The importance of tax residence: These are the rules in Latin America, Spain and Portugal
The importance of tax residence: These are the rules in Latin America, Spain and Portugal
Latam Tax Commentary
In this article we describe the factors determining the tax residence of individuals and legal entities or the existence of permanent establishments in the main Latin American countries, and in Spain and Portugal, along with the interpretation methods that in some cases the tax authorities of these countries have issued to take into account (or not) distortions caused by the health crisis.
The restrictions on movement prompted by the health crisis have given rise to new ways of working and of organizing the activities of businesses. Homeworking has become a permanent feature for many organizations, and reduced the importance of people’s geographic location.
For example, we find cases of individuals being forced by the pandemic to spend longer than they originally planned in a given country. In others, video calls have replaced face-to-face board meetings for companies, and more than a few construction or installation projects in other countries have had to be extended because the workers needed to finish them were not able to be brought to the site.
Although an individual’s physical location, the place where a company's decisions are made, or the length of certain projects in other countries are still the main factors for determining the applicable tax on the income of individuals and businesses, the types of scenarios described above could be significant for these purposes.
For both individuals and legal entities, the consequence of having tax residence in Colombia is that they are liable for tax on their worldwide income as soon as they receive it, together with their assets inside and outside the country, whereas nonresidents are only liable for tax on their Colombian-source income and assets located in the country.
For individuals, residence is determined as follows:
Foreign citizens: The only test that applies to this group is that they must have spent over 183 calendar days in the country, continuously or with breaks, in any 365 day period.
Colombian citizens: In addition to spending the length of time mentioned above for foreign citizens in the country, a Colombian is also resident in Colombia:
- If their spouse or dependent offspring are Colombian tax residents.
- If 50% or more of the income they obtain is from a Colombian source, or if 50% or more of their assets are managed in Colombia, or if 50% of their assets are held in Colombia.
- If, following a request by the tax authorities, they fail to provide evidence of their residence in another country, or if their residence is in a tax haven.
For legal entities, the factors taken into account to determine their resident status (a “national company” in other words, and “foreign company” if it has nonresident status) are the main tax domicile, the laws under which the company was formed, together with the effective place of management. Alongside this is the concept of a “permanent establishment-PE” for foreign companies and entities, requiring them to be liable for tax on the income attributable to their branches or PEs.
Colombia has not adopted any special rule on calculating the period after which a person may be treated tax resident as a result of COVID-19. However, the tax authorities have stated in replies to resolution requests that, where events of force majeure have compelled a person to stay in Colombia, proof may be provided of this fact so as not to be treated as tax resident.
This same principle should be allowed to extend to cases where a company could be considered as having a PE in Colombia.
In Peru, residence or domicile is one of the factors creating a nexus which are defined in the legislation in force to determine who is liable for tax. Namely, domiciled taxpayers are liable for tax on their worldwide income, in other words, on all the taxed income they obtain, irrespective of the nationality of individuals, of where legal entities were formed, or of where the source of the income is located. Non-domiciled taxpayers, together with their branches, agencies or permanent establishments are only liable for tax on their Peruvian-source taxed income.
Individuals are considered domiciled if: (i) they are Peruvian citizens and have a domicile in the country, under the rules of general law; or (ii) for foreigners, they have spent over 183 calendar days in the country in any 12 month period. Domiciled status is lost if the person acquires residence in another country (substantiated with a visa or employment contract) and has left Peru; of if they spend over 183 calendar days outside the country in any 12 month period.
Legal entities meeting the following tests, among others, are considered resident in Peru: (i) companies or other legal entities formed in the country; and (ii) branches, agencies and other permanent establishments formed in Peru of sole-shareholder companies, companies and entities of any type formed in other countries.
Peru has not adopted any special rules on residence as a result of COVID-19.
Under the Income Tax Law, tax residents in Mexico (individuals or legal entities) are liable for income tax on all their income, wherever the source of that income is located. Individuals or legal entities who are tax residents of other countries and do not have a permanent establishment in Mexico are only liable for tax on income from sources located in Mexico.
In relation to individuals, Mexican law considers they are resident if (i) they have made their home in Mexico, or (ii) they are Mexican citizens who are public officials or government workers, even if their center of vital interests is in another country.
