State Budget State Budget Main Tax Changes CIT

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1 State Budget State Budget Main Tax Changes With the State Budget Proposal for 2007 currently under discussion in the parliament, we felt it might be useful to highlight the main tax changes to be introduced to Corporate Income Tax (CIT), Value Added Tax (VAT), Municipal Tax, Transfer Tax, Tax Benefits, Mortgage-Backed Bonds and Real Estate Funds. Our observations are informal and based on the proposal available. CIT EU Participation Exemption Reduction from 20% to 15% of the minimum stake to be held by an EU company in a Portuguese company for the purposes of participation exemption. Clarification of how the participation exemption applies to dividends paid to permanent establishments. Participation Exemption and Switzerland Provision of a similar EU participation exemption regime to dividends paid by Portuguese companies to companies residing in Switzerland. Inventories Revocation of the tax benefit applicable to taxpayers who use the permanent inventory system. Provisions for Banks / Insurance Companies Definition, by means of cross-reference to the rulings issued by the respective regulators (Banco de Portugal and Instituto de Seguros de Portugal), of the types of provisions relevant to financial and insurance entities for tax purposes. Definition of the limits, terms and conditions for the tax deduction for these sectors under the relevant provisions. Fringe Benefits Broadening of the concept of fringe benefits so that the amounts paid for post-employment health benefits can be considered relevant for tax purposes. This change takes effect from 1 January Internal Participation Exemption Possibility of deducting 50% of the dividends distributed by EU companies qualifying under the Parent- Subsidiary Directive whenever the acquisition value of the stake is lower than 20,000,000 or when it represents less than 10% of the company s November

2 share capital. Revocation of the anti-avoidance rule created by the 2005 State Budget and provision for a new rule that determines the taxation of 50% of dividends when dealing with dividends which were not subject to effective taxation (for Portuguese holding companies no taxation applies). Whenever the participation exemption applies to EU dividends, the Portuguese taxpayer has to obtain a duly certified statement from the relevant EU member State. Entities not pursuing a commercial, industrial or agricultural business activity The subsidies aimed at financing the statutory purposes of these entities are not subject to CIT even if said subsidies are not directly and immediately aimed at satisfying the statutory purposes. The gifts directly and immediately aimed at satisfying the statutory purposes of these entities are subject to but exempt from CIT. Tax Consolidation Revocation of the minimum five year period. The option to adhere to the tax consolidation regime is now solely exercised by the parent company with the subsidiaries no longer having to make similar statements. Common System of Taxation applicable to Mergers, Divisions, Transfers of Assets and Exchanges of Shares Implementation of Council Directive 2005/19/EC of 17th February Redefinition of the concept of partial division in order to safeguard that the tax neutrality regime only applies where at least one branch of activity is left at the level of the transferring company. The holding and management of stakes in companies no longer constitutes in itself a branch of activity. Broadening of the concept of exchange of shares to include the situations whereby the acquiring company already has the majority of the voting rights of the acquired company. Applicability of the tax neutrality regime to the situations whereby a Portuguese permanent establishment of an EU company is transferred to a Portuguese company and subsequently dissolved. Possibility of transferring and carrying forward the tax losses in situations whereby a permanent establishment of an EU company is transferred into a Portuguese company (including mergers and divisions and not only transfer of assets). The shareholder of a company under a division procedure benefits from the tax neutrality regime if, for tax purposes, the value of its stake is allocated between the stake to be granted under the division and the stake to be kept in the transferring company. This allocation has to be made in proportion to the value of the assets transferred to the acquiring company and the value of the assets of the transferring company. Winding-up Reduction from three to two years of the tax winding-up period. Withholding Tax Exemption Dividends paid to Portuguese financial institutions only benefit from withholding tax exemption if the participation exemption requirements are satisfied (and not under the general November

3 VAT withholding tax exemption rule applicable to all types of capital income obtained by Portuguese financial institutions). Renewal of Fleets Only 20% of the capital gains made from the sale of goods vehicles of at last twelve tons, acquired prior to and with a number plate dated before 1 st October 2006 and allocated to the public or private transportation of goods are taxed. This is provided that the sale proceeds are reinvested in the acquisition of goods vehicles with a number plate dated after 1 st October 2006 and allocated to the same purpose. IAS and Financial Institutions The entities which are under the supervision of the Banco de Portugal and which are required to follow the adjusted international accounting standards (AIAS) are no longer obliged to have separate accounts, for tax purposes, under the Portuguese internal accounting policy. Therefore, the accounts prepared in accordance with the AIAS, with the adjustments imposed by the Portuguese State Budget for 2007, will be relevant for tax purposes. This change takes effect 1 January Authorisation on IAS The Government is authorised to review the Portuguese tax rules on the assessment of the tax basis in order to make them coherent with the international accounting standards. Specific guidelines have to be followed. Authorisation on Simplified Regime The government is authorised to revoke the simplified regime and to replace it with a new simplified regime, accountancy based, applicable to taxpayers who have an annual turnover equal to or lower than 250,000. Authorisation on Transfer Prices The government is authorised to create a regime of upfront binding agreements on transfer prices which bind both the taxpayers and the Portuguese tax authorities. VAT on Imports Extending the payment term period of VAT on imports. Only applicable from 1 st July Invoice The issuing of an invoice is mandatory whenever requested (even for small retailers and exempt service providers) or whenever the acquirer is a VAT taxpayer. Small Retailers Possibility of deducting inputted VAT on the lease (and not only on the acquisition) of investment assets or assets for company use. VAT Regularisation in favour of the Taxpayer Extending the term period from one to two years. 5% Rate Applicable to construction works whose aim is to refurbish properties located in legally classified urban redevelopment areas. Free Transfers of Goods and Services The free transfers of goods and services made by the entities which benefited from a gift are not November

