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12 November 2006

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Budget Bill for 2007 – corporate income tax: details

The government Budget Bill for 2007 was presented to parliament on 16 October 2006. The Bill includes a number of tax amendments to corporate income tax (IRC), which will generally apply from 1 January 2007. The most significant amendments in the Bill are summarized below.

(a) Outbound dividends under the EU Directive. The minimum holding required to qualify for exemption from withholding tax on outbound dividends paid by Portuguese subsidiaries, either to their EU parent or to an EU-based permanent establishment of another EU head office, will be reduced to 15% (from 20%), provided that the parent and subsidiary concerned comply with the conditions set out in the Parent-Subsidiary Directive requirement remains applicable.

Following the agreement between the European Union and Switzerland and Circular 6/2006, the Budget Bill includes in the law an exemption from withholding tax on outbound dividends paid by Portuguese subsidiaries to their Swiss parent companies, subject to the following conditions:

-   the parent company has a minimum direct holding of 25% of the capital of such a subsidiary for at least 2 years;
-   under any tax treaty with a third state, neither company is resident in that third state; and
-   both companies are subject to corporation tax without being exempt and both adopt the form of a limited company.

(b) Participation exemption. The participation exemption regime no longer will apply to amounts attributed to shareholders in result of the amortization of companies' shares without a capital reduction.

The anti-abuse clause included in Art. 46(10) of the Corporate Income Tax Code, which was introduced in 2005, will be revoked. Under Art. 46(10), the participation exemption does not apply if it is proved that the purpose of the legal structure used is the reduction, elimination or deferral of tax that would otherwise be due. This is deemed to occur when the dividends received by the parent company were not effectively taxed or were paid out of income that would not qualify for the relief from economic double taxation.

Under the proposed amendments, the anti-abuse rule is replaced by a provision stating that income not subject to an effective taxation only benefits from a 50% exemption. However, a full exemption is still available in cases of dividends received by a holding company (the so-called SGPS). The Budget Bill does not however provide any indication of what is meant by effective taxation.

(c) Group taxation. The reference that the election for group taxation is valid for 5 years is eliminated. The Budget Bill also provides for an electronic notification and new deadlines for election for group taxation, as well as for any changes to the group composition. The proposed amendments also cover the effects when the regime ceases to apply.
(d) Companies in liquidation procedure. The maximum liquidation period treated as a single tax period for the purposes of determining the taxable profit of a company in liquidation will be reduced from 3 years to 2 years. A company undergoing liquidation will also be allowed to deduct any outstanding losses from the profits of the preceding 5 years, as long as the liquidation procedure does not exceed 2 years.

(e) Exemption from withholding tax for financial institutions. The exemption of withholding tax applicable to interest and other capital income derived by financial institutions, which are subject to corporate income tax on such income, will no longer include dividends.

(f) Specific provisions of companies engaged in the banking and insurance sector. The Budget Bill adds a new Art. 35-A, which provides that the annual amount of provisions for credit risk and country risk may not exceed the minimum amounts established by the respective supervisory bodies.

(g) Adjusted Accounting Standards. The Budget Bill provides for a set of transitional adjustments for the purposes of determining the taxable profits of entities subject to the supervision of the Bank of Portugal, which are required to submit their individual accounts in accordance with the Adjusted Accounting Standards (NCA). This transitional regime is applicable as of 1 January 2006.

(h) Merger Directive. Following Council Directive 2005/19/EC of 17 February 2005 amending the Merger Directive, the Budget Bill amends Arts. 67, 68, 69, 70 and 76-A. The main amendments are as follows:

-   the definition of partial division is amended to include that at least one branch of activity should be left in the transferring company when transferring one or more branches of activity to one or more existing or new companies;
-   the definition of branch of activity will no longer include the transfer of certain participations;
-   the definition of exchange of shares is also modified to extend its application to those cases where a company holding a majority of the voting rights of a company acquires a further holding, and not only where a company acquires a holding in the capital of another company such that it obtains a majority of the voting rights in that company; and
-   as far as shareholders of the dividing company are concerned, the value for tax purposes is to be allocated in proportion to the value of the assets transferred or maintained by the remaining dividing company.

(i) Incentive for renewal of road transport vehicles. Capital gains derived from the sale of road transport vehicles above 12 tonnes acquired before 1 October 2006 and used for transport of goods will be taxed at a 20% tax rate provided the proceeds are reinvested in identical vehicles. This incentive will be available until 31 December 2008.

(j) Authorized amendments. The Bill foresees, inter alia, that the government should submit a bill providing the alignment of the current rules to determine the taxable profit with the IAS/IFRS. The government is also authorized to replace the simplified scheme of taxation with simplified rules to determine the taxable profit based on the standard organized accounts.

(l) Other changes. Decree-Law 35/2005, which implemented Directive 2003/51/EC of 18 June 2003, requires companies, opting to draw up their consolidated accounts in accordance with the IAS, to prepare parallel accounting records according to the national accounting rules. The Budget Bill excludes from this requirement entities subject to the supervision of the Bank of Portugal, which are required to submit their individual accounts in accordance with the NCA.

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