In the global economy the growth of royalties and services associated to intellectual property and information technology has become critical for international taxation. On one-side governments of importing countries regularly source payments as territorial, based on the jurisdiction or location of payor. On the other, exporting countries push to resolve the issue through tax treaties. Unfortunately for US companies, one of their natural expansion markets is a “no-tax-treaty battleground”: Latin America (only Mexico and Venezuela have treaties with the US. A treaty with Chile is expected to be ratified by both countries soon).
The potential for US businesses in Latin America is promising in the current global crisis scenario. Indeed according to the IMF “…the Latin America and Caribbean (LAC) … is now better positioned to weather the current downturn and is expected to emerge from the financial crisis earlier than the advanced economies…”. The commodities (natural resources) international market has played well for the Latin economies over the last decade, and it is prompting a more rapid turn-around for recovery in this international crisis, as indicated by the IMF projections.
On the other hand, the business-tax climate is better today than 10 or more years ago. The fundamental reason is that most of Latin American countries are under the following framework:
a. Multilateral or bilateral Free Trade Agreements in place (i.e. Nafta, Cafta-DR, Mercosur) and number bilateral trade agreements, such as the Peru-USA and the Chile-USA (and expected ratification of the Colombia / USA Free Trade Agreement). There are a number of major trade initiatives which continue to be in negotiation like the Mercosur and the EU Free Trade Agreement.
b. Greater macroeconomic stability, which in turn has left behind the evils of tight exchange controls (Venezuela the exception), making profit repatriation and remittances generally possible without the typical complications and restrictions of over a decade ago. The trade balances from a decade of good prices for commodities obviously helped!
c. A number of free trade zones and investments platform initiatives to compete for foreign investment (e.g. Panamá, Colombia, Chile) are in place.
d. More developed and stable banks and capital markets (i.e. there is no significant bank crisis in the region despite the international and U.S crisis).
e. Lower income tax rates and regularly one level of tax at the corporate level (i.e. no taxation of dividend if from previously taxed profits at the corporate level), with a number of investment incentives per industry available.
f. VAT has turned to be the main tool for fiscal revenues, and generally indirect taxation through VAT provides a better tax scenario to the investors. In general, tax enforcement has become stronger, but professionally managed.
g. Commitment to the World Bank’s Center for the Resolution of Investment Disputes and a fairly widespread availability of international arbitration.
h. A growing tax treaty network.
In this article, we would like to focus on the structuring alternatives available for Multinational Corporations (MNCs) available in Chile, Colombia and Panamá, as indicated above:
1. Chile Platform Investment law.
The Chile Platform Investment Company (PIC) law essentially creates a favorable tax holding company regime to organize business in Latin America. A holding company organized under this law is tax-exempt of its entire dividend or other income from foreign sources. Some restrictions apply to the participation by Chilean residents and to shareholders organized in jurisdictions considered as tax-havens. Dividends paid to the non-resident shareholders of the PIC are not subject to tax withholdings. Also the foreign investor is exempted from capital gains tax upon the disposition of their shares in the PIC.
There has been much discussion on whether a Platform Investment Holding Company could benefit from Chile’s tax treaty network, which includes countries in the Americas such as Canada, México, Brazil or Argentina; and European countries like Spain, the UK, New Zealand or Denmark. The reason for this discussion is rooted in the language of the statute which expresses that the company is treated as a non-resident for the purposes of the Platform Investment Law (which is an income tax statute), thus making the outbound dividend income of the company tax-free in Chile. The authorities in Chile have said that the PIC is a resident for all purposes but for the income taxes provision contemplated in the PIC statute and they are prepared to issue Certificates stating that the PIC is an entity organized and exiting under Chile Law. Therefore, the question remains whether the other jurisdictions will object to the treaty benefits under the treaty based on a limitation of benefits provision, or any other treaty provision. However, from a Chile perspective, the authorities will consider the PIC eligible for Tax Treaty benefits.
2. Colombia Free Trade Zones.
Colombia recently passed a free zone law allowing businesses to apply for the creation of a free trade zone at their location, anywhere in the country.
Business granted Free Trade Zone status receives a VAT exemption and a reduced Income tax rate of 15%. Exports from Free Trade Zones should benefit from all trade agreements in force with Colombia, which include the Andean countries (Peru, Ecuador, and Bolivia); the G-3 which includes Mexico and Venezuela; and it must be noted that approval of the US/Colombia Free Trade Agreement is pending Congressional action in the US.
3. Panamá “Colon Free Trade Zone” and “Export Processing Zones”.
Panamá tax laws provide a set of incentives to export and re-export operations under the Colon Free Trade Zone and the Special Regime applicable to Export Processing Zones.
Located near the northern entrance of the Panama Canal, the Colon Free Zone (CFZ) offers free movement of goods and full exemption from taxation on imports and exports. The CFZ is a major factor in facilitating the supply of goods from large industrialized countries to the consumer markets in Latin America. Firms located in the CFZ are exempt from import duties as well as from guarantees, licensing and other requirements and limitations on imports. There are no taxes on the export of capital or the payment of dividends. Companies operating in the Free Zone must separate their accounting systems for their external operations from their internal operations. External operations are defined as the re-export of merchandise from CFZ warehouses and are exempt from income tax. Internal operations are those in which sales are made from CFZ warehouses to customers located within the customs territory of Panama, including those made to ships and airplanes using canal facilities, and to passengers in transit. Profits arising from internal operations are not subject to any special treatment. In general, commercial or industrial enterprises are required to obtain a license to carry on their activities in Panamá. An annual business and industrial license tax is levied at the rate of 1% on the net worth of the company concerned, which is increased by amounts owed to any parent company or head office located abroad. This license tax may not exceed US$20,000. Companies engaged exclusively in off shore or CFZ are not required to have a license. Companies established in the Colon Free Trade Zone are exempt from the obligation of filing any type of tax return for income derived from “external operations”, which is the re-export of merchandise from Colon Free Trade Zone warehouses.
The Special Incentives for Export Processing Zones (EPZ) are provided pursuant to Law Nº25 of 1992, this are basically private free zones, that allow for import and re-export operations with total exemption from duties. Among the Enterprises that can participate in the EPZ are manufacturing enterprises; assembly enterprises (“maquilas”); finished or semi-elaborated products processing enterprises; services export enterprises; general services enterprises. The main tax incentives for an EPZ are:
• The enterprises, as well as its activities, are exempt from all local direct or indirect taxes, contributions, assessments, rights, and charges. Nevertheless, there is some discussion on whether income tax exemption will be granted to those foreign enterprises whose countries permit the deduction or crediting of taxes paid in Panama.
• Duty free importation of machinery, equipment, raw materials, tools, accessories, lubricants, and all goods and services required for operation.
• Exemption from license tax.