Rafael Sayagues

During 2006 most of the Central American countries and the Dominican Republic (the Region) approved significant reforms to their tax legislations, with the intention to boost revenues as of fiscal year 2007, to cover increased government spending while also improving the efficiency of tax collection.

The most relevant tax reforms that were approved in the Region during 2006 are summarised below.

Guatemala

In June 2006, the Guatemalan (GUA) Congress approved Decree No. 20-2006, which contains the Legal Dispositions for the Reinforcement of the Tax Administration. GUA Tax Administration expects to collect approximately US$80 million annually as a result of the reform's implementation. The main amendments introduced by the reform are reviewed here.

The reform creates a withholding regime for VAT generated from the acquisition of goods and services and includes the appointment of ordinary exporters with a minimum average amount of GTQ100,000 (approximately $13,000) as withholding agents. Upon payment, withholding agents are required to withhold 65% of VAT that arises from the purchase of agricultural and cattle products; other goods and services require withholding at a 15% rate. There are also special withholding rules depending on the specific withholding agent:

Exporters operating under the drawback regime: must withhold a 65% of VAT due unless the acquisition is made for an amount lower than GTQ2,500 (approximately $325), in which case, no withholding should be made.

Government entities, except for Municipalities: a 25% VAT withholding would apply to acquisitions in excess of GTQ30,000 (approximately $3,890).

Credit and debit card operators: must withhold 15% of VAT due from the transactions executed by credit/debit card holders at the affiliated centres.

Other taxpayers that become withholding agents upon voluntary filing for qualification or compulsory appointment by the Tax Administration must withhold 15% of VAT due from acquisitions, excluding transactions for amounts less than GTQ2,500 (approximately $325).

Any other relevant VAT amendment refers to the elimination of the VAT exemption that was applicable to real estate property contributed to companies, in case such property had been previously contributed to a company dedicated to real estate activities.

Other amendments are the introduction of additional requirements for VAT credits, for instance, supporting documentation printed by print shops duly registered with the Tax Administration, invoices detailing quantities, values and type of goods. There are also new procedures for the refund of VAT credits.

This new requirement provides that in order for expenses derived from payments higher than GTQ50,000 (approximately $6500) to be either i) deductible or ii) to generate a credit for income tax purposes, they must be executed through the banking system. This has generated a lot of controversy since it applies to current accounts between taxpayers as part of their ordinary trade or business.

The amendments to the GUA Tax Codes mainly relate to the inclusion of provisions that allow the Tax Administration to grant tax payment facilities; temporarily close companies and other general compliance matters.

Dominican Republic

Law No. 495-06 (the Tax Reform) was approved by the Dominican Republic (DR) Congress on December 28 2006. The Tax Reform became effective as of January 1 2007.

The main elements of the Tax Reform may be summarised as follows:

The income tax amendments include:

A pre-established mathematical formula would impute taxable income for branch offices and permanent establishments of foreign entities when their income could not be determined based on their accounting books and records.

Transfer pricing: express transfer pricing rules inspired by foreign legislations (mainly Mexico) are being introduced. Also, advanced pricing agreements (APA) are proposed for the pharmaceutical, energy, insurances and hospitality industries.

International Fiscal Transparency: if the shares of a foreign entity are transferred, and said entity has shares in a DR entity, which in turn owns assets or has rights located or used in DR territory, capital gains derived there from would be locally taxed based on the transfer value of the shares and the value of those assets in relation to the value of the foreign entity's equity being transferred.

The Tax Reform establishes that the excise tax paid in connection with a product must be included as part of such product's VAT taxable base.

The Tax Reform also includes some new exemptions (mainly agricultural).

Tax rate reductions for certain products to a 10% and 20%.

Creation of a 15% ad valorem tax assessed on certain alcohol products.

Increase on the tax due applicable to cigarettes boxes and creation of a 100% ad valorem tax on the sale of cigarettes one by one.

An annual circulation tax on vehicles was created, which in the case of legal entities amounts to 1% of the vehicle book value.

Amendments on taxes applicable to casinos, lotteries, slot machines and sports books were also included.

Panama

In June 2006, a major reform was approved in Panama (PA) regarding capital gains taxation. Other reforms, including tax incentives for the tourism industry were also introduced.

Capital gains derived from the sale of stock and other movable assets

With respect to capital gains derived from the sale of movable assets, including bonds, stock, quotas etc, the PA tax legislation used to establish a preferential tax rate of 10%, in those cases in which the asset was owned by the taxpayer for more than 24 months. Otherwise, capital gains were subject to the ordinary income tax rate.

Under the reform, the 24 months condition is no longer applicable and in general capital gains will be subject to a 10% tax rate.

Said 10% tax rate will apply for those gains derived from the acceptance of a public offer of stock that generates taxable income in PA, as well as from the sale of stock, quotas, and other values issued by entities generating taxable income in PA, regardless of whether the sale is executed in or out of PA.

This Reform has no impact on PA entities known as offshore companies. Consequently, any gains derived from the sale of PA offshore companies, would still be considered as non-taxable, provided that such companies are not engaged in any trade or business that generates PA source income.

Under the Reform, the buyer must withhold a 5% tax from the sale value, which would constitute an advanced payment for income tax purposes. Taxpayers may elect to treat such withholding tax as the definite tax for capital gains purposes.

