Rules for applying income tax paid abroad as tax credit

As of fiscal year 2022, any taxes paid abroad by individuals or corporations with tax residence in Ecuador over income obtained abroad may be used as a tax credit for the payment of income tax incurred in Ecuador. Previously this income was considered exempt. Through Regulation NAC-DGERCGC22-00000026 the Internal Revenue Service issued the rules and limits for the application of this amendment.

1. Requirements

Taxpayers with tax residence in Ecuador who receive income abroad, which is taxable in Ecuador, may use the tax paid abroad as tax credit for the payment of income tax in Ecuador, in accordance with the following:

1. The tax to be considered as tax credit will be the tax effectively paid or withheld abroad, provided that it may not be used as tax credit or reimbursed abroad.
2. The tax credit may only be used when the tax paid abroad is income tax or any equivalent direct taxes.
3. If the tax paid abroad has been paid in a currency other than US dollars, the value must be converted to US dollars according to the exchange rate reported by the Central Bank of Ecuador.
4. The recognition and quantification of the income obtained abroad will correspond to the gross value, i.e., the value of the income before subtracting the tax paid abroad.
5. If the foreign income is not taxed in Ecuador or is considered exempted, the tax paid abroad cannot be used as tax credit.
6. The necessary evidence must be available to prove the payment of the tax abroad, for example, a certificate issued by the competent tax authority, duly legalized and translated into Spanish.

7. The part of the tax paid abroad that exceeds the limit to be used as tax credit is not subject to refund, compensation or any other form of recovery and cannot be used in another tax period.

2. Limits

The value to be used as tax credit for the payment of income tax shall be limited to the lower between:

1. The tax effectively paid abroad; and,
2. The value obtained by multiplying the effective income tax rate applicable to the taxpayer for that period, by the difference of the income obtained abroad minus the total expenses attributable to such income.

The effective rate is equal to the percentage obtained by dividing the total income tax incurred by the total taxable income.

3. Double tax treaties

If the rules of a double tax treaty apply, the following must be taken into consideration:

1. If the mechanism to avoid double taxation in the treaty is not the ordinary imputation method, the provisions of the regulation do not apply.
2. If the mechanism to avoid double taxation in the treaty is the ordinary imputation method, the provisions of the regulation apply.
3. If the mechanism for avoiding double taxation in the treaty is the ordinary imputation method with specific rules, the specific rules shall be applied first and then the rules of the regulation, insofar as it does not contradict the treaty.

Specialist in Tax
Andrea Moya, partner at CorralRosales
amoya@corralrosales.com
+593 2 2544144