On April 18, 2019, Portugal announced that its President signed legislation (National Assembly Decree No. 289/XIII of April 10th) (Decree No. 289/XIII) to enact portions of the EU Anti-Tax Avoidance Directive (ATAD 1) (2016/1164) of July 12, 2016. Portugal’s Assembly of the Republic (a unicameral legislature) adopted the legislation on April 16th, which contains the ATAD 1 controlled foreign company (CFC) and interest expense limitation rules, among others.
Editor’s Note: The legislation does not contain any hybrid mismatch proposals. EU member states had to implement the ATAD 1 by December 31, 2018. Portugal also has not implemented the EU Anti-Tax Avoidance Directive (ATAD 2) (2017/952) of May 29, 2017, which contains additional anti-hybrid rules involving mismatches with non-EU member states.
CFC Proposals (BEPS Action 3)
On February 14, 1995, Portugal introduced its CFC rules, which are in Article 66 of the Corporate Income Tax Code (CITC). Under Portugal’s CFC regime, corporate profits (whether or not distributed) of a nonresident company that is subject to a more favorable tax regime may be attributed to Portuguese-resident corporate shareholders having a substantial interest in the nonresident. Such shareholders will be taxed on their proportionate share of their holdings in the nonresident company. The CFC rules also may apply to individual resident shareholders.
According to Decree No. 289/XIII, Article 66 of the CITC aligns with Article 7 of ATAD 1 regarding CFCs. However, Decree No. 289/XIII amends the CFC rules, so that an entity will be deemed to be subject to a preferential tax regime where the jurisdiction appears in the list approved by an ordinance; or where the tax it pays on profits is less than 50% of the tax that would be due in Portugal.
According to Article 7 of ATAD 1, the taxpayer’s EU member state must treat an entity or permanent establishment (PE), whose profits are not subject to tax or are exempt from tax in that member state, as a CFC where the following conditions are met:
- In the case of an entity, the taxpayer by itself, or together with its associated enterprises, holds a direct or indirect participation of more than 50 percent of the voting rights, or owns directly or indirectly more than 50 percent of capital, or is entitled to receive more than 50 percent of the profits of that entity.
- The actual corporate tax paid by the entity or PE on its profits is lower than the difference between the corporate tax that would have been charged under the applicable corporate tax system in the taxpayer’s member state and the actual corporate tax paid.
Interest Expense Limitation Proposals (BEPS Action 4)
Specific limitations (Article 67 of the CITC) apply to the tax deductibility of interest expense, based on amendments in Portugal’s 2013 Budget that repealed the thin cap rules (2:1 debt-to-equity ratio). As a result, companies may now only deduct net financing expenses up to the higher of the following limits:
- €1 million.
- 30% of the earnings before depreciation, amortization, taxes, and net financing expenses (EBITDA).
Decree No. 289/XIII includes amendments to the CITC regarding the limitation on deductibility of financing expenses. The amendments adjust only the definition of “net financing expenses” since, according to the legislation, current Article 67 of the CITC appears to align with Article 4 of ATAD 1, in that net finance expenditure can be deducted up to the higher of either €1 million or 30% of EBITDA.
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