#63 – The Expat Files: Taxes, Business, and Survival in Latin America

Automatically transcribed from the original recording; names and wording may contain errors.

[00:12] Hi everybody, I'm Johnny Mueller and you're listening to The Expat Files, living in Latin America, the one of a kind show that tells you what it's like to live, work, play and or retire in Latin America. So let's get started. I promised a while ago that I'd talk about business taxes, which concerns expats a lot because most of you expats end up having some kind of business or another, which is one of the main reasons you come down here, because you've heard how cheap and easy it is to get one off the ground and make it flourish. Now I know taxes are a sore subject with everyone, including me, and no businessman or for that matter private individual ever thinks that he gets what he pays for when it comes to

[00:59] taxes. I don't care if you're living and doing business in the first, second or third world, but like I said before, down here in the third world, you get just about zero for your tax dollar. And if you want anything done, you have to dig into your own pocket and do it yourself, which isn't nearly as bad as it sounds, believe me. For example, I can't tell you how many times I've heard business owners tell me that if there's a big pot hole in the street in front of their business or a pile of garbage stacked up against the side of your building, or there's a missing manhole cover, or a broken piece of sidewalk or curb in front of your place of business, all of which are the responsibility of the local municipality and paid for by your tax dollar, right? Well that's correct in theory, but in reality, you'd be wrong. Now people down here are used to watching things go to hell, because if you call the

[01:46] municipality you almost never really get satisfaction. The fact is, they probably won't even answer the phone, and if you're lucky, you'll get an answering machine. That is, unless you happen to be related to some government bigwig, or if you're a big campaign contributor. In that case, they'll be on the job yesterday. In other words, if the street lights in front of your building are burnt out or broken, you're always better off calling a private electrician to come in and change the bulb, because the municipality might not get around to changing it for up to a year or maybe never. However, the exception to that is about six months before election time, because that's when 90% of the public works projects and municipal repair jobs take place. That way, the politicians in charge can brag about all the good works they've been doing, and they'll have plenty of signs and banners and newspaper ads, all funded with public

[02:34] money of course, telling you all about those good deeds. And people are always stupid enough to fall for that, and not just in the third world. But back to the taxes issue. Now down here, personal and corporate tax evasion are national sports, and that's why so many people work for cash and prefer to remain off the books. And in some countries down here, it's been estimated that 30% of the working population is off the books. And since they get almost nothing from their government in return, whether they pay taxes or not, these people feel absolutely justified. But when it comes to expats, they almost always end up involved in a legitimate tax paying business, because they come from that kind of culture up in the first world, and that's what they're used to. Anyway, most of them wouldn't think of opening a clandestine backdoor operation of any kind

[03:19] down here. For a lot of reasons, the most common being they wouldn't want to end up on the wrong side of the law and spend some time in a Latin prison. By the way, speaking of those notorious Latin prisons, I have some friends, both Latins and expats, who have done some time in the prison system, and they have some great stories to tell. So stay tuned because I'll talk about that in an upcoming show. But before I talk about business or corporate taxes, let's talk first about personal income taxes for expats. Now, the personal income tax rates down here, for people working for a company and getting a payroll check, could range anywhere from 10% to 25% depending on what country you live in and what kind of income you make. And those are the raw tax rates, of course. But what about deductions that lower your tax rate? Well, let me say first that down here, they don't have a big IRS-style tax form.

[04:09] Short, long, or otherwise. It's nothing like in the U.S. where you have to fill out a form that might take 4, 5, or even 6 hours, if you have a mind for it. And if you don't, you just pay a tax service like H&R Block to do it for you. Well, things are nearly so complicated down here. In fact, filling out a tax form is quite easy, but you have to know pretty good Spanish to do it. And once again, that's where your lawyer is going to come in handy, because he'll always have a tax preparer on his staff. Down here, they're called Perito Contadores. And since they too make only about a few hundred bucks a month, tax preparation is dirt cheap, believe me. And it's one good example on how Latins are 30 or 40 years behind the times in a lot of respects. And in this case, it's to their credit. As far as your deductions on your personal income tax, it works like this.

[04:56] Anytime you make a purchase or buy anything anywhere, whether it's a service or a physical product, the seller gives you a piece of paper, a receipt, called a factura. And you collect all those facturas, and you save them till the end of the year or tax time, whatever quarter that happens to be in. And sometimes it's by trimester, depending on the country. Anyway, every Latin American country has a national sales tax, like in Europe. And in Europe, it's called a value-added tax, or VAT. And down here, it has a lot of names too. In some countries, they call it IVA, and the I stands for impuesto, and impuesto in Spanish means tax. Anyway, this national sales tax, or IVA, depending which country you're in down here, could be anywhere from 10% to 16% of the purchase price.