If the advanced payment exceeds the amount resulting from applying the 10% rate over the capital gain, the taxpayer may, during the same fiscal year in which the transfer was executed, file a sworn statement certifying the amount withheld and claiming a tax credit for any excess.

Moreover, if the withholding taxes are not levied, the issuer entity would be jointly and severally liable for the taxes that should have been withheld at the source.

As of mid-December, the PA Tax Administration had not issued the corresponding regulations for the new law. However, it is expected that the forthcoming regulations should address grey areas such as transfers in connection with a corporate reorganisation and indirect transfers of foreign holding companies that indirectly own PA stock.

A new Tourism Incentives Law was recently approved by the PA Congress. This new law grants important tax exemptions to investments in hotels, motels, bungalows, apart-hotels and to golf courts, restaurants, saunas, gyms, conference centres and marinas, to the extent they are connected to a hotel investment.

The Tourism Incentive Law maintains the terms of tax exemptions in areas declared of national interest (for example, fifteen-year exemption on income tax, 20 years import duties and real estate tax exemptions) in the case of hospitality industry investments.

Costa Rica

For more than three years, the Costa Rican (CR) Congress debated a comprehensive tax reform that included a major reform of the income tax, a new VAT to replace the sales tax currently in place, important changes to the tax code, a plan to control public expenditure, and a proposal to eliminate minor taxes. The original proposed reform was approved in first debate by Congress in February 2006, (to become law, a bill must be approved by Congress in two separate debates.) However, a month later, the Constitutional Court declared the legislative procedure used to approve said tax reform unconstitutional.

Thus, a new comprised single bill that basically contained the same tax reforms established by the original plan was drafted. However, the new President's administration opted to withdraw the new version of the original reform act from Congress and split the proposed tax amendments into several individual bills that would be progressively filed for discussion with Congress. As of today, solely the VAT reform has been filed with Congress for discussion and approval.

The proposed VAT bill would replace the general sales tax with a more comprehensive VAT, which has a broader scope of taxable activities, including all types of services. Further, unlike the current sales tax, which allows a credit for tax paid to suppliers solely if connected with purchases of goods or services that could be physically incorporated into the taxpayer's final product, the VAT bill allows VAT credits for taxes paid on any purchases necessary for the taxpayer ordinary activities.

The VAT rate would remain to be assessed at a 13%. However, a reduced 6% rate would apply only to energy and residential water supply.

A new bill proposing a new annual tax of US$200 to any legal entity registered with the Public Mercantile Registry was filed with Congress. Legal entities registered within the fiscal year would be liable on a pro rata basis.

Legal representatives would be jointly and severally liable for the corresponding payment, as well as the notary public responsible for the incorporation of the new entity.

A new tax assessed on the market value of houses, condominiums, apartments, exceeding CRC 100 million (approx US$ 200,000) would apply with the purpose of financing the Public Office for Housing.

The taxable event would be based on the ownership, use, or possession of a real estate asset used for residential or housing purposes and would be due on January 1st. Taxpayers would be responsible for paying the corresponding tax within the first 15 calendar days of January.

At present, only the CR Congress has authority to impose new taxes. Municipalities are empowered to collect and manage some taxes. The proposed amendment would allow municipalities to create new taxes in their jurisdictions, to subscribe loans, and donate or sell their assets. This amendment is under review by the Constitutional Court.

Under the CR Income Tax Law, interest and other financial expenses paid to non-domiciled entities are subject to a 15% withholding tax. Nonetheless, interest paid to entities duly recognised by the CR Central Bank as entities which regularly perform international operations are exempt from such 15% withholding tax.

Regarding this recognition, the CR Central Bank published new regulations to recognise entities that regularly perform international operations, which include i) filing an application with the Central Bank; ii) having a minimum capital stock of US$20 million; iii) filing a certificate of authorisation issued by the applicant's local controlling entity certifying that the applicant has been operating for at least five years and is authorised to collect savings deposits from the public in the marketplace; iv) having a country of domicile that is signatory of any of the following institutions: the Caribbean Financial Action Task Force, the Financial Action Task Force, or the South America Financial Action Task Force, and v) informing the Central Bank on a quarterly basis of all transactions executed with CR entities or individuals.

Capital gains are taxable only when derived from transfer of depreciable assets, or from the transfer of non-depreciable assets in the ordinary course of trade or business. The regulations to CR's Income Tax Law included a definition of habitual activity; however, this definition was recently declared unconstitutional by the Constitutional Court. Consequently, there is currently no official definition of habitual activity.

Nicaragua

The reforms to the Tax Code of Standards and Procedures, approved by Congress on November 2005, became effective in May 2006. The main amendments include: (i) tax principles, (ii) definitions of tax related concepts (for example, a taxable event, taxable base etc), (iii) a system of penalties, fines and tax felonies, (iv) the obligation for taxpayers to file for a statutory tax audit and (v) the establishment of an independent Administrative Tax Court.

Honduras

In 2006, no major tax reforms were introduced in Honduras (HON). However, the HON Congress did approve a reform to the Tourism Incentives Law, which provides for a ten-year income tax and VAT exemption. The reform became effective as of November 30 2006.

Rafael Sayagues (Rafael.Sayagues@ey.com)