Colombia: New tax rules on private equity distributions

Author: | Published: 24 Feb 2014
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Brigard Urrutia

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Carlos Fradique-Mendez Luis Gabriel Morcillo
During 2013, the Colombian Government enacted several regulations simplifying private equity and venture capital (PE/VC) funds' legal framework, providing legal stability and confidence to local and foreign investors (including foreign funds). As of June 2013, local funds may be structured with different participation units reflecting variable fees, preferred returns, or investor types, and which should be now placed in the custody of independent trust companies, following international trends on the protection of funds' interests. A significant reform was the introduction of a new category of investment funds focused on real estate assets, which should now be managed through a regulated management structure that permits large numbers of real estate properties to be exploited through these types of funds. At the same time, one concern remains relating to the issuance of Decree 1848 of 2013, which modified tax withholding rules on the distribution of PE/VC funds.

However, the Colombian private equity industry relies on some structured competitive advantages that attract foreign investment, such as treating carried interest as a capital gain and not as ordinary income commonly subject to a tax rate of 10%, or that the fund itself is not subject to income tax (the transparency principle). Decree 1848 introduced a specific methodology that must be applied by the local fund's administrator when determining the portion of the corresponding distribution that is subject to withholding tax.

Under these new rules, distributions to investors, which are taxed at the time of effective distribution as direct gains, depending on whether the investors are Colombian or offshore residents, and particularly depending on the taxes being paid by each of the underlying assets of the fund, must be now paid by the local fund's administrator by computing first any distributions against the total amount of actual profits of the fund. This portion is subject to withholding tax. Only if there are no profits left in the fund can the distribution be characterised as a capital reimbursement not subject to withholding tax under the normal waterfall provision of PE/VC funds. The Colombian Government is exploring alternatives to modify Decree 1848 in order to exempt PE/VC funds from this methodology, which is better suited to pooled investment schemes. However, local key players and fund managers, including the Colombian private equity association – Colcapital – are centering efforts on discussing the tax withholding regime.

Carlos Fradique-Méndez and Luis Gabriel Morcillo