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Chile: New regulation for derivative instruments

Foreign investors will be pleased to know that, as a consequence of recently published Law No. 20,544, the Chilean capital market has, for the first time, a formally regulated regime for derivative instruments, enforceable for instruments traded from January 1 2012.

As mentioned earlier this year, the new legislation puts to an end a lot of uncertainty regarding the tax treatment applicable for these types of instruments, which until now have only been regulated by administrative jurisprudence issued by the Chilean tax authorities.

Among other things, foreign investors need to consider the following, when trading Chilean derivatives.

Types of instruments

The new law expressly regulates forwards, futures, swaps, options, and a combination of any of these. However, the new legislation will also be applicable to other financial agreements whose values derive from the value of an underlying transaction, fulfilling the following joint requirements: its settlement value is determined over one or more variables; it does not require an initial investment or it is significantly lower than investing directly in the underlying assets; and the settlement of the instrument is performed at a future date.

Nevertheless, certain instruments are not covered by the new legislation, regardless of whether they fulfill with above requirements, such as insurance contracts, stock options, and short-sale agreements.

Source of income

As a general rule, income derived from assets located within the country or activities developed in Chile are considered to be Chilean source income. The new regulation for derivative instruments provides for a sourcing rule based on the taxpayer’s domicile, where only revenues obtained by Chilean residents or by a permanent establishment of foreign taxpayers in Chile are subject to taxes in Chile. Instruments settled by means of physical delivery of shares or quotas in Chilean companies are also subject to Chilean taxes, regardless of the taxpayer’s domicile.

As a consequence, the law puts an end to a long-term discussion not solved by administrative jurisprudence. Foreign investors obtaining revenues upon cash settlement of derivative instruments will not be subject to taxation in Chile.

Gain or loss recognition

In principle, taxpayers will have to recognise a gain or take a loss on cash basis, unless subject to the business profits tax. In such a case, recognition will be on accrual basis by reference to the instrument’s fair value.

Provided most business taxpayers are required to follow international financial reporting standards to reflect the instrument’s fair value, this market-to-market rule is intended to avoid an additional burden. However, those taxpayers not bound by this financial accounting method will need to find the information at an additional cost to assess the accrued gain or loss for the period.

The new legislation is considered to be an important advancement for the local capital market industry and new administrative regulation is expected in the near future.

Francisca Middleton (francisca.middleton@cl.pwc.com) & Benjamín Barros (benjamin.barros@cl.pwc.com)

PwC

Tel: +56 2 9400155

Fax +56 2 940 0503

Website: www.pwc.com/cl

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