Dividends, permanent establishments and double taxation

The tax reform incorporated in law 1819 of 2016 introduced the much talked about dividend tax regime. By virtue of this, dividends declared for profits generated as of 2017 will be taxed for resident individuals at rates of 0%, 5% and 10% depending on the amount received. Likewise, for non-resident individuals and for legal entities and foreign entities and their permanent establishments, the tax will be levied at the rate of 5%. Dividends received by domestic companies were then expressly excluded from such tax, while, for lack of express regulation, dividends received by permanent establishments of non-resident individuals and by non-corporate legal entities resident in the country (foundations, corporations, etc.) were also excluded. The purpose of this column is to analyze how the taxation of dividends received by permanent establishments of non-resident legal entities necessarily leads to a situation of double taxation, which evidently transgresses the principles of equity, justice and non-discrimination established in our Political Constitution and in the international treaties that make up the block of constitutionality.

The concept of permanent establishment, which has existed for many years in the international tax environment, was introduced to our legislation through Article 87 of Law 1607 of 2012. Permanent establishments are defined as a fixed place of business located in the country, through which a foreign company develops all or part of its activity. This definition broadly reflects, although with some changes, the definition of permanent establishment established in article 5 of the OECD model convention to avoid double taxation, within which are established, as the clearest examples of permanent establishments, the branches of foreign companies, being also considered as such offices, factories, administration sites, buildings, mines, among others. This figure is a creation exclusively for tax purposes, since it is in the interest of the State of the source to be able to tax the income generated within the country by this type of legal figures or fictions.

Now, the same tax reform of 2012 introduced, as an addition to the definition of dividend, the transfer of profits corresponding to income and occasional gains of national source obtained through permanent establishments or branches in Colombia in favor of companies related abroad. This new concept of dividend remained unchanged in last year's tax reform.

On the other hand, the Superintendence of Corporations has always sustained the thesis that only natural or juridical persons that enjoy legal personality can be shareholders or partners in a company (see Official Notices 220-025464 of March 13, 2008, 220-60767 of December 7, 1995, and 220-50335). In this sense, it is clear that -under this doctrine- branches of foreign companies cannot be shareholders (since they are a simple extension of a foreign legal entity) or other permanent establishments, but always the parent company or the owner of the permanent establishment. Up to this point, it could be said that the rule imposing a tax levy on dividends received by permanent establishments is inapplicable, since only those who are shareholders or partners could receive dividends (and they cannot be shareholders or partners). However, this, under the understanding that a dividend is "any distribution of profits, in cash or in kind, charged to equity that is made to partners, shareholders, co-owners, associates or subscribers or similar" could also be considered as a dividend the amounts coming from profits that are paid, by virtue of any contract or agreement, to those who do not have the status of shareholder. This position was expressly endorsed by the Council of State in judgment number 18788 of September 10, 2014 (plaintiff: Frigorífico San Martín de Porres), where it was established that a pledgee, to whom the debtor-partner had assigned the economic rights of its shares of corporate interest, was entitled to receive - as dividends - the income that the partner would receive from the distribution of the profits of the aforementioned company.

In this sense, if a branch of a foreign company (permanent establishment), enters into an agreement (usufruct, antichresis, pledge with assignment of economic rights or any other) with the shareholder or partner of a Colombian company according to which such permanent establishment is to receive the dividends belonging to the former, and then transfer them to its parent company, such operation would be subject to a double taxation on the dividends; A 5% tax on the dividend paid to a permanent establishment (branch of a foreign company) and another tax on the dividend, also at 5%, for the remittance of the income from a branch to its parent company. Thus, the rule that at first sight was inapplicable, turns out not only to be applicable but also to generate a double taxation by taxing twice the same income; the dividend received by the permanent establishment and its remittance to the parent company.