We have seen growth in real estate projects, both inside and outside the Greater Metropolitan Area of Costa Rica. It has significantly increased the development of mixed-use projects that encompass commerce, typically under rental and sale models for residential units.
Given the magnitude of investment required to carry out these projects, the instability of the exchange rate, and the increases in construction costs, it is advisable to pay attention to the aspects included in the financial model of the projects to avoid future fiscal impacts or risks.
No less important: not to overlook aspects such as possible impacts arising from a Value Added Tax, which constitutes an additional cost, as well as the tax regulations that apply to the treatment of interest.
Tax treatment
In Costa Rica, international financial reporting standards are applicable. Therefore, this is the basis from an accounting and tax perspective.Now, to determine the tax treatment, the Income Tax Law establishes a series of adjustments that must be considered in the tax reconciliation.
That is to say, at the time of filing the income tax return. Furthermore, the General Directorate of Taxation had issued a resolution in 2019 that establishes the “matching” rules between financial regulations and their tax effects.
Article 19 of the aforementioned resolution DGT-R-29-2018 “Interpretative criterion on the application of international financial reporting standards regarding tax regulations” establishes that financial expenses attributable to the acquisition, construction, or production of assets must be capitalized.
And, therefore, they are considered non-deductible for income tax purposes until they are available for use or sale. Subsequently, they are recorded as expenses at the moment the asset is available for use or sale.
Take into account from a tax perspective
Financial model of the project
If it will be developed in phases, the cost centers that need to be created must be carefully analyzed, as well as how to allocate the financial expense in order to comply with capitalization or record it as a deductible expense, when appropriate. The capitalization of interest must be carried out based on each asset, so appropriate accounting controls must be implemented to allocate the proportionality of the financial component to each unit. The above is done through monitoring the cost centers and units available for sale.
Rules for limiting deductibility
The Income Tax Law introduced rules that limit the deductibility of financial expenses when provided by entities or individuals that are not regulated by Sugefor by a similar entity, in the case of non-resident creditors. According to Article 9 bis, the “maximum deductibility for net interest expenses is twenty percent (20%) of the earnings before interest, taxes, depreciation, and amortization (EBITDA) for each tax period.”
The regulation establishes that the excess financial expenditure that exceeds the permitted percentage within the fiscal period can be deducted in the following fiscal periods.This will continue until that difference is exhausted, provided that the respective deduction limit is met in each fiscal period.
At the time this regulation was introduced, a staggered implementation was established in the Transitional provisions, so 20% will come into effect in 2027, while in the fiscal year 2024, the limitation is set at 26%, in 2025 at 24%, and in 2026 at 22%. The regulation also allows for requests for percentages greater than 20%, but a request must be made, which must meet a series of requirements.This limitation applies to financing typically provided by sellers, loans granted by partners or related parties, as well as transactions with unsupervised creditors.
Supervision of SUGEF
A very relevant topic is that the supervision carried out by SUGEFregarding registered creditors to comply with the regulations of Article 15 bis of Law 7786 also applies the limitation on interest, as it does not constitute supervision in the strict sense.
Tax on remittances abroad
If the creditor has tax residency abroad, a 15% withholding tax applies on interest and financial expenses, unless a Double Taxation Agreement is in place. In most cases, the creditor does not accept deductions from the agreed amount, so if the debtor assumes the interest, they must record it as non-deductible.
Supporting documentation
Financial expenses are often subject to review during audits, so it is necessary to have an adequate defense file that proves the use of funds and their connection to the income-generating source.
Limited Liability Companies (SRL)
If the vehicle for developing the real estate project in Costa Rica is an LLC, attention must be paid to the loans provided by the holding entity, as the regulation includes an additional limitation on deductibility, presuming that it constitutes a dividend payment, which implies non-deductibility. The use of LLCs is common primarily in real estate developments with capital from tax residents in the United States, as it is a legal vehicle that allows them flexibility in their country regarding income allocation. Therefore, this topic is much more relevant to review in such situations.
There are many rules and aspects that must be properly considered and mapped from the beginning of the project to avoid identifying contingencies during an audit that could have been prevented with adequate planning.
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