[05:42] So anytime you buy something down here, that IVA, whatever percentage number it happens to be, is included in your purchase price. In other words, if you buy something for $25, let's say, because the sticker price says $25 in the hardware store, when you get to the register with the item, they don't add an extra 10% or 15% IVA onto that. It's already included in the price. And on the factuta, which is your official receipt, they'll always show that breakdown somewhere. For example, you buy a $25 wheelbarrow, and let's say the country has a 10% IVA. Then the factuta says the price of the object is 22.50, and then there's another line, and it says IVA, $2.50, for a total of $25. Now it's not like up in the United States, where the sales tax is added when you get

[06:30] to the cash register. Up north, when you buy a $100 item, if for example there's a 5% state sales tax, then when you get to the register, they add it on and you pay $105. That's not how they do it down here. Anyway, up in the States, when you pay a tax at the register, that's a state sales tax. That's not a federal or national tax, which is what the IVA tax is down here and the VAT in Europe. So here's how it works again down here. For your personal income taxes, you can collect all those facturas, add them up, and deduct the 10% IVA from the personal tax due from your raw income that year. So to make it easy, let's say you work for a company in Bolivia, and you get paid by a check, which means you're on the books, and suppose you made $10,000 last year, and

[07:16] the raw income tax rate on $10,000 is 20%, or $2,000. So that's what you owe the government if you don't have any deductions. And that's why everybody collects all the facturas they can. Now if you're completely honest about it, and actually spent the whole $10,000 that year, and you've collected all those factura receipts to prove it, if the IVA in that country is 10%, then if you add up all the IVA columns on all those facturas, it'll add up to $1,000, or 10% of $10,000. And you'll be able to take that $1,000 and subtract it from the $2,000 you owe for a net tax due of $1,000. So even though you started out in the 20% tax bracket, with $1,000 worth of IVA deductions, you've been reduced down to the 10% tax bracket.

[08:04] And that example is if you're completely honest about it. But you see, most people aren't completely honest about it. And since tax evasion is the national sport, what people end up doing is they collect as many facturas as they can from people who are off the books and don't need them. Because people off the books don't pay income taxes. And they just throw their facturas away, or give them, or even sell them, to people that can use the tax deduction. So the trick is to collect enough facturas to completely cancel out your personal income taxes. So there's actually a pretty big underground business in trading and selling facturas down here. Whether those facturas are collected from people off the books who don't need them, or fake facturas that are fabricated entirely. And of course the vast majority of expats, especially new expats down here, have no idea

[08:51] that a scam like this is going on at all. And even when they do find out, they're gun shy and hesitant to join the party. Because they want their businesses and personal lives to be on the up and up, especially since they're guests in a foreign country and don't want to get involved in anything that smells fishy. And they certainly don't want to be singled out as an expat or foreigner who's exploiting the system. And no expat down here, in business or otherwise, wants to risk getting fined, deported or even put in jail. But you know, there's nothing really illegal about padding your facturas to the point where your EVA expenses match your personal income tax rate. Because as long as your facturas are real and came from a business that issued it correctly, there's nothing the government can do about it. It's all legal. Now it's different from the way they do tax deductions in the United States.

[09:38] For example, if you own a business up there and you take a deduction for an expensive item, let's say, a copy machine for $2,000 and you write that off on your taxes as a business deduction, well, you know, if the IRS comes in and does an audit and you have the receipt all right, but the copy machine is not there, it's nowhere to be found, well, you're going to be in big trouble. But down here in Latin America, if you get audited and they do audit people sometimes, all they care is that that factura is in your hand and that it's real, that it was issued by a legitimate business. They don't care one bit about what happened to your copy machine. They're not going to check if it's there or not. The whole point is that you have the facturas in hand to match up to your deductions. And down here, there's no special deductions for dependents or medical expenses or continuing

[10:23] education for your career or things like that. Not when it comes to personal income taxes, that is. It's all quite simple, straightforward and all about those facturas. In fact, after you've been down here a while, you almost wish the IRS would burn their 10,000 page tax code and take a lesson from the third world for once. But that'll never happen, which means, of course, more and more expats up north are bound to give up the fight and just come on down. In fact, I've met dozens and dozens who already have. And here's another odd thing that only an astute expat would notice. Now, suppose you're buying something in a big store like Office Depot, Walmart or Sears. When you're at the cash register, the checkout person will ask you for your NIT number. That's NIT, N-I-T, which is a national tax ID number that everyone gets down here, kind

