A landmark ruling by the European Court of Justice is set to bolster Portugal's position as an investment destination for non-resident UCIs. A recent webinar hosted by TMF Group considered the implications of the case, and the options for structuring investment opportunities in the country.
Portugal is changing fast. In recent years, the government has focused on modernising and stabilising the economy, increasing its international competitiveness, and making it easier for foreign companies to invest and do business. Progressive policies include cuts to the Corporate Income Tax (CIT) rate, legislative reform and financial and tax incentives for R&D activities and investment projects, to fuel innovation and job creation.
As the country develops, it's becoming a more suitable jurisdiction for the funds industry, especially when it comes to real estate investments. Thanks to the legal, tax and financial incentives in force, the market is raising awareness and interest in regulated entities, leading to a diversification of stakeholders – both at the investor level and in terms of type of investment structure. Luxembourg, as the main funds hub in the European Union (EU), has been a key jurisdiction for a significant part of recent investments.
In a further boost, in March this year the European Court of Justice (ECJ) issued a favourable ruling in relation to withholding tax (WHT) imposed on Portuguese-sourced dividends paid to a German UCITS. The decision, made in the AllianzGI-Fonds AEVN case (C-545/19), is set to become a major turning point for investment funds facing WHT leakage and creates an opportunity for WHT refunds across the EU.
TMF Group recently partnered with leading legal services provider Vieira de Almeida (VdA) to deliver a webinar exploring the new opportunities on offer for the alternative fund market, investment management set-up, and WHT recovery.
Luxembourg: providing a stable base
The logical starting point to explore these new opportunities is understanding Luxembourg's role in the equation, and how fund promoters in Portugal are leveraging the jurisdiction's key strengths.
With Jersey and Guernsey no longer in the EU, Luxembourg has cemented its status as the premier funds hub in Europe. The country is Triple-A rated and features stable political and tax environments. Importantly, it has acquired a huge base of knowledge, experience and infrastructure gained through the EU UCITS directive (1988).
"Luxembourg is the leading back-office country of Europe," explained Anja Grenner, Head of Sales – Funds, TMF Luxembourg. "It has, for example, 265 Alternative Investment Fund Managers (AIFMs), 141 central administrators, and 57 depositaries."
"It also has a multitude of different legal structures available that can be used to structure an investment fund. While the Anglo-Saxon world uses partnerships, the French use companies, and Germans would typically use unit trusts, Luxembourg offers it all. Regulators all over the world are used to Luxembourg structures, and so as soon as a company decides to raise funds and attract investors in an EU country such as Portugal, then Luxembourg is normally the country to be used."
Luxembourg offers a classic partnership structure, with a general partner appointing the AIFM, who can sit in Luxembourg or elsewhere in the EU and who manages the fund. Below the fund is a Luxembourg acquisition company and a local Portuguese SPV that focuses on the target investments in the Portuguese market. There is also a more complex parallel fund structure, whereby a local Portuguese fund is set up for Portuguese investors whilst a Luxembourg fund is established for international investors. They work in parallel, managed by a management company in either Portugal or Luxembourg.
One important aspect to consider regarding fund structures is tax substance. There is a growing convergence between the Alternative Investment Fund Managers Directive (AIFMD), which provides for minimum substance criteria and a minimum level of activity, and global tax trends, such as the OECD's Base Erosion and Profit Shifting (BEPS) initiative. EU Directive ATAD 3 is also on the horizon, which will propose new minimum substance rules that will need applying by January 2024.
"This basically means that in Luxembourg you would need substance with local domiciliation, managers and administration, and in Portugal the same; substance with directors, domiciliation and administration," added Grenner. "You must take this into careful consideration and make sure you cater for sufficient substance. It's a point of caution, as you need enough assets under management to make your structure efficient and worthwhile."
Portugal: a golden age for investment funds
"The growing interest in Portugal as an investment jurisdiction has been prompted by favourable macroeconomic trends, such as the rise of tourