September 17, 2018 Peru amends income tax law to add new thin capitalization rules and indirect foreign tax credit The income tax law changes broaden the application of the interest deduction limitation to unrelated parties and allow interest that is not deducted to be carried forward for four years. Additionally, Peru has established a new indirect foreign tax credit, allowing companies to claim the foreign tax credit for income tax paid by first and second tier nonresident entities. On September 13, 2018, Peru's president enacted Legislative Decree 1424, which amends the income tax law with regard to the thin capitalization rules, the indirect transfer of shares, the definition of permanent establishment (PE) and the indirect foreign tax credit. Thin capitalization rules The new thin capitalization rules extend the limit on interest deductibility (3:1 debt/equity ratio) to unrelated parties. Previously, this limitation only applied to interest paid to related parties. However, beginning January 1, 2021, a new set of thin capitalization rules will come into play. Under these rules, the interest that exceeds 30% of earnings before interest, taxes, depreciation and amortization (EBITDA) of the preceding year will not be deductible. Interest that is not deducted may be carried forward for up to four years, but will always be subject to the 30% of EBITDA limitation. Indirect transfer of shares The Decree establishes that an indirect transfer of Peruvian shares will always be triggered if the amount paid for the shares of a non-resident entity that corresponds to the Peruvian shares is equivalent to or higher than 40,000 Tax Units (approximately USD 50.3 million). Likewise, it is established that, for purposes of the indirect transfer rules, the fair market value of the shares will be determined according to a procedure to be set out in regulations, using the discount cash flow method or the net worth value based on audited balances. Definition of PE A PE of a nonresident entity exists in Peru in the following cases: a) Fixed place of business where the non-resident entity performs its activities, totally or partially (e.g., place of management, branches, agencies, offices, factories, workshops, warehouses, mines, oil and gas wells, quarries or any other place relating to the exploration or exploitation of natural resources) b) A building site or construction or installation project, as well as the supervisory activities related to them, for more than 183 days within any 12-month period c) The furnishing of services, when rendered in Peruvian territory for the same project or related projects, for a period or periods aggregating more than 183 days within any 12-month period d) When a person acts in Peru on behalf of a nonresident entity and has and habitually exercises an authority to: (i) enter into contracts on behalf of the nonresident entity; (ii) transfer property or the use of goods/assets owned by the nonresident entity; or (iii) enter into contracts for the rendering of services by the nonresident entity Indirect foreign tax credit The Decree establishes an indirect credit for foreign tax credit purposes. Previously, Peru only allowed the direct tax credit. With the new rules, a Peruvian entity receiving foreign income as dividends or profits from nonresident entities will be able to deduct:
To qualify for the indirect foreign tax credit, the Peruvian entity must directly own at least 10% of the shares of the nonresident entity for 12 months before the date in which the dividends are paid. The indirect foreign tax credit may be claimed for the income tax paid by the second-tier nonresident entity, provided the following conditions are met: (i) the Peruvian entity indirectly owns at least 10% of the shares of the nonresident entity for 12 months before the date in which the dividends are paid; and (ii) the second-tier nonresident entity is a resident of a country that has an exchange of information agreement with Peru or is a resident of the same country of residence as the first-tier nonresident entity. The provisions will be effective January 1, 2019. ———————————————
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