access the instance if defederated or something. Might not be a big deal i guess?
- There's a good argument for having an alt account as backup, but you shouldn't ever have to use it barring some exceptional circumstances

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