Issues Relating To Organizational Forms And Taxation. CHILE Claro y Cia.

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1 Issues Relating To Organizational Forms And Taxation CHILE Claro y Cia. CONTACT INFORMATION José María Eyzaguirre B. Claro y Cia. Avenida Apoquindo 3721, piso 13, Las Condes, Santiago, Chile. (56-2) (56-2) jmeyzaguirre@claro.cl 1. Identify the forms of organization available in your jurisdiction and discuss the advantages and disadvantages of each (eg., corporation, limited liability company, partnership, limited partnership, co-operative, etc.), describing which type of legal entity is mostly used or is of special interest, namely by foreign investors. Chilean law contemplates two main legal entities that may serve as investment vehicles: the corporation (sociedad anónima) and the limited liability company (sociedad de responsabilidad limitada). In addition, investors may also opt to create a stock company (sociedad por acciones), general partnership (sociedad colectiva), silent partnership (asociación o cuentas en participación), limited partnership (sociedad en comandita), or branch of a foreign company (agencia de sociedad extranjera). The most common legal structures are corporations. Another legal structure which some market players have started to use is the stock company. They share most of the features of corporations (eg., their capital is divided into shares of stock and the rules governing close corporations are applicable as default rules absence of specific provisions) except that, unlike corporations, they may be formed by one or more persons and are not dissolved when one person holds all of the shares in the stock company. General partnerships can be civil or commercial depending on their purpose.

2 Limited partnership is a company organized between one or more persons who undertake to make a specific contribution to the company (Limited Partners) and one or more persons who commit to manage the company, whether personally or through their appointees, and in their own name (General Partners). There are two types of limited partnerships: a) simple limited partnerships, and b) stock limited partnerships. Silent partnership is a contract pursuant to which two or more merchants take an interest in one or more commercial transactions that only one of them (the administrator) performs in his own name and under his own personal credit, subject to the obligation of accounting for his participation and dividing with the other participants the profits and losses as agreed or, otherwise, in proportion to their respective interest. This legal structure is private, does not create a new legal entity, or has a name, domicile, or capital separated from the administrator. Finally, a foreign company may organize a local branch which does not have a separate legal existence from that of the foreign company that established it. 2. Are there attributes of the form that you consider unique to your jurisdiction? Not really. Generally, characteristics of Chilean law available legal vehicles are standard. 3. Describe the management and governance structure for each organizational form. Corporations are managed by a board of directors which represents the corporation in general, except with respect to those matters which pursuant to the law or by-laws are to be resolved by a shareholders meeting, either ordinary or extraordinary. The board members are all elected at a shareholders meeting (staggered elections are not permitted). The board is composed of at least 3 members, in case of close corporations, and of at least 5 members, in case of public corporations, except for public corporations with a market capitalization of not less than UF1,500,000 and at least 12.5% of the corporation s shares with voting rights is owned by shareholders which individually control or have less than 10% of those shares, in which case the board shall be composed of at least 7 members and shall appoint an independent director and create a directors committee composed of 3 members, the majority of which shall be independent of the controlling shareholder. The board shall appoint a general manager and other officers as the board deems appropriate. Limited liability companies management may be freely allocated by their partners upon one or more partners, upon a board of directors. Stock companies management may be freely allocated into one or more administrators and/or a board of directors, and a general manager. Civil general partnerships may be managed by one or more of the partners. If the appointment is made in the organization deed, it is of the essence of the partnership, unless expressly stated otherwise, and the manager may not resign except in cases provided in the organization deed or accepted unanimously by the partners, and may not be removed except in cases provided in the organization deed or when found incapable or untrustworthy to manage the partnership. In all other cases, the resignation or removal results in the termination of the partnership. Commercial general partnerships are managed in accordance with the by-laws provisions. If nothing is provided, the management corresponds to each of the partners,