[11:09] of like a Latin version of a social security number. And depending on the country you're in, it goes by other names besides NIT, N-I-T. Anyway, if you give the cashier your NIT number, she'll punch it in the register and it'll show up on your factura somewhere, which is yet another way for the government to keep track of facturas when you hand them in to get your tax deductions at the end of the year. That NIT number printed on your factura cross-references you to your purchase, because no person has the same NIT number. Now, the thing is, having that NIT number printed on every factura is the goal of every government down here. But like everything else in Latin America, it's incomplete and has a lot of flaws in it. For example, thousands of small mom and pop operations don't have the computers and software

[11:56] and printers to log in your NIT number and have it filed away somewhere and printed out on your factura. So instead, they give you a factura that has a blank line on it and you can write your NIT number in it later yourself. And that's how it works in McDonald's and other fast food restaurants too. They process each customer so fast that they don't have the time to ask for and take down everybody's NIT number and have it printed out on the receipt. So you get a receipt with the blank line on it. Now here's the part even astute expats rarely notice. Now if you don't have a NIT number, and most tourists and expats don't, because obviously tourists are only down here for a short time, and expats, most of them who work, are working for themselves and don't take a payroll check. But we'll talk about the advantages to that later. Anyway, when you're in the checkout line and they ask you for your NIT number, a tourist

[12:44] will say, say what? Especially if his Spanish sucks. And an expat won't say, say what? He'll say, consumer dorfinal. Which means you forgot or don't have your NIT number on you and you'd like to have a receipt with a blank line for the NIT and you'll fill it in later. Now because so many tourists and expats don't have a NIT number and don't want or need facturas, clever businesses have learned how to take advantage of those unused and sometimes unclaimed facturas. And it goes like this. As soon as you're at the checkout counter, as soon as you say you don't have a NIT, or you don't want a factura, or they pick up on the fact that you don't know any Spanish, what you'll find is that when you get your receipt, it'll have somebody else's name on it or somebody else's NIT number.

[13:30] Which means absolutely nothing to a tourist, because he paid his money and he got his product just like he intended to do. He doesn't even care about that receipt, and it's surely destined for the garbage. But you see, the cash registers link to computers in that store, and somewhere down the line, someone else who does live in that country is going to use your receipt from the thing you purchased as a tax deduction for himself at the end of the year. And of course, you'll never know that, and sometimes you don't even care. And the store owner and manager have set up in the computer system a default NIT number in person that gets phantom credit from making that purchase. And it seems to be that there's nothing illegal about that, since the tourist, although he did pay EVA on his purchases, could never use it as a tax deduction anyway. However, as an aside here, I must mention that if you go to Europe and save your receipts

[14:19] on the things that you purchased there, you can get a refund on the VAT taxes. But only frequent travelers to Europe do that, because normally it's a pretty big hassle. Well, believe it or not, in Latin America, you're supposed to be able to do that too as a tourist. In other words, if you made some pretty hefty purchases down here, and you saved your receipts, you should be able to go down to the airport EVA reclamation office, right before you're ready to leave, and apply for a refund on the EVA that you paid. Now I have heard that some people have done that, but personally, I don't know anyone who has. And knowing the way the bureaucracy works down here, I can hardly believe it's worth the time and effort unless it's a huge amount. Anyway, my point is that the millions of tourists that come down here every year, who don't have a tax ID number, naturally, and who don't give one damn about those stupid factura receipts,

[15:06] well just keep in mind that some Latin guy or gal somewhere is using your receipt to get a tax deduction. Now let's leave that factura thing be for a while and talk about expats who own their own small businesses and the tax implications. Now after an expat lives down here long enough, and owns or is involved in any kind of business, and usually I must say that expats are adventurous types, and more often than not, they usually end up starting one business in a relatively safe tourist area where there are a lot of gringos and Europeans, a place that they've visited a few times as a tourist themselves, and feel rather comfortable in. And then they see another opportunity, start another business, stay put, or move on, and they seem to do it again and again. And the thing that a lot of expats learn who have small businesses down here, and they learn it the hard way, is that they shouldn't take a payroll check.

