Taxation on Real Estate in Portugal 2003

INTRODUCTION

Proposed legislation affecting real estate in Portugal owned by companies established or resident outside Portugal.

The majority of residential real estate in Portugal is registered in the name of the beneficial owners. It had also become common, however, for real estate to be owned by companies established in so-called tax havens. The advantages of this have included:

• Avoidance of real estate transfer tax (“sisa”) upon sale of the property
• Avoidance of Portuguese tax on capital gains arising on sale
• Avoidance of Portuguese gift or inheritance taxes
• Confidentiality of ownership

Changes introduced in 2002 have eroded these advantages and further changes have called into question the advantages of corporate ownership.

2002 LEGISLATION IN PORTUGAL

The annual property tax on real estate owned by a company established or tax resident in a listed tax haven is levied, from 2003, at 2 percent of the registered value. This is approximately double the amount of tax payable by an individual owner. While the cost may not be significant, in the case of properties with low valuations, this is not always the case and there is now a greater likelihood of such valuations being revised upwards.

Properties owned by tax haven companies are deemed, from 2002, to give rise to a rental income of one-fifteenth of the registered value. While this income may be reduced by repair and maintenance expenses, as well as the annual property tax, there may still be a liability and there will be, in any case, a certain cost of compliance.

UK AND IRISH TAX IMPLICATIONS

A court case, decided in the UK in 2002, has meant that UK and Irish residents may be exposed to an increased personal tax liability, relating to real estate they own through a company. This results from their being considered to be directors of such companies (even when they are not registered as such). In this capacity, they are regarded as having unrestricted use of the property and may be taxed on a Benefit in Kind, equal to the annual market rental value of the property. Needless to say, this may be a substantial cost. This is the area covered in my talk at the Pinheiros Golf Club on 3 April 2002.

2003 LEGISLATION IN PORTUGAL

There has been a further avalanche of legislation in Portugal in 2003. Some is already in place, some will have effect in 2004 and some is still at the stage of a proposal. The main issues are as follows:

• The existing annual property and property transfer taxes are to be abolished and replaced by others with similar effect.
• Annual property tax rates and transfer tax rates will be reduced by about 40%.
• Registered valuations will be systematically updated, to compensate for the reduced tax rates.
• Annual tax rates on offshore companies will increase from 2 percent to 6 percent of the registered value of real estate.
• Transfer tax rates on property acquired by an offshore company will increase to 15 percent.
• There is a proposal to abolish gift and inheritance taxes and to impose a stamp tax, at 10 percent, on gifts and inheritances. Transfers in favour of a spouse or a direct ascendant or descendant are excluded.

ISSUES ARISING

It will be seen that the continued ownership of real estate through an offshore company may bring about exposure to significantly increased tax costs. This arises from the increased tax rates in Portugal, as well as the likelihood of progressively increasing valuations. Tax residents of UK and Ireland may have additional tax considerations, as indicated above.

The combination of issues could potentially have a negative impact on the market values of real estate owned in an offshore company. On the other hand, the removal of a property from such ownership may result in significant tax costs, including property transfer taxes and taxes on capital gains arising to the company or its owners.

POTENTIAL SOLUTIONS

There is no single solution which applies in all cases. I have been working with PricewaterhouseCoopers on our joint clients to mitigate the effects of this legislation. We have recommended , in some cases, re-domiciliation of the offshore company from its existing tax haven to a country which is not on the Portuguese list of tax haven countries. In other cases where re-domiciliation is not possible, for example, with Isle of Man companies, we have been exploring the gift tax route.

If you are worried about any of these issues, please telephone Gary Axe on +44 (0)1245 266831 or email Gary@spencerfellows.co.uk