Living and Investing in the New Nicaragua

Nicaragua’s new tax law, the Law of Fiscal Equality, went into force in May of 2003, aimed at simplifying the tax code, while reducing and harmonizing tariffs.

Although the new tax law did streamline the tax code, it is important to get a good lawyer who can explain the intricacies, obligations, exemptions and deductions in this 142-article law.

Kinds of Taxes
1. Income Taxes
2. Value Added Tax (IVA)
3. Selective Consumer Tax (Luxury Tax, or ISE)
4. Fiscal Stamp Tax (ITF)

Classes of Tax Payers
1. Persons or associations of persons.
2. Incorporated associations of persons.
a. Corporations (sociedades anonimas (S.A.), societies, associations and foundations.
b. Mixed corporations (i.e. government with private capital)
State entities and state-owned enterprises.

Each of these is subject to income taxes and the sales tax regardless of nationality as long as the source of that income is based in Nicaragua. July 1 - June 30 and special periods for seasonal activities.

Income Tax
For national individuals, or individuals receiving income in Nicaragua, income taxes are calculated through a progressive tax rate as income increases.

People making less than 50,000 córdobas a year ($3,086) are not subject to income tax. After that, it is a progressive tax scale:

Over 50,000 córdobas                          10%
Over 100,000 córdobas ($6,172)            15%
Over 200,000 córdobas ($12,345)          20%
Over 300,000 córdobas ($18,518)          25%
Over 500,000 córdobas ($30.864)          30%

Declarations of income must be filed by everyone making over 50,000 córdobas. Declarations must be made the General Department of Income (DGI) no later than three months after the end of the fiscal year, June 30.

Natural persons who only receive income from one employer are exempt from declaring.

Value Added Tax (IVA)
The Law of Fiscal Equality establishes a blanket 15% valueadded tax on most services, goods and imports. There are exceptions for each category.

Imports of primary materials have a 0-5% tax, for some primary goods imported from outside Central America.

Fiscal Stamp Tax (ITF)
A Fiscal Stamp Tax (ITF) is paid for some legal documents whenever they are issued in Nicaragua or given abroad and enforced here. The ITF ranges from 5 córdobas ($.30), to 5,000 córdobas ($308). But for most documents and paperwork, the ITF only comes out to several dollars.

ITF is paid for :
1) Certificates
2) Certifications
3) Bonds, bills of exchange
4) Contracts
5) Legal papers
6) Import policy

Deductions: Ordinary Deductions are all costs and expenses incurred while doing the habitual activities or in the scope of business producing income. Costs of goods, services, general administration expenses, financial expenses, loss for bad debts, donations, labor reserve, etc.

Extraordinary Deductions include losses in money exchanges, loss for exploitation, and various incentives (tourism).

*costs associated with the production process such as rent, insurance, advertising, etc.
*losses due to bad debts
*interest paid on a debt as long as it was used for investment or production.
*losses due to destruction or loss of assets used in the production process if they are not insured
*the amount needed to replace depreciating capital
*donations to certain specified groups
*benefits for employees directed towards their well-being such as medical services
*insurance for employees up to 10% of their salaries

For deductions, the income tax payer must document and register with Ministry of Finance all costs being claimed. Income tax is not to be paid on capital gains or interest earned from the local stock exchange or from dividends.

Social Security
Nicaragua’s social security system is in a state of flux, following the government’s announcement in July 2004 that plans to implement social security reforms that would have created individual accounts (based on the Chilean model) have been postponed indefinitely. Thus far, the failed structural-reform measures have cost the social security system $74 million in deficit, and climbing. The government calculates the deficit will reach $250 million by 2015, if the system is not fixed.

The 137-Article law to reform the social security system is still stuck in Congress, where it has been since it was introduced in 2000. Until that law is passed, the old system is still in place:

Integral - This is the type of social security provided to urban employees. In this case, the employer contributes the equivalent of 12.5 percent of the employees’ salary to cover social security costs while the employee pays the social security system 4 percent.

The IVM is required typically for laborers in rural areas. In this case, the employer is responsible for 5 percent to cover social security costs while the employee is responsible for 2 percent.

Self-Employed - In this case the individual contributes 13.5 percent of his or her salary.

Free Trade Zones
The 14 free trade zones operating in Nicaragua employee some 70,000 Nicaraguans, and export around $500 million a year in textiles and tobacco. The Bolaños administration has aggressively sought free-trade zone investment, and hopes to have the number of employees reach 200,000 by the end of 2007.

In 2004, Nicaragua exported to the United States 150 million meters2 of textiles, generating $484 million in revenue. This translated into a 17% increase in production, and a 22.5% increase in the value of textile exports. Nicaragua’s production growth in the textile sector last year ranks 3rd in the world (behind China and Cambodia), and value growth was 2nd in the world (behind China). This at a time when textile plants have been closing in other countries in Central America, namely Honduras, El Salvador and Guatemala.