[15:54] First of all, if you pay yourself by check, you show up on the tax records of your business as an employee. And like I said before, it's very difficult to get a work permit down here when you're a foreigner. So, if you come down and start up a business and pay yourself as an employee, you just might be breaking the law. Not by opening a business, but by working at your own legal business illegally. Now that's gotta sound as clear as mud. But governments in general are completely deranged anyway. Consider the fact that an illegal alien up in the United States can actually join the US military, do his duty and his tour, and come out with a promise of being a citizen. Now if that isn't twisted, I don't know what is. But as far as expat and expat wannabes working down here, Latin governments don't like when

[16:41] foreigners work in the service and hospitality industries, unskilled jobs that is, because they believe that foreigners take the jobs from the locals. And that's especially true in the high volume tourist areas, where young foreigners, especially backpackers, love to take low paying jobs as waiters and waitresses and bartenders. That way they can extend their vacation and backpack on the cheap that much longer when they run out of money. Or daddy's credit card gets cancelled, whichever comes first. Though it's easy for a foreigner to get a work permit down here if he or she has a specialty career or skill that the locals don't have, or a high level college education from the first world, especially in a technical field like computers or engineering. But commonly expats don't come down here to work as computer scientists.

[17:27] They mostly come down to the tourist areas and start their own small tourist related businesses like hotels and restaurants, kayaks and scuba gear rental shops, and of course every newbie expat's retirement dream, a bed and breakfast. Now like I said, if you pay yourself by issuing a payroll check in your own name, you're going to end up on the tax rolls and you just might get in work permit trouble. Of course if there is any trouble like that, your lawyer can buy your way out of it, very cheaply I'm sure, but you don't want to get caught in that mess. And the irony of an expat owning a business down here is that local Latin governments and tax authorities really like and encourage that. Because you're definitely going to employ local workers. And all those new employees you hire that might have been off the books before are going to be on the local tax rolls now, which the local officials also love.

[18:16] So let's think about what I said for a second. If you don't issue yourself a payroll check, how do you get paid? I mean you're the owner, right? Well you do what all the local Latin small business owners do down here. You charge anything and everything you can off to that small business. Your food, your furniture, your car, your television set, your DVD, your entertainment. But suppose in your little small business till you start accumulating more money than you can write off and expense out. Well at the end of the year then, you're going to show a profit on your books and you'll have to pay the Latin version of the corporate or business tax. Which in most places down here is called the ISR or in Spanish, impuesto sobre la renta. Which translates in English to tax over and above your rent. And the corporate and business taxes down here are pretty hefty, believe me.

[19:04] In most cases, they're actually above and beyond the business taxes that you pay in the first world. And that's why everybody who owns a business down here tries to expense off as much as he possibly can. Including collecting as many facturas, real or imaginary. And it shouldn't come as a surprise to you that if you do need some facturas to lower your tax rate, your lawyer almost always knows someone who can help, if you know what I mean. Now let me state for the record that I'm not advocating doing anything illegal down here. I'm just giving you the heads up on what's really happening. Because businesses too, when they buy inventory and things that they might need, can expense all that off against income, just like corporations do in the first world. Only down here, there are no tax bodies that actually come through and do a physical inventory

[19:51] on your shelves to see if you're a tax cheat. In other words, if you've bought a lot of capital equipment or junk, if it doesn't appear in your inventory, not to worry, because almost no one checks on that. Again, all they really care about is that you have valid factura receipts, and if you're ever audited, that your numbers and deductions all add up correctly. In other words, they care more about the arithmetic than how you arrived at it. Now one thing that an expat with his own small business has to remember is that his business has to give out those facturas to all of his clients too. And those facturas that you have are actually printed out and audited by the government. And if you look at one, you'll see that it's sequentially numbered. And every year, the government will ask you to bring down those sequentially numbered facturas, and you'll be required to pay the government the EVA, again, their version of

[20:41] the value added tax, from all the accumulated sales to your clients, which, like I said, is anywhere from 10% to 16% of the purchase price added to every item. But if you can wangle it so that your business buys a lot of inventory, and you could produce facturas showing a lot of expenses, you or your accountant can work it out so that the EVA that you spent cancels out the EVA that you collected from your clients. And it seems like everybody pads those numbers. Whether it's buying supplies or inventory or maintenance and repair or golf clubs or jet skis or whatever. You get the idea. Now, the only thing that the taxmen down here really come down hard on you for is if you don't give out those facturas. Because if you don't, there's no record of that EVA being paid. The fact is, the only thing that governments down here seem first world about isn't trying

[21:31] to collect that national sales tax. And every country's tax agency actually has a spy department, and they send out agents to areas that are notorious for low tax revenues, and they buy things incognito to see if the owner or the people working there issue facturas. And if you don't, they'll pull your license and shut you down in a New York minute. In fact, once in a while, when you're walking through any city down here, you'll see a sign or a big sticker posted on a boarded up business saying that the place was closed down for not handing out facturas. So expats, you need to hand out those facturas. But back to that business and corporate tax bit that I spoke about. I'm talking about the money that's left over at the end of the year in your till or bank account after all your income and expenses.