4 subject to VAT whenever the accumulated value of the free transfers does not exceed 5% of the gift value. Municipal Tax Evaluation of Rural Property In certain circumstances there is no need for a direct evaluation of rural properties. Evaluation of Urban Property Changes to the wording and the value and factors used in evaluating urban properties (allocation, quality and comfort and antiquity factors), provision for a new evaluation factor (area adjustment criterion) and changes in the powers of the competent evaluation body to reflect the new rules. Only applicable from 1 st July Tax Rate and Off-Shore Reduction from 5% to 1% or 2% whenever the properties are held by entities located in listed tax havens. The 1% rate is for occupied properties, the 2% rate for unoccupied. Tax Rate and Municipalities For properties classified as being of public interest, relevant municipal value or cultural heritage, the respective municipality may grant a 40% reduction of the municipal tax rate for the year in question. Public Interest, Relevant Municipal Value and Cultural Heritage Exemptions Revocation of the exemptions applicable to properties classified as being of public interest, relevant municipal value or cultural heritage. The Municipal Tax exemption is granted automatically for properties classified as national monuments which were acquired with Transfer Tax exemption, to expire in the year when the property is declassified. The Portuguese tax authorities will notify all the beneficiaries of the revoked exemptions of the respective expiration, with each of them being entitled to apply within ninety days for the general Municipal Tax exemption (Municipal Tax exemption for permanent residential properties provided that the relevant requirements are satisfied and that the taxpayer in question has not been granted that exemption for the property). Refurbishment Exemptions Broadening of the concept of refurbishment for the purposes of Municipal Tax exemption. Residential Property Exemption 5% increase in the relevant tax values for the Municipal Tax exemption applicable to permanent residential properties. Where the urban properties are leased, the two exemptions per taxpayer limit does not apply. Emigrants may also benefit from Municipal Tax exemption applicable to permanent residential properties without the need to allocate the properties to their permanent residence within the standard six month period. The new regime for emigrants is established following the revocation of the ten years exemption applicable to emigrants who acquired urban properties under the special emigrants-savings regime (the present revocation safeguards November

5 the exemptions granted in the past and the possibility of granting the exemption to properties acquired before 17 th August 2006). Increase of Rents Restrictions and Exemption Revocation of the Municipal Tax exemption applicable to leased properties where legal restrictions to increase the rents apply. Transfer Tax Financial Institutions Exemption The Transfer Tax exemption applicable to financial institutions or to companies held by them in the cases of datio pro solvendo (i.e. transfer of property to settle a debt) has been limited when dealing with non-residential properties. In order to benefit from the Transfer Tax exemption for non-residential properties at least one year will have had to pass between the lack of payment and the datio pro solvendo. Furthermore, debtor and creditor cannot be related parties and the Transfer Tax exemption has to be applied for and granted by the Ministry of Finance (with a prior opinion issued by the Portuguese tax authorities). The applicability of the Transfer Tax exemption to companies held by financial institutions depends on whether the companies in question are classified as financial institutions or as financial companies. Furthermore, in the cases of datio pro solvendo where the debtor transfers a residential property the necessary authorisation from the Ministry of Finance must be obtained in advance (with a prior opinion issued by the Portuguese tax authorities) if the value exceeds 85,500 (value for 2007). Residential Property Updating of the exempt value for residential properties by approximately 2.3% (from 83,500 to 85,500). 2% updating of the various scales. Tax Rate and Off-Shore Reduction from 15% to 8% whenever the properties are acquired by entities located in listed tax havens. Tax Benefits Forfeit of Tax Benefits - Implementation of the rule under which the tax benefits are in force for a five year period, after which they will be revaluated and possibly extended. The general five year rule does not apply where a specific tax benefit rule determines otherwise, nor to pension funds, contributions made by the employers to social security regimes, pension savings funds, education savings funds, pension/education savings funds, investment funds, private equity funds, forest resources real estate funds, Municipal Tax exemptions and to the tax benefits emerging from international arrangements. The tax benefits acquired under specific tax benefit rules will remain valid and in force under the exact terms under which they were granted. The five year rule will not have the effect of extending the terms specifically stipulated in the tax benefit rules in question. November

