Tax Compliance for US Expats Running a Business in Ecuador: A Lawyer's Guide to FEIE, FATCA, and FBAR

The Foundation: Understanding Dual Tax Obligations

The United States operates on a citizenship-based taxation system, meaning your US tax filing obligation follows you wherever you go. Even as a tax resident of Ecuador, you must file a US federal tax return reporting your worldwide income. Ecuador, in contrast, taxes based on territoriality and residency. If you are a tax resident here—defined under Artículo 8 of the Ley de Régimen Tributario Interno (LORTI) as residing in Ecuador for more than 183 days in a calendar year—you are taxed on your Ecuadorian-sourced income.

The key is not to pay tax twice on the same income. The US Internal Revenue Code provides two primary mechanisms for this: the Foreign Earned Income Exclusion (FEIE) and the Foreign Tax Credit (FTC).

FEIE vs. FTC: A Strategic Choice

• Foreign Earned Income Exclusion (FEIE): This allows you to exclude a significant portion of your foreign earned income (income from services or business activities, not passive income like rent or dividends) from US taxation. For the 2024 tax year, this exclusion is capped at $126,500. To qualify, you must meet either the Bona Fide Residence Test or the Physical Presence Test.

  • Bona Fide Residence Test: This is not merely about having a visa. It's about demonstrating that Ecuador is your true home for an entire tax year (January 1 - December 31). The IRS will scrutinize factors like the terms of your visa, the location of your family and personal belongings, and your integration into the local community.
  • Physical Presence Test: You must be physically present in a foreign country (or countries) for at least 330 full days within any 12-month period. This test is purely mathematical and often used by new arrivals.
  • Actionable Step: Claiming the FEIE is not automatic. You must file IRS Form 2555, Foreign Earned Income Exclusion, with your Form 1040. Failure to file this form means you waive the exclusion for that year.

• Foreign Tax Credit (FTC): This provides a dollar-for-dollar credit against your US tax liability for income taxes you have paid or accrued to Ecuador. If your Ecuadorian income tax rate is higher than your US rate on the same income, the FTC is often the superior choice, potentially reducing your US tax bill to zero and even generating carryover credits for future years.

  • Actionable Step: To claim the FTC, you file IRS Form 1116, Foreign Tax Credit. A detailed calculation is essential to determine which option—FEIE or FTC—is more advantageous. You generally cannot claim both on the same dollar of income.

Expert Insight: A common oversight for expats here is failing to properly utilize the Anexo de Gastos Personales when filing their Ecuadorian income tax return. This allows you to deduct personal expenses for housing, food, health, education, and clothing, up to a specific limit set annually. By reducing your Ecuadorian taxable income, you lower your local tax bill. However, this also reduces the amount of foreign tax available for the FTC. It's a strategic calculation: a lower Ecuadorian tax bill is good, but you must analyze how it impacts your overall US tax liability when using the FTC.

Business Structures and SRI Compliance in Ecuador

Your choice of business entity in Ecuador dictates your local tax and legal obligations.

• Sole Proprietor (Persona Natural): The simplest structure. You register yourself with the Servicio de Rentas Internas (SRI), obtain a personal RUC (Registro Único de Contribuyentes), and your business income is your personal income. This is straightforward but offers no liability protection.
• Limited Liability Company (Compañía de Responsabilidad Limitada - Cía. Ltda.): An independent legal entity that separates your personal assets from business debts. This is the most common structure for small expat-run businesses. It requires at least two partners (shareholders), a minimum capital of $400, and the appointment of a legal representative (Gerente General).
• Corporation (Sociedad Anónima - S.A.): More suitable for larger enterprises seeking to raise capital, with more complex governance and reporting requirements.

Mandatory Ecuadorian Tax Compliance:

1. Obtain a RUC: This is your tax ID. To get your online password (clave) for filing, you must visit an SRI office in person and sign the Acuerdo de Responsabilidad y Uso de Medios Electrónicos. This cannot be done online for the first time.
2. File Monthly Declarations: For most businesses, this involves declaring and remitting Value Added Tax (IVA) and making income tax withholdings (retenciones en la fuente).
3. File Annual Income Tax Returns: For both your company (if applicable) and yourself personally.
4. Pay the Patente Municipal: Every business must pay an annual municipal business license fee to the city where it operates (e.g., the Ilustre Municipalidad de Cuenca). This is a non-negotiable local tax, often overlooked by new expats, with costs typically ranging from $25 to over $500 annually, depending on your company's declared capital.

