Uruguay proposes to amend how foreign passive income without substance is taxed

September 2022

In brief

Uruguay's Ministry of Economy and Finance initiated, on July 28, a public consultation on a draft bill that will be submitted to Congress. The draft bill includes measures to comply with certain commitments agreed with the European Union (EU) in 2021. In particular, Uruguay committed to amend its corporate income tax (CIT) rules to address certain aspects identified by the EU Code of Conduct Group as potentially tax harmful.

The draft bill proposes to impose CIT on certain items of passive income received by Uruguayan Entities or Uruguayan PEs of nonresident members of multinational groups (MNGs) from assets exploited outside Uruguay. The draft bill exempts from the proposed taxation taxpayers that comply with certain substance requirements. 

The public consultation period ended on August 15, and the bill should be sent to the Uruguayan Congress in September. Any changes, if approved, are expected to become effective for years beginning as of January 1, 2023. 

Observation: Since the draft bill is part of Uruguay’s response to the commitments assumed with the EU Code of Conduct Group, it appears likely to be enacted during 2022, even if it is subject to adjustments through the legislative process. 

Action item: Taxpayers should monitor the legislative process and evaluate how the draft bill, if enacted, could impact their investments held outside of Uruguay. Taxpayers also should evaluate their substance in the country in light of the proposed rules.

The draft bill proposes changes to the Uruguayan CIT related to passive income received by member entities of MNGs outside of Uruguay, some of which are outlined below.

Broadening the definition of Uruguayan-sourced income

Under the draft bill, certain items of passive income generated abroad of CIT taxpayers that are part of MNGs are treated as Uruguayan-sourced (unless certain substance requirements are met). If the draft bill is enacted, the following items will become subject to CIT:

  1. Income derived from intellectual property related to patents and registered software
    transferred or economically used outside Uruguay by an entity of a MNG, as long as it is not qualified income, as explained below.
  2. Certain income derived from real estate, dividends, interests, royalties (not included in (1) above), other income from movable property, and capital gains from the transfer of assets generating such income, obtained outside Uruguay by a non-qualified entity of a MNG, as explained below. Income derived from the exploitation or transfer of trademarks would be deemed Uruguayan-source income in all cases.

Qualified income and entities

Qualified income is defined as the amount resulting from multiplying the income derived from the exploitation of intellectual property rights related to patents or registered software by the following nexus ratio: 

  1. Numerator: Direct expenses and costs incurred to develop each asset, increased by 30%. This only includes direct expenses and costs incurred by the developer and services with non-related parties or with resident related parties.
  2. Denominator: Total expenses and costs incurred to develop each asset, including the expenses and costs indicated in a) above without the 30% increase. The denominator also considers expenses and costs for the right of use or the acquisition of intellectual property rights, and services with nonresident related parties.

Expenses and costs accrued until the registration of the resulting asset should be considered. 

Taxpayers must submit an annual affidavit to the Uruguayan tax authority detailing the components used to determine the nexus ratio.

A qualified entity is an entity that has adequate economic substance during the fiscal year, as defined by the draft bill.

In this regard, an entity is considered to have appropriate economic substance if it simultaneously meets the following conditions with respect to each asset generating qualified income:

(1)It employs human resources whose number, qualification and remuneration are consistent with those required to manage investment assets, and has appropriate facilities for the development of the relevant activity in Uruguay; (2) It makes the necessary strategic decisions and bears the risks in Uruguay; and (3) It incurs appropriate expenses and costs in relation to the acquisition, possession, or disposal of such assets, as the case may be.

Requirements referred to as (1) and (2) above will be considered as met when the activity is carried out by contracted third parties in Uruguay to the extent that the Uruguayan taxpayer appropriately supervises the functions conducted by the third party. Requirements (2) and (3) will not apply to entities whose main purpose is holding equity interests in other entities or real estate. 

The Executive Branch will issue guidance regarding the conditions under which these requirements will apply, including indicators or parameters of compliance.

Other relevant definitions

The draft bill states that an entity will be part of a MNG when one of the following conditions is met:

  1. It is included in the consolidated financial statements of the group in accordance with the accounting principles generally applied in the jurisdiction of the group's ultimate controlling entity, or should be included therein if the equity interests of that entity are traded on a public stock market; and/or
  2. Despite meeting the requirements of the preceding paragraph, a), it is excluded from the group's consolidated financial statements because of its size or materiality.

The draft bill defines an ultimate controlling entity of a MNG as an entity that directly or indirectly has sufficient participation in another entity that is part of the MNG so that it is obliged to prepare consolidated financial statements in accordance with the accounting principles generally applied in the jurisdiction of its fiscal residence, or if such obligation is imposed because its equity participation is traded in a public stock market in its jurisdiction of fiscal residence.

Anti-abuse clause

The draft bill also proposes a specific anti-abuse clause, pursuant to which the Uruguayan tax authority may disregard the form, mechanism, or series of mechanisms that, having been implemented with the main purpose, or one of the main purposes, of obtaining a tax advantage that detracts from the objectives of the new income source rules, are considered inappropriate based on the transactions facts and circumstances

These forms and mechanisms may be considered individually or jointly, and they will be considered inappropriate when there are no valid commercial reasons that reflect the economic reality for their adoption or implementation.

In such cases, the income or entity may be reclassified as nonqualified, and the tax liability will be determined in accordance with the CIT provisions.

Contact us

Maria Bel

Director and International Tax Services, PwC US

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