6 Systematic The most relevant feature in terms of innovation and simplification is bringing several loose tax benefits rules and regimes under the Tax Benefits Law. The tax benefits for midland regions, companies reorganisations and patronage can now be found in the Tax Benefits Law. This bringing of several tax benefits under the Tax Benefits Law, together with the implementation of the five year rule, grants stability and certainty to decision-makers and allows well-balanced medium-term tax planning. Patronage Cash contributions exceeding 200 must be made by bank transfer, nominative cheque or direct debit so that the relevant Maecenas may be identified. Pension Funds Revocation of the Stamp Duty exemption. Contributions made to pension funds and complementary social security regimes are only deductible for Personal Income Tax purposes if they are made by (i) the taxpayer and they are not a taxable cost for business income purposes or (ii) a third party and taxed as income of the taxpayer. Pension Savings Funds, Education Savings Funds, and Pension/Education Savings Funds The contributions made after retirement cannot be deducted for Personal Income Tax purposes. Private Equity Funds Income paid on the units to non-resident entities without a permanent establishment in Portugal is exempt except if the non-resident entity is not located in a listed tax haven or held in more than 25% by Portuguese resident entities, in which case a final 10% taxation applies. The same final 10% taxation is applicable to Portuguese resident individuals who obtain the income from the units outside of a business activity. In all the other situations a withholding tax rate of 10% applies and the tax withheld will be considered as a payment on account of the final tax liability, with the taxpayer bound to include the income paid on the units within its overall income. In such cases, and where the income on the units includes dividends, a 50% deduction of the included dividends is allowed. Finally, the private equity funds regime provides for specific rules on the certification of non-residence, on statement obligations and imposes the jointly and several tax liability of the management company. Forest Resources Real Estate Funds Creation of the new tax regime applicable to Portuguese forest resources real estate funds in identical terms to the ones governing private equity funds. The eligibility conditions of this new regime include, among others, the allocation of at least 75% of the fund s assets to the activity of forest resources under a specific and legally approved Forest Management Action Plan or subject to official certification by the relevant authorities. Employment Incentives Broadening of the tax benefit applicable to the net creation of working places so that it may also benefit Portuguese resident individuals that pursue an accountancy-based business activity. November

7 The tax benefit is also applicable if the new working place is created for long term unemployed. Clarification of the relevant concepts for the purposes of the tax benefit, notably, the concepts of youth, long term unemployment, eligible costs and net creation of working places. Family members of the employer are not eligible for the purposes of the tax benefit. The present benefit is not cumulative with other tax benefits of a similar nature or with other incentives which promote employment. The tax benefit is significantly limited as it will only be granted once in respect of the same employee, even if dealing with different employers. This change takes effect for tax periods beginning after 1 January Participation Exemption and Africa Broadening of the participation exemption to dividends paid by companies residing in African countries which have Portuguese as their official language. The eligibility conditions include, among others, a minimum stake of 25% held for a minimum two year period. Furthermore, the regime does not apply to dividends resulting from passive income, i.e., royalties, capital gains, income on securities, non-african property income or non-african insurance or financial income. Capital Gains and Privatization Revocation of the exemption applicable to capital gains made by public owned companies from the privatisation processes. Cooperatives Revocation of part of the tax benefits applicable to cooperatives and to their members. The revoked benefits include Personal Income Tax deductions, Stamp Duty exemptions and tax exemptions under reorganisations. Creation of rule that provides for penalties in the cases where a Portuguese resident individual who benefited from a Personal Income Tax deduction does not comply with the cooperatives regime on repayment of contributions. Mortgage-Back VAT and Stamp Duty exemption on fees for the management and assignment of mortgage-backed credits made under the legal regime of mortgage-backed bonds. Real Estate Funds Municipal Tax and Transfer Tax Revocation of the full Municipal Tax and Transfer Tax exemptions if dealing with close-ended Portuguese real estate funds with private placements, whose participation units are held by non-qualified investors. These type of Portuguese real estate funds will pay Municipal Tax and Transfer Tax at half of the regular rates (maximum Municipal Tax of 0.4%, maximum Transfer Tax of 3.25%). November

8 Author: Tânia de Almeida Ferreira Contacts: Patrick Dewerbe Ricardo Reigada Pereira Lisbon Avenida Fontes Pereira de Melo, 14-15º Lisbon, Portugal Tel: (351) Fax: (351) This publication is intended merely to highlight issues and not to be comprehensive, nor to provide legal advice. Should you have any questions on issues reported here or on other areas of law, please contact one of your regular contacts at Linklaters, or contact the editors. Linklaters. All Rights reserved 2006 Please refer to for important information on the regulatory position of the firm. We currently hold your contact details, which we use to send you newsletters such as this and for other marketing and business communications. We use your contact details for our own internal purposes only. This information is available to our offices worldwide and to those of our associated firms. If any of your details are incorrect or have recently changed, or if you no longer wish to receive this newsletter or other marketing communications, please let us know by ing us at 8