Critical US Reporting: FATCA and FBAR

These reporting requirements are non-negotiable and carry severe penalties for non-compliance. They are about information reporting, not taxation.

Foreign Account Tax Compliance Act (FATCA)

FATCA requires US persons to report specified foreign financial assets if they exceed certain thresholds. It also compels foreign banks to report information on accounts held by US citizens directly to the IRS.

• Individual Reporting (Form 8938): You must file IRS Form 8938, Statement of Specified Foreign Financial Assets, with your tax return if you live abroad and your total assets meet these thresholds:
  • Single (or Married Filing Separately): Total value of assets was more than $200,000 on the last day of the tax year, or more than $300,000 at any point during the year.
  • Married Filing Jointly: Total value of assets was more than $400,000 on the last day of the tax year, or more than $600,000 at any point during the year.
• Specified Assets Include: Bank accounts, brokerage accounts, and stock or securities held in a foreign institution. It can also include your interest in your Ecuadorian Cía. Ltda. or S.A.

Report of Foreign Bank and Financial Accounts (FBAR)

Administered by the Financial Crimes Enforcement Network (FinCEN), not the IRS, the FBAR has a much lower reporting threshold.

• Who Must File: You must file an FBAR (FinCEN Form 114) if you had a financial interest in or signature authority over one or more foreign financial accounts, and the aggregate maximum value of all those accounts exceeded $10,000 at any point during the calendar year.
• Common Mistake: The "aggregate" part is critical. If you have three separate accounts at Banco Pichincha, Banco Guayaquil, and a cooperativa like JEP, and their highest balances during the year were $4,000, $5,000, and $2,000 respectively, you have crossed the $10,000 threshold ($11,000 total) and must report all three accounts, even though no single account exceeded the limit.
• Filing: The FBAR is filed electronically and separately from your tax return through the BSA E-Filing System. The deadline is April 15, with an automatic extension to October 15.

When to Seek Counsel Immediately: The definitions for FBAR ("financial account") and FATCA ("specified foreign financial asset") differ. If you have signature authority over a company account but are not the owner, if you hold assets in a foreign trust (fideicomiso), or if the total value of your accounts is significant, the risk of a misstep is too high. The penalties for willful non-compliance can be catastrophic. Consulting with a professional who understands both US international tax law and Ecuadorian corporate structures is not an expense—it is essential risk management.

Legal Checklist for US Expats with a Business in Cuenca

• Residency: Have you confirmed your tax residency status under Ecuadorian law (LORTI, Art. 8)?
• US Filing Strategy: Have you run the numbers to determine if the FEIE or FTC is more advantageous for your specific income level and Ecuadorian tax payments?
• Ecuadorian Compliance:
  • Is your RUC active and updated with the SRI?
  • Are your monthly IVA and withholding declarations filed on time?
  • Have you paid your annual patente municipal?
  • Are you maximizing legal deductions via the Anexo de Gastos Personales?
• US Reporting:
  • Have you calculated the aggregate highest balance of all your foreign accounts for FBAR purposes?
  • Have you determined if you meet the higher asset thresholds for filing FATCA Form 8938?
  • Are you prepared to file FinCEN Form 114 and/or Form 8938?
• Corporate Formalities (for Cía. Ltda. / S.A.): Are your corporate books up to date? Is the legal representative's appointment (nombramiento) current and properly registered at the Registro Mercantil?

Navigating Forward with Confidence

Tax compliance for a US expat in Ecuador is a detailed but manageable process. By understanding the interplay between US and Ecuadorian law, leveraging available exclusions and credits, and adhering strictly to reporting requirements, you can build your business on a solid and secure legal foundation. Diligence and professional guidance are your strongest assets in this endeavor.