3 individually considered. When the management corresponds to each of the partners, any partner may oppose to acts or contracts intended by any of the other partners. The management of a limited partnership is vested only upon the General Partner(s). Limited Partners are completely restricted from participating in such management. The law sanctions any Limited Partner who violates this prohibition by depriving it from the limited liability privilege. Limited Partners may hold meetings to discuss and decide matters other than those related to the management. In stock limited partnerships, the Limited Partners meeting must elect a Surveillance Board composed by at least three Limited Partners, which is in charge, among others, of inspecting the limited partnership s books and records. Branches are managed by the local representative appointed by the foreign company that established them. 4. Is there a residency requirement for management or owners? In particular, are there restrictions or prohibitions on foreign investors to perform, or have interests in, specific activities? Generally, there are neither restrictions regarding the nationality of the company s owners nor residency requirements. Also, no nationality requirement exists in respect of the managers but the general manager must be a Chilean resident. It is a requirement for tax purposes which, in case the individual that will act as general manager is a foreign citizen, will be satisfied when it has a VISA, either a working or temporary VISA. As a general rule, there are no restrictions or prohibitions on foreign investors to perform or have interests in specific activities. An exception to this general rule is the case of concessions granted by the Under-Secretariat of Telecommunications (Subsecretaría de Telecomunicaciones) which may only be granted to legal entities organized and domiciled in Chile, regardless of their capital structure. Hence, foreign companies are eligible via their Chilean subsidiaries to provide telecommunications services through concessions. Another restriction for foreigners refers to lands belonging to the State located up to ten kilometers from the national border which may only be acquired, leased or received under any other title, by Chilean individuals or entities. Same rule shall apply with respect to those lands belonging to the State located up to five kilometers from the seacoast, measured from the line of the highest tides. However, in the latter case, foreigners with domicile in Chile may acquire, receive in lease or obtain under any other title the aforementioned lands upon prior favorable report of the Navy Under-Secretariat of the National Defense Ministry (Subsecretaría de Marina del Ministerio de Defensa Nacional). 5. Describe the extent to which management and owners are exposed to liability. In corporations and stock companies, owners are not liable for the debts of the company and the risk of a court piercing of the corporate veil is low (there is no relevant caselaw in this regard). Limited liability companies main feature is to limit the liability of the partners in respect of the company s obligations to each such partner s paid contribution to the company s capital.

4 The liability of the partners of general partnerships is unlimited. Partners of civil general partnerships are liable for the obligations of the partnership before third parties in proportion to their respective contributions, and the portion of the insolvent partner shall proportionally increase the liability of the remaining partners. Partners of commercial general partnerships are jointly and severally liable for the obligations of the partnership before third parties. General Partners of a limited partnership are jointly and severally liable pursuant to all commitments made and losses sustained by the partnership. Limited Partners are only liable up to the amount they committed to contribute to the Partnership; provided however that they can be deprived from this benefit as explained in our answer to question 3 above. 6. Ownership interest: (i) how is it represented? (ii) is it transferable?; and (iii) is there a minimum number of owners? Except for stock companies and branches, all other types of companies shall be formed by two or more persons (individuals and/or legal entities), and they are dissolved if one person holds all of the ownership interests. Stock companies may be formed by one or more persons and are not dissolved when one person holds all of the shares. The equity capital of corporations and stock companies are represented and divided into shares of stock. Preferred shares are allowed and in such case, the by-laws shall indicate the relevant series and privileges. The transfer of a corporation s shares shall be evidenced by means of a private deed executed by assignor and assignee before two witnesses of lawful age, a stock broker or a notary public, or by mean of a public deed executed by assignor and assignee. The corporation may not reject or make comments on the transfers of shares submitted thereto for their recording in the Shareholders Registry, unless such transfers do not comply with the foregoing formalities. The transfer is enforceable against the corporation and third parties from the moment the former has been recorded in the Shareholders Registry. The by-laws of public corporations may not stipulate limitations to the free transferability of shares. Shareholders agreements that contain restrictions to the transfer of the shares owned by the shareholders, who are party thereto, shall be deposited with the corporation and a reference to their existence shall be annotated in the Shareholders Registry. If the latter formalities are not complied with, the shareholders agreement will not be enforceable against the corporation. In case of limited liability companies, general partnerships and simple limited partnerships, ownership interests are not represented by shares and, in case of limited liability companies and general partnerships the relevant equity rights may not be transferred without all the other partners unanimous consent. In simple limited partnerships, a Limited Partner may transfer its rights but not the authority to examine the limited partnership s books and records. In stock limited partnerships, a Limited Partner may transfer its shares only after two-fifths of their value has been contributed to the limited partnership. 7. Is there a minimum capitalization?

