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Portugal

9 November 2005

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Budget Bill for 2006 details including changes relating to EU law

The government Budget Bill for 2006 was presented to the parliament on 17 October 2005. The Bill includes a number of tax amendments that will generally apply from 1 January 2006.

The tax policy measures included in the Budget proposal for 2006 deal mainly with (i) the fight against tax fraud and evasion, (ii) improving access to bank information for tax purposes, (iii) introducing an environmental dimension to excise duty on vehicles, (iv) reinforcing tax administration efficiency and (v) creating disincentives for the delocalization of companies. The most significant amendments affecting corporate and individual taxation are summarized below.

Corporate income tax (IRC)

(a) Deductible expenses. Expenses relating to documents (e.g. invoices) issued by taxpayers whose activities are declared to have ceased ex officio will not qualify as deductible expenses or losses.

(b) Thin capitalization. It is proposed that the thin capitalization rules should not apply to EU resident entities, so as to comply with the decision of the European Court of Justice (ECJ) in the Lankhorst-Hohorst case (C-324/00, see TNS-19 (2003)).

(c) Transfer pricing related-party test. The related-party test for transfer pricing purposes will be extended, so as to apply to transactions between a non-resident entity with a permanent establishment in Portugal and an entity that is a resident of a listed tax haven.

(d) Emigration of companies. In order to close an existing loophole in the legislation, it is proposed that when a Portuguese company transfers its residence abroad, a capital gain equal to the difference between the market value of the assets and their net book value will be deemed to arise, unless the assets remain in Portugal as part of the property of a Portuguese permanent establishment. The same treatment will apply if a permanent establishment ceases its activities in Portugal or transfers its Portuguese-situs assets abroad.

(e) Losses of permanent establishments. Currently, losses incurred by a Portuguese permanent establishment of a foreign company are, in principle, deductible and may be carried forward under the same conditions as for resident companies. It is proposed that, on a request made to the tax authorities, losses relating to taxable periods prior to the cessation of activities (for reasons of emigration) will also be deductible at the level of the permanent establishment, provided that the losses relate to assets connected to the permanent establishment.

The Budget proposals provide for the implementation of Council Directive 2005/19/EC of 17 February 2005, amending Directive 90/434/EEC on the common taxation system of cross-border mergers and divisions of companies, transfers of assets and exchanges of shares (the EC Merger Directive

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