[22:18] Well, like I said, that's subject to a very high tax. And that tax ranges anywhere from 20% to 30%. For example, Honduras has a 27% corporate and business tax, Guatemala's is 26%, and Costa Rica's is about 20%. Now everybody has the impression that the first world countries have the highest business and corporate taxes, well, not compared to Latin America, because for example, Germany's business tax is 23%, and Sweden has only a 16% business tax. So to summarize, personal income taxes in Latin America are very low compared to first world countries. However, corporate and business taxes are as high or higher than the tax rates in first world countries, which is one reason why so many Latin American small businesses are

[23:04] off the books or are strictly on a cash basis. Because the truth is, Latins don't have any faith in their governments. Every common man on the street thinks they're a bunch of crooks and thieves, which is a big reason why evading taxes is a national sport. Now as far as those very high corporate tax rates down here, big foreign investors like Intel, Microsoft, Nestle's, Pepsi, Coca-Cola, clothing manufacturers like Levi's and Gap are well aware of those high rates, and international companies like that cannot play those little tax games that I just mentioned, like small time mom and pop operations always do, and so many expats with small business eventually learn to do. And that's why before they come down here and open a plant or a factory, big transnational corporations and franchises always try to cut tax deals and get tax holidays from the

[23:52] local politicians. And that's why you'll see that in one year, a slew of clothing manufacturing companies suddenly show up in Honduras, while Intel and Microsoft build their plants in Costa Rica, and Volvo builds a few plants down in Argentina. In cases like that, to get those transnational companies to come down, it's more about the tax breaks than anything, though politicians and government officials don't like to talk about it. But in fact, a five or even ten year tax holiday is pretty much standard operating procedure down here to entice a big company like Microsoft or Intel. On top of the fact that starting salaries in those factories are only about 10 or 15 US dollars a day, those two reasons are exactly why transnationals come down here. So there's no wonder why the United States has lost almost all of its manufacturing base,

[24:39] and no matter what the unions or politicians up there think of, it'll never come back. You have to change the topic a little bit now. Last week I mentioned once again that it's never a good idea to ride in a public bus down here. Even though tourists often say it's an unforgettable experience and a great photo opportunity. Well I got a couple of disagreeing emails from people saying that riding those buses is part of the low budget backpacker tourist experience. Hmm, well let me give you my final word on that. Well I got last week's Guatemalan paper in front of me, and it says here that in the last five months of 2011, 59 bus drivers have been shot to death, 28 helpers or ticket takers on the bus have been shot to death, and 27 passengers have been shot to death.

[25:26] And that's in a country of only 14 million people, which is about the population of the greater New York area. And every one of those bus related murders were perpetuated by delinquents and gang members trying to extort money from bus drivers and passengers. Now to put things in a little better perspective for you, the paper goes on to say that between 2006 and 2010, a total of 630 bus drivers have been shot to death. Can you believe that, 630 bus drivers? Most cities in the first world don't even have 630 bus drivers. So for all you tourists and expats out there who like to ride those chicken buses, those are just a few statistics to keep in mind. Next time you ride a chicken bus, and a guy with gold teeth and a neck tattoo sits down

[26:12] next to you and sharpens his knife. And one last thing for you expats and expat wannabes, thinking about renting, buying land or buying a house down here, I urge you once again to make sure that whatever you're buying has its own private well, and is not on a municipal water system, because big time water shortages are starting to happen down here. In fact, right now I'm looking at a newspaper from San Salvador that says that there are three medium sized cities in this country that haven't had municipal water for 2 months. Just imagine that for a second. Open your spigot and no water for 2 months. Well it's a good thing we're in the rainy season, and most people have cisterns attached to the roofs of their houses. At least they can collect a little rainwater every day. So you're probably wondering how these people get their water otherwise. Well suddenly there's big business in water delivery trucks.

[27:01] Big trucks that look like half sized water tankers that drive way out in the boonies, stick a flexible hose in a polluted river, and fill up their tankers with mucky water. And they'll come to your house and sell you 1000 liters, which is about 250 gallons, for 10 to 20 bucks. And the vast majority of people down here on municipal water are minimum wage grunts, and that's why they're on municipal water. So be forewarned, don't buy or rent anything that's on a municipal water supply. You have to make sure your water is coming from a good private well. You've been listening to the Exped Files, living in Latin America. And don't forget you can email me on anything at all about Latin America. The Exped Files at gmail.com.

[27:47] That's theexpedfiles at gmail.com. See you next time. Nos vemos.