2019 State Budget – What remains to be done about capital gains taxation

The tax treatment of capital gains obtained by non-­residents upon transfer of shares in resident companies is worse than that applicable to capital gains obtained by residents.

The Corporate Income Tax (“CIT”) regime on capital gains obtained by non-residents upon transfer of shares ­deriving their value, directly or indirectly, mainly from real estate located in Portugal (to which this paper exclusively refers) has been amended again by the 2019 State Budget (“2019 SB”) Law.
This, following the amendment already introduced to the regime, approximately one year ago, by the 2018 State Budget (“2018 SB”) Law. Further to this amendment made by 2018 SB Law, capital gains obtained by non-resident entities upon transfer of shares, or equated rights, in other non-resident companies deriving their value, directly or indirectly, in more than 50% from real estate located in Portugal, became subject to Portuguese CIT.
Under the new rule, the capital gains at stake are however not subject to taxation if the real estate from which the shares derive their value is allocated to an agriculture, industrial or commercial ­activity, other than the purchase and sale of real estate.
In this sense, the new regime is similar to that already applicable to capital gains obtained by resident entities. Indeed, according to the commonly known participation exemption regime applicable to them, as long as all other requirements are met (e.g., those related to the shareholding, which cannot be inferior to 10% nor held for less than 1 year), capital gains obtained by residents are not taxed even if the assets of the company being transferred are mainly comprised of real estate, as long as it is allocated to any of the referred activities.
Notwithstanding, since the amendment to the CIT Code was not followed by an amendment of the Tax Benefits Law (“EBF”) – which, as rule, provides for an exemption to the capital gain obtained by non-residents upon transfer of shares -, in practice and for most of the cases the 2018 SB Law did not eventually meet the envisaged goal.
One may therefore understand the need to have the 2019 SB Law returning to this topic by changing article 27 of the EBF, hence excluding from the CIT exemption those capital gains that the 2018 SB Law envisaged to tax, despite the poor legislative technique used to draft the new provision.
It is, however, incomprehensible that the legislator has missed this new opportunity to rectify another obvious flaw of the current taxation rules on capital gains obtained upon the ­transfer of shares.
We refer to the difference between the tax treatments granted to the capital gains obtained in the two situations referred to above (transfer by a non-resident of a stake in another non-resident, and transfer by a resident of a stake in another resident), and, to the ­capital gains obtained by a non-resident entity upon transfer of a stake in a resident entity the assets of which are mainly comprised of real estate located in Portugal.
Indeed, looking at the regime applicable in this last scenario (transfer by a non-resident of a stake in a resident entity) one ­concludes that the capital gains are liable for CIT without being ­eligible for the exemption even in those cases where the real estate held by the resident company whose shares are transferred is ­allocated to an agriculture, industrial or ­commercial activity, other than the purchase and sale of real estate.
A remnant of the taxation rules that were in force until the CIT ­reform carried out in 2014, the said difference between tax regimes is currently incomprehensible and groundless, and should be eliminated.
Indeed, it is necessary to amend a regime that may undermine fundamental freedoms protected by EU Law, namely freedom of ­establishment and, possibly, free movement of capital, whenever all the requirements that would enable the non-resident entity to ­benefit from the participation exemption regime if it was a resident are met, including the allocation of the real estate to an agriculture, industrial or commercial activity, other than the purchase and sale of real estate.
Finally, just a brief note on the actual impact of these domestic tax rules – aimed at taxing capital gains obtained by non-resident entities upon transfer of shareholdings whose value mainly derives from real estate located in Portugal -, in those situations where the transferor is entitled to the benefits of a double taxation agreement (“DTA”) ­entered into between Portugal and his State of residence.
Despite that in more recent DTAs there is a certain shift in the pattern, up to now a great number of the DTAs entered into by ­Portugal provide the State of residence of the recipient of the capital gains with exclusive taxation rights, reason why the said domestic rules eventually turn out to be inapplicable.
However, it is anticipated that such DTAs ­may be amended by the provisions of the ­Multilateral Convention to Implement Tax Treaty Related Measures to ­Prevent Base Erosion and Profit Shifting in order to also provide the State where the real estate is located with taxation rights.
Having regard to all of the foregoing, we regret that the ­legislator has not taken this opportunity (i.e., the 2019 SB Law) to also amend this aspect of the capital gains taxation regime, giving it back ­consistency and eliminating the potential of conflict with the ­Portuguese Tax authorities that it currently entails.

Gonçalo Bastos Lopes*
Catarina Ribeiro Caldas**
partner* and associate lawyer** of Cuatrecasas, tax Department