If an individual makes their home in Mexico and in another country, they are resident in Mexico if their center of vital interests is there. An individual’s center of vital interests is in Mexico, if, among other factors, more than 50% of their total income obtained in the calendar year is from a source located in Mexico or where their main center of professional activities is in Mexico. Another point to note is that individuals who are Mexican citizens do not lose their status as tax residents in Mexico if they provide evidence of their new tax residence in a country or territory in which their income is subject to a preferential tax regime, unless that country has concluded a broad tax information exchange agreement with Mexico.
Legal entities are considered tax resident in Mexico if the main management operations for their business or place of effective management are in Mexico. From the standpoint of the Federal Tax Code, it is considered that a legal entity satisfies this requirement if the place where the individual or individuals who make or implement the decisions for controlling, managing, operating or running the legal entity and its activities are located in Mexico.
Mexico has not adopted any special rules on residence as a result of COVID-19.
In overall terms, the Chilean Income Tax Law (LIR) states that anyone resident or domiciled in Chile has to pay taxes on their worldwide income. Regarding persons not domiciled or resident in Chile, the law states that they will only liable for tax on their Chilean-source income. It is important to note that the Chilean Income Tax Law itself allows an exception to this principle: any foreigners who acquire a domicile or residence in Chile are only liable for tax on their Chilean-source income within the first three years following their entry in the country, which may be extended in specified cases. After the end of that period, they will be taxed in the same way as Chileans resident or domiciled in the country.
For tax purposes, an individual acquires residence in Chile where they have spent, uninterruptedly or otherwise, in the country one or more periods exceeding 183 days in aggregate, within any 12 months. In relation to domicile, because there is no tax law definition, the concept given in the Civil Code applies, which requires residence (meaning physical presence) accompanied by an actual or presumed intention to stay in the place, without requiring any particular length of time.
The law considers that legal entities are domiciled in the place where they were formed, although entities formed or domiciled in other countries could in any event be viewed as operating through a permanent establishment in Chile, if they have in Chile a place that is used to conduct permanently or habitually all of part of their business, operations or activity, such as offices, agencies, installations, construction projects and branches.
And lastly, on the subject of loss of residence status, the Chilean Income Tax Law states that an absence or lack of residence in the country is not a causal factor determining loss of domicile in Chile for tax purposes, if the person continues to have, directly or indirectly, the main headquarters of their business in Chile. Therefore, the simple fact of a person obtaining a tax residence visa in another country is not a sufficient element in itself from which to conclude that the person has lost their tax domicile in Chile.
Chile has not adopted any special rules on residence as a result of COVID-19.
*(Garrigues does not have an office in Uruguay)
The function of the concept of tax residence, introduced entirely in the 2007 Tax Reform, was to determine what type of income tax would be levied on individuals or entities. On individuals, personal income tax (IRPF) is levied as a dual tax with progressive aliquot parts of up to 36% on salary income and proportional aliquot parts of up to 12% for other income from capital and capital gains, or nonresident income tax (IRNR), with a proportional aliquot part equal to 12%.
On legal entities, the tax on income from economic activities (IRAE) is levied, a corporate income tax with an aliquot part equal to 25% on adjusted income per books, or the same nonresident income tax (IRNR) as for individuals, if the entity is not resident and does not have a permanent establishment in Uruguay.
Since 2011, and in connection with its full integration in the OECD Committee on Fiscal Affairs, Uruguay has abandoned the source principle for individuals, and has levied tax on different types of income obtained in other countries. This does not occur for individuals who acquire tax residence and take the tax holiday option under which their foreign-source income does not have to be taxed for up to 11 fiscal years, under a change to the legislation introduced in 2020.
Individuals acquire tax residence if they meet any of the following tests:
- They spend over 183 days in a calendar year in Uruguay, including sporadic absences;
- The main center or the base of their activities or of their economic or vital interests is in Uruguay, for which purpose vital interests are presumed to exist where their spouse or dependent minor offspring reside in Uruguay. Uruguayan law considers that a base of economic activities exists in Uruguay where certain investments have been made in the country, with the following approximate current values: at least USD 375,000 invested in real estate; over USD 1,600,000 invested in businesses creating at least 15 new jobs.
Legal entities are resident if they were formed under the laws of Uruguay or move their registered offices to the country (redomiciliation).
Uruguay has not adopted any special rules on residence as a result of COVID-19.
*(this section was prepared by independent Brazilian law firm NBF|A)
In Brazil, the worldwide income principle applies for individuals and legal entities. Individuals who are tax resident in Brazil are subject to personal income tax (IRPF) and legal entities are subject to corporate income tax (IRPJ and CSLL).
