New rules for capital gains on real estate transactions in Costa Rica

On December 3rd, 2018, the Costa Rican Congress approved a bill of law entitled Law of Strengthening of Public Finances (the Law), which entered in force July 1st, 2019.

The Law includes two major amendments to the Costa Rican tax legislation. First, the Sales Tax is being transformed into a Value Added Tax (VAT), which means that any sale of goods and services will be subject to a 13% tax. Before, the 13% Sales Tax was only applicable to the sale of goods and certain services established by Law. The second amendment introduces several changes to the Income Tax Law including the introduction of a capital gains tax. Before July 1st, 2019, capital gains were only taxable in Costa Rica when derived from the sale of depreciable assets, or when derived from the ordinary trade of a course or business of the taxpayer, in which case, it was considered regular income and subject to the applicable Income Tax rate.

Regarding the capital gains tax, the general tax rate would be 15% of the gain. However, one other change introduced by the Law, is the concept of "global income", and, in order to apply the capital gains tax, the seller should consider if the asset being sold is an asset that generated taxable income, meaning, if it was an asset used in the ordinary trade or business of the taxpayer. If this would be the case, then, the applicable tax would be the 30% Income Tax, and not the 15% Capital Gains Tax. Nevertheless, the Capital Gains Tax should be paid, and said payment will be considered a payment on account of the Income Tax at the end of year. If the asset was not involved in the commercial activity of the seller, then the applicable tax would be the 15% Capital Gains Tax, and this would be considered a final tax.

Now, the Law includes another exception for assets and rights acquired before the law entered in force July 1st, 2019. This exception was included as a solution for assets with low book values, since in Costa Rica, the re-valuation of assets for tax purposes is not permitted. Therefore, most assets in company books have very low values, which means that, when the asset is being sold, the capital gain would be too high, disproportionate, and not true to market standards. Consequently, the seller is entitled to choose between a 2.25% tax on the sale price or a 15% tax over the capital gain, whichever is more beneficial. However, keep in mind that the option to select the tax rate is only available for the first sale of assets that were acquired by the seller before July 1, 2019.

The capital gains taxable base would be the difference between the purchase value and the sale value of the asset. If the sale value is lower than the purchase value, there is no gain and therefore the capital loss would be generated. The loss can be carried forward and applied to future taxable capital gains. The Law establishes different methods to calculate the sale price (better referred to as the basis) of the asset being sold. For example, in the case of real estate, investments and improvements made to the property should be taken into consideration, as well as the consumer´s index price.

Also, under new rules, when a non-resident (non-Costa Rican taxpayer) who owns a real estate asset in Costa Rica, sells the asset, they will be subject to a 2.5% withholding tax. The buyer would be responsible to withhold, declare and pay the tax on behalf of the seller. If the tax has not been reported and paid to the Ministry of Treasury, the Costa Rican National Registry Office would not register the transfer of ownership of the asset. In addition, for those assets not subject to registration, the buyer should withhold the 2,5% tax, only if it is a Costa Rican taxpayer.

The implications of the changes introduced by the Law are still uncertain in many aspects. For example, should an asset that was acquired before July 1st, 2019 and is an asset that was part of the commercial activity of the seller, be subject to the 2,5% tax on the sale value, or would it be subject to the global income principles? This, and other considerations are both new concepts for the Tax Authorities as for the taxpayers, and with no previous experience or rulings on this matter, it will not be until at least three or four years before we begin to have a better understanding on the interpretation of the Law by the Tax Authorities and how to better defend that taxpayer´s position.

Vittoria Di Gioacchino
BLP