US Senate approves the Double Taxation Agreement between the US and Chile

STATEMENT/TAX ALERT from EY
June 2023

(Please notet that this is a machine translation)

On June 22, the US Senate, by a large majority and after 13 years of processing, finally approved the ratification of the Agreement to Avoid Double Taxation signed with Chile in 2010.

With 95 votes in favor and only 2 against, the Convention would already be able to become law in the United States.

Given that the US Senate Foreign Relations Committee (SFRC) this year introduced a reservation to Article 23 of the Convention (Elimination of double taxation), it must in turn be ratified by the Senate. Chilean Parliament in accordance with the procedure established in the Constitution and the Organic Law of Congress.

Considering that the modifications that the Congress in Chile must review are pertinent only to the internal tax legislation of the United States, the process in the Chilean parliament should not face major obstacles so that the Convention is ratified by both countries within this year and may enter into full force in 2024.

Main Provisions of the Agreement

Below are some significant provisions of the Agreement from the Chilean perspective:

* Withholding tax reduction applicable to interest payments from Chile (general local rate 35%). General reduced rate would be 10% (15% during the first 5 years of validity of the Agreement).

With respect to certain creditors, the rate would be 4% (banks, insurance companies, interests associated with the sale of machinery on credit, entities with financial company characteristics to the extent that there is no relationship with the debtor of the interest). Back to back structures involving these creditors could benefit from a reduced 10% withholding rate.

* Withholding tax reduction applicable to royalty payments from Chile (general local rate 30%)

The general reduced rate would be 10%, which could decrease to 2% in the case of payment for the use, or the right to use, of industrial, commercial or scientific equipment.

* Reduction of capital gains tax in certain cases (general local rate of 35%).

Reduced rate of 16% to the extent that the transferor of the shares has not owned (directly or indirectly) 50% or more of the capital in a Chilean SA within the 12 months prior to the transfer; or to the extent that the alienator of other rights (other than shares) has not owned (directly or indirectly) 20% or more of the capital in the Chilean entity (other than an SA).

Sale by pension fund would not pay tax in Chile. Sale by a mutual fund or institutional investor would not pay tax in Chile to the extent that there is a stock market in person and the sale is on the stock market.

Sale by a US resident would not pay tax to the extent that certain requirements are met in line with those included in the old article 18 TER of the Income Law.

The literal wording of Article 13 of the Agreement should prevent the application of the Chilean tax to indirect transfers (under interpretation of a recent ruling by the Court of Appeals).

* Elimination of the withholding tax on the payment of services, if certain conditions are met and said business activity is not carried out through a permanent establishment in the country.

* Agreement does not reduce withholding tax rate on dividends paid from Chile to the US ("Chile clause" within the protocol). General local rate 35%.

Eventual increase in the dividend withholding rate (above 35%) or limitation of the crediting of First Category Tax against dividend withholding tax, would make Article 10 applicable to Chile (protocol).

Additional considerations:

* Definition of permanent establishment, which would be generated in certain objective circumstances (eg): (i) a facility used for land exploration of natural resources for more than three months; (ii) a construction site or installation project if the duration of the activity exceeds six months; (iii) the provision of services for a period that exceeds 183 days, within any twelve-month period, to the extent that such services are provided through one or more natural persons who are present in Chile.

* Existence of a Limitation of Benefits Clause, which includes the concept of "headquarters of effective management and control." Agreement benefits are limited to qualified persons only (eg individuals, publicly traded companies, companies 50% owned by a publicly traded company, educational-religious-charitable entities, pension funds, and companies that actively carry out a trade or business and its income is obtained in connection with such trade or business).

* Regulation of exchange of information regarding liquidation-collection of taxes (includes testimony of witnesses).

* Rules that classify income from interest and royalties as income originating in the country of residence of the payer or, alternatively, if the payer has a permanent establishment in respect of which the legal responsibility for payment has been generated, income that would be understood as originating in the location of the EP.

* A proof of place of use for royalty income where the payer's residence and PE rules above do not apply.

* Facilitate and remove some uncertainties about foreign tax credit systems for taxes paid.

* From the transfer pricing perspective, the Agreement entails the following prerogatives:

Allow to request a Mutual Agreement Procedure (MAP) if a taxpayer is subject to a taxation inconsistent with the tax treaty (for example, double taxation) on the adjustments derived from transfer prices.

Enable the signing of Advance Pricing Agreements (APAs) between both jurisdictions (ie bilateral APAs).

If the Agreement is ratified, the withholding provisions relating to withholding taxes would become effective on the first day of the month following the effective date of the Agreement for amounts paid or accrued since then.

For all other taxes, the provisions would be effective for tax periods beginning on or after January 1 of the calendar year on the date of entry into force of the Agreement.