5 As a general rule, there are no minimum capital requirements, but it is advisable that the capital amount selected be in accordance with the company s purpose. It is worth commenting though, that certain financial activities are required to be developed by a certain specific type of legal entity and to maintain a minimum capital. This is the case of the banking business, insurance business, and of pension, mutual and investment funds managements. Indeed, under the Banking Act a bank must have a minimum paid-in capital and reserves of UF800,000 (U.S.$32,510,253) and to contribute at least 50 percent of such amount as of the date of its incorporation. There is no mandatory time period for contributing the remaining balance. Notwithstanding the foregoing, as long as a bank has not contributed the minimum capital, it shall have an effective equity not lower than 12 percent of the bank s risk weighted assets. When such bank s paid-in capital reaches UF600,000 (U.S.$24,382,690) the effective equity required is reduced to 10 percent of its risk weighted assets. Also, pursuant to the Banking Act, each bank should have an effective equity of at least 8 percent of its riskweighted assets, net of required allowances. Banks should also have a capital básico or Net Capital Base, of at least 3 percent of its total assets, net of allowances. Net Capital Base is defined as a bank s paid-in capital and reserves and is similar to Tier 1 capital, except for the fact that it does not include net income for the period. Pension funds managements ( AFP ) are corporations which exclusive purpose is to manage pension funds and to grant and manage the services and benefits stipulated in the law. The minimum capital required for an AFP with 10,000 or more members is UF20,000 (U.S.$812,756) and if at any point in time the capital falls below such threshold, the AFP shall increase the capital within six months, or otherwise the Superintendency of Pension Funds shall revoke its license and the AFP shall be dissolved. Finally, investment and mutual funds managers must be organized as corporations with the exclusive purpose of administering investment or mutual funds and must have a paid-in capital of at least UF10,000 (U.S.$406,378). 8. Is there a security that can be issued to the public? The equity capital of corporations, stock companies and stock limited partnerships is divided into shares of stock represented in certificates; provided however that in case of stock companies Chilean law authorizes the shareholders to issue shares without printing any physical sheets of the relevant stock certificates. 9. Can the form incur debt, or grant security for debt? All of the forms can incur debt and grant security for debt. Security can consist either on a security interest over assets (eg., a mortgage or a pledge) or on a personal guaranty granted by the entity itself securing either their own obligations or third parties obligations. If governed by Chilean law, joint (but not several) guarantees are usually evidenced by means of a fianza where the obligor has certain defences, such as the beneficio de excusión: the right to demand that the creditor first seeks to foreclose on the assets of the debtor; the beneficio de división: the right of a co-guarantor that is not jointly and severally liable to demand that the liability be divided among all the co-guarantors, if more than one; the excepción de subrogación: which limits liability if the creditor has done something that impairs the right of

