The phenomenon of double taxation of PEs, a mistake to be corrected

The 2012 Tax Reform (Law 1607 of 2012) incorporated the concept of Permanent Establishment (PE), as a consequence of the country's need to harmonize the local taxation rules with the International Tax Law, the subscription of double taxation agreements (DTA) and the aspiration to be a member of the OECD.

As provided in Article 20 of the Tax Statute ("ET"), the addition of Articles 20-1 and 20-2 of the ET, allude to the obligation of non-resident taxpayers (entity or individual) to be taxed on their income and occasional gains of national source received through a permanent establishment in the country determined according to the criterion of functions, assets, risks and personnel involved in obtaining the same.

By taxing exclusively local wealth and income, PEs in Colombia started to be tax planning instruments since they could carry out activities in other countries (foreign income), without having any effect in Colombia.  That is why with the entry into force of Law 1943 of 2018, article 58, the Government sought to assimilate in the form of taxation to PEs with tax residents and therefore established that they should be taxed on income and occasional gain of national and foreign source that are attributable to them. However, this regulation was not harmonized with the rest of the tax system, reason for which interpretations are being generated in order to give logical sense to some provisions, a situation that could have been avoided (and today could be avoided if the bill that proposes to "replace" the Financing Law is corrected) with a better legislative technique.

This disconnection between the taxation of worldwide source income for PEs and the other rules of the ET is evidenced when Article 254 of the ET allows residents and domestic entities to deduct from income tax, the taxes paid abroad when they are associated to foreign source income.  However, a PE does not qualify neither as a resident nor as a national entity, therefore this figure would be generating an international double taxation (when it obtains foreign income taxed in the country of origin and in Colombia) because of these domestic rules.

But the disharmony does not stop there; Article 30 of the ET establishes that transfers of profits of a PE with respect to income or occasional gains of national source will be considered dividends, i.e., the profits obtained by the PE attributable to foreign income cannot be considered as dividends even though they are already subject to taxation in the country.

The above may have sought to be solved through Decree 1973 of October 2019, when the Government regulated, among others, Article 58 of the Financing Law, and stated that: (i) to PEs the rules of corporations shall apply unless otherwise provided; (ii) the income and profits attributable to the permanent establishment are those that it could obtain if it were a separate and independent company; iii) for the attribution of assets, liabilities, income, capital, costs and expenses attributable to the PE, the study referred to in Article 20-2 of the ET must continue to be carried out; and iv) the profits attributed to the PE will be subject to the rules of Articles 48 and 49 of the ET (even though the definition of dividends with respect to foreign income received by the PE has not been modified).

Likewise, in the liquidation of the presumptive income, both the assets owned in Colombia and those abroad must be included, since article 5 of Decree 1973 of 2019 indicates that the assets of individuals without residence in Colombia and foreign companies and entities will correspond to those attributed to the PE in application of article 20-2 of the ET and article 58 of Law 1943 of 2019.

We hope that the bill will be used to adjust, via law (and not via decree), the errors set forth in the rules that have been analyzed in this column.