For tax purposes, an individual is tax resident in Brazil if they reside permanently in Brazil, have entered Brazil under a permanent visa or have entered Brazil under a temporary visa and any of the following circumstances occur:
- the holder of the temporary visa has a local employment contract (Brazilian tax residence starts on the date of entry in Brazil);
- the holder of the temporary visa spends over 183 days in Brazil in a 12-month period; or
- the holder of the temporary visa obtains a permanent visa (including before the 183 days mentioned above are up).
For legal entities, residence is determined according to their main tax domicile, and their effective place of management determines resident status. There is currently no clear definition of “permanent establishment” in Brazilian tax law.
Lastly, Brazil has a Golden Visa mechanism based on the program adopted by Portugal to attract foreign investors. Briefly, a foreign investor can obtain permanent residence in the country if they purchase a Brazilian property worth at least R$ 1 million.
Brazil has not adopted any special rules on residence as a result of COVID-19.
Individuals and legal entities who are tax resident in Spain are taxed in Spain on all of their worldwide income, including foreign-source income. An individual is tax resident if: (i) they spend over 183 days in any calendar year in the country (including sporadic absences); (ii) the main center of their economic activities or interests is in Spain; or (iii) their non-legally separated spouse and minor offspring reside in Spain.
A legal entity is tax resident in Spain if it was formed under the laws of Spain, or its registered office or place of effective management is in Spain.
Tax resident status is lost if they cease to meet those requirements. Any individual who loses resident status must include in their taxable income all unreported income and unrealized capital gains derived from the ownership of significant interests. Whereas entities moving out of Spain must include in their tax base the difference between the market value and value for tax purposes of their assets. In both cases, if they move to another EU or EEA country they have the option to defer exit tax or it may not even be payable at all.
Tax residence in Spain does not depend on legal residence or vice versa, so any citizens obtaining a Golden Visa residence visa for investors must meet the requirements laid down in the tax legislation. However, any individuals meeting the stipulated requirements are allowed to elect the special regime for workers on temporary assignments in Spain (commonly known as the Beckham Law) and to be liable for tax only on their Spanish-source income at very reduced tax rates.
In relation to evaluation of the tests determining tax residence in the context of COVID-19, the DGT concluded that the days spent in Spain during the state of emergency (lockdown) count for the purposes of the 183-day test.
The standard taxpayers resident in Portugal are generally taxed on their worldwide income at progressive rates up to 48 percent (with flat rates of 28 percent levied on certain types of passive income), and there is a foreign tax credit to eliminate any double taxation on foreign-source income. On the other hand, non-habitual tax residents (NHR) are eligible for 10 years to claim a favorable 20 percent flat tax rate on employment and self-employment domestic-source income derived from “high value-added activities”, combined with the right to use the exemption method for certain categories of foreign-source income. There is essentially no wealth tax in Portugal and/or inheritance taxes.
An individual is considered tax resident in Portugal if they meet any of the following tests: (i) they have spent over 183 days, consecutively or otherwise, in Portugal in any 12-month period starting or ending in the fiscal year concerned; or (ii) they have a home and there are circumstances suggesting the intention to keep it and use it as a habitual abode on any day of the period referred above.
To apply for the NHR regime, Portugal adopted a rather light two-condition approach: (i) the first requirement is that the applicant has not been considered a Portuguese tax resident in the five years before taking up residence in Portugal; (ii) the second requirement is that the applicant qualifies as a Portuguese tax resident in a given tax year under the general residency tests.
The NHR exemption method in respect of foreign-source income is an exemption with progression. Accordingly, if the taxpayer derives any other income taxable in Portugal (not subject to flat rates), some of the income exempt under the NHR rules will be considered to determine the progressive rates applicable to the remaining taxable income. Whenever the exemption method does not apply (or the NHR elects to apply the credit method), a tax credit for the elimination of international double taxation is granted for foreign withholding taxes up to the amount of tax that would be due in Portugal.
Lastly, a legal entity is resident in Portugal for corporate income tax purposes if it has its legal place of business there as indicated in its bylaws, or its place of effective management (namely, the place where the key management and commercial decisions necessary for the conduct of the company’s business as a whole are in substance made) in Portugal.
Although Portugal has not adopted any special rules on residence as a result of COVID-19, other measures were adopted regarding to social security contributions and tax payments without affecting the tax residence in Portugal.