6 the guarantor to be subrogated in the credit against the debtor upon payment; the beneficio de retractación: the right of the guarantor to repudiate the guaranty in respect of future obligations; and the excepciones reales y personales: actions in rem (willful misconduct) and in personam (set-off) against the creditor. All of such defences, except those based in the willful misconduct of the creditor (or gross negligence which is assimilated in this regard to willful misconduct), may be waived in advance, and such waiver is enforceable under Chilean law. In case of a security interest over assets, it can be granted with respect to all of a company s assets only to the extent that each asset over which the security interest is intended to be created is individually described in the agreement creating the security interest. Floating charges or security interests over after-acquired property are available with respect to inventory, raw materials, elaborated and semi-elaborated products and spare parts. It is worth noting that the granting or creation by corporations of guarantees or liens securing third parties obligations other than that of subsidiaries (in which case the decision by the board shall suffice), the Corporations Act requires the approval at a duly convened shareholders meeting, by the affirmative vote of two-thirds of the issued and outstanding shares with right to vote. 10. What is the duration of the form? Can it be renewed? As a general rule, the duration of the entity is determined by the parties in the by-laws and except in case of limited liability companies and general partnerships, it may be indefinite and shall be indefinite in the absence of any reference in the by-laws. It can also be subject to a term to the extent set forth in the by-laws. Renewal, whether automatic or by the parties prior agreement may also be agreed in the by-laws. 11. Describe the process, customary time period and approximate cost of establishing the form. Except in case of stock companies (where one person is enough), at least two persons are required to establish a company. Corporations, limited liability companies, commercial general partnerships and stock companies must be incorporated pursuant to a public deed (or, in case of a stock company also pursuant to a private deed duly notarized) containing their by-laws, which shall include the references provided in the law (eg., owners identification; company s name, domicile, equity capital; etc.). An excerpt thereof must be recorded in the relevant Commerce Registry and published in the Official Gazette within a certain time period. No further governmental authorization is required. The Chilean Civil Code provides no formalities for the organization of civil general partnerships. Nevertheless, for purposes of evidence of existence, they require to be in written form. A simple limited partnership is organized by means of a public deed with the same contents as required for general partnerships, an excerpt of which must be registered in the relevant Commerce Registry. Stock limited partnerships have a two-step organization process, which can be accomplished in one act or in two separate acts. First, it requires a public deed and registration in the same

7 conditions as the simple limited partnership. But the partnership is not effectively organized until the entire capital is subscribed and each partner has contributed at least one fourth of its committed contribution. In limited partnerships, the names of the Limited Partners must not appear in the name of the partnership or in the excerpt of the organization deed. If a Limited Partner allows the appearance of his name in the partnership s name, he will be liable for the partnership s obligations in the same terms as a General Partner. In stock limited partnerships, additionally, the names of the Limited Partners must not appear in the organization deed. Silent partnerships are established by means of a private contract which is not subject to any formalities. Nevertheless, for purposes of evidence of existence, they require to be in written form. Branches of a foreign company are established by means of a filing with a local notary public of: a) the documentation evidencing the due organization, existence and good standing of the foreign company; and b) the appointment of a local representative. The representative shall execute in Chile a public deed setting forth, among others, the name under which the foreign company shall operate in Chile; the branch s purpose; that the assets of the branch shall be subject to Chilean laws and shall respond for the obligations undertaken by the branch in Chile; etc. An excerpt shall be recorded with the Commerce Registry and published in the Official Gazette within a time period provided in the law. Establishment of a legal entity takes one month. Costs are between US$300 and US$400, plus the Commerce Registry and legal fees. 12. Are there requirements for the government (central or local) to be part of a project or investment vehicle or receive part of the profits arising therefrom (apart from taxes)? No general requirement for the government exists to be part of a project or investment vehicle. As to sharing with the Government of part of the profits arising from a project, there is no such a general requirement. In some projects the law contemplates mechanism of revenue sharing with the Government. That is the case of public works concessions which are awarded by the Chilean Ministry of Public Works (Ministerio de Obras Públicas, the MOP ) after a public bidding process. Once awarded, the successful bidder enters into the Concession Agreement with the State of Chile, represented by the MOP. The Concessions Act grants the concessionaire the option to agree with the MOP a mechanism of risk allocation with respect to the risks generated by the uncertainty of traffic flows. In the event that the concessionaire s revenues generated from the operation of the toll road is substantially above the levels set forth under a agreed formula, the concessionaire will be required to share 50% of such revenues with the MOP. 13. For what taxes is the form liable? Most companies are required to pay First Category Tax on their annual accrued income at a rate of 17 percent. Corporations, stock companies, limited liability companies and branches are subject to First Category Tax on a complete-accounting basis (calculated on the basis of the accrual method of accounting, as a general rule). In this respect, there are certain matters that may be