The government projects that free-trade zone exports in 2005 will reach $830 million.

There are three classifications of companies that operate in a freetrade zone:

1. Operating or Management Companies (the companies in charge of administration of the zone)
2. Tenants of Users (the companies authorized to produce and export goods and services within the perimeter of the management companies)
3. Administered Zones (companies authorized to produce and export goods and services outside the perimeter of the management companies)

The benefits extended to free trade zones are:

1. 100% exemption on Income Tax during the first 10 years of operation and 60% after that.
2. Exemption on sales tax and capital gains tax
3. Exemption on import taxes, custom’s fees and consumer taxes on imports of raw materials, equipment, machinery, parts and replacement parts, samples, molds, etc.
4. Exemption on import tax on transportation equipment, commercial or passenger
5. Exemption on Luxury tax
6. Total exemption on export taxes on goods produced inside the zone

Statute of Limitations
When an individual or company fails to pay taxes that were withheld (i.e. 15% IGV on sales), then there is no statute of limitations. If however, an individual or company fails to pay their income tax, then the limit is 7 years.

If you go into tourism business there are many incentive afforded under Law 306, which offers benefits and tax exemptions to qualifying businesses (see section Law 306). Foreign income is exempt from taxation in Nicaragua. You will have to pay taxes on income earned in Nicargua. However, if you go into business in Nicaragua and form a tax sheltered corporation, many of your expenses can be written off.

Don’t panic! A good accountant or one of the lawyers we list in the guide can help you minimize your taxes and avoid problems later on.

You form Sociedad Anónima, to shelter your earnings. Some foreigners choose to set up these types of corporations while many don’t. Briefly, a Sociedad Anónima is an anonymous corporation you can set up without their names appearing on any records. The initials S.A. will appear after a corporation’s name instead of Inc. A Nicaraguan corporation is similar to its U.S. counterpart in having a board of directors, shareholders and shares which can be bought and sold freely. You control all the stock in the corporation but your identity remains unknown. This way you’re able to maintain some degree of secrecy in financial matters and protect yourself from some tax problems.

These offshore corporations are used in most business transactions within Nicaragua and abroad. Because they are foreign corporations they are not subject to U.S. taxes.

There are additional benefits to establishing an “offshore” corporation in any Latin American country. If you put your property in your corporation’s name, it is easier to transfer title. All that is involved is the exchange of the company’s stocks. This way your assets can be transferred or sold by simply giving your shares to the new owner or visa versa. Owning one of these corporations entitles you to start a business and open a checking account in the company’s name even though you are not a legal resident or citizen.

If you have relatives on the board of directors of your company, there will be no probate taxes in case of your demise. It is wellnigh impossible to find out whose name appears in the public records since ownership is confidential. Furthermore, if you get involved in any serious litigation it will be difficult to sue you directly. You will be protected against most judgments and liens. This affords your assets greater protection. If you are a nonresident foreigner you must have one of these corporations to own a business.

Contact your attorney if you are seriously thinking about forming one of these anonymous corporations. Your lawyer can explain how these corporations work and why they have advantages and disadvantages. The fee for starting one of these corporations is usually between $500 and $1000. It will usually take a few months to finish all of the paperwork depending on how fast your lawyer works.

Be forewarned: A corporation’s secrecy is not “foolproof.” If you attempt to use your corporation for fraudulent purposes, you are asking for big trouble. Fortunately the IRS usually won’t go after you unless you are a “big fish” who has done something obvious to attract their attention.

If you desire better protection for your assets or business we suggest you form a Panamanian corporation. If you don't know all of the nuances of setting up one of these corporations, we suggest you contact one of the companies listed at the end of the next section.

You must file your U.S. income tax returns yearly through the American Embassy. You have to declare all income earned abroad but you may claim a tax exemption up to $74,000 on overseasearned income. The $74,000 applies to individual, unmarried taxpayers. If you are married, you and your spouse may exclude up to $144,000 of foreign income, but you cannot combine the two exemptions. You must reside outside of the U.S. for at least 330 days a year or be a legal resident of a foreign country to qualify for this exemption. Your primary business must also be located abroad to qualify for the foreign-earned income exemption. Fortunately, if you live outside the U.S. you may wait to file your taxes until June 15th. You need to use a U.S. tax form 2555 to apply for this exemption.

Even if you earn no income in Nicaragua, it is imperative to file a standard 1040 tax form to avoid problems. Payment of taxes, interest and penalties can now be done by credit card by dialing 1-888-2PAY-TAX.

If you have any tax questions, contact the U.S. Embassy or IRS. Call either the Consular Section of the U.S. Embassy, 266-6010 / 266-6018 or the nearest IRS office in Mexico City at 525-211-0042, ext. 3557. You may consult the IRS Web site at: www.irs.gov. There is also book titled The Expats Guide to U.S. Taxes. It may be purchased through www.amazon.com.