8 highlighted: a) there are no restrictions on the carrying forward of any tax losses; b) assets and liabilities are adjusted to reflect changes in Chilean inflation; c) under certain conditions, imported or new tangible assets may be depreciated by one-third of their normal economic life; d) dividends or profits from other Chilean companies are not subject to First Category Tax; and e) a tax credit may be granted with respect to foreign taxes paid on certain types of foreign source income. Under certain circumstances, some activities (eg., agricultural, mining and transportation) pay taxes on the basis of deemed income, unless a corporation carries them out. Local entities shall keep a taxable profit fund ledger (the Fondo de Utilidades Tributables, or the FUT ) that tracks the entity s income and its tax situation. The FUT is used to calculate income taxes and the tax credits that may be available at the time profits are distributed by such entity to its partners or shareholders, as the case may be. In case of an agency, branch or permanent establishment, if the books and accounting records do not allow the tax authorities to determine the actual Chilean income, the IRS may determine such income by (i) applying to the gross income of the Chilean operations, the ratio between net income and gross income of the entity s headquarters (determined pursuant to the Income Tax Act), or (ii) applying to the assets of the Chilean operations, the ratio between the net income and assets of the entity s headquarters. The foregoing is without prejudice to the ability of the IRS to apply any of the deemed income assumptions contained in the Income Tax Act. In addition, entities shall pay and declare the Value Added Tax. 14. What is the tax treatment of payments to foreign owners? Additional Withholding Taxes are levied upon distributions and withdrawals of profits made by entities domiciled or resident in Chile to individuals or entities not domiciled or resident in Chile. As a general rule, the rate of the Additional Withholding Tax for distributions of profits by, and withdrawals of profits from, an entity other than a corporation, such as limited liability companies, are subject to Additional Withholding Tax at a rate of 35 percent to the extent that the profits distributed or withdrawn correspond to taxable income as registered in the company s FUT (as of December 31 of the previous year). On the other hand, if the FUT of limited liability companies is negative, profits distributed abroad shall not be subject to Additional Withholding Tax, which shall be deferred until the fiscal year in which the FUT of such limited liability companies registers taxable profits, unless such distribution could be applied to the non-taxable profits ledger (the Fondo de Utilidades No Tributables, or the FUNT ) in which case the distribution will not be subject to withholding taxes. Please note that any amounts remitted abroad by a limited liability company in excess of its FUT (as of December 31 of the previous year) are subject to a provisional 20 percent withholding tax on the amounts remitted abroad. In this case, the amount so withheld shall be used as a tax credit against the Additional Withholding Tax that may be applicable if at the end of the fiscal year in which such remittance is made, the FUT of such limited liability company is positive. Conversely, if at the end of such fiscal year the limited liability company does not have taxable profits, the foreign partners shall be entitled to a refund of the provisional tax withheld.

9 In turn, distributions of profits by a corporation are always subject to Additional Withholding Tax at a rate of 35 percent. Finally, a credit is given for the First Category Tax paid by the local entity, if any. This credit, however, does not reduce the Additional Withholding Tax on a one-for-one basis because it also increases the tax base on which the Additional Withholding Tax is calculated. Entities domiciled or resident in Chile making distributions and withdrawals of profits, to individuals not domiciled or resident in Chile are required to withhold the applicable Additional Withholding Tax and declare and pay such tax to the Chilean General Treasury within the first twelve days of the month following the withholding. In addition, a special ledger must be kept to record the Additional Withholding Taxes so withheld, including the name and address of the person for whose benefit the withholding was made, along with annual affidavit filings. 15. Is there a tax treatment which would impact foreign owners differently than owners resident in the jurisdiction? Yes. As a general rule, owners which are individuals domiciled or resident in Chile are required to pay an Overall Income Tax. The Overall Income Tax is a progressive tax with rates ranging from zero percent to 40%. In connection with the profits that individuals receive from entities domiciled in Chile, individuals are allowed to use as a tax credit the 17% First Category Tax paid by the corresponding entity, if any. In turn, and as a general rule, distributions and withdrawals to foreign individuals or entities not domiciled or resident in Chile are subject to an Additional Withholding Tax as described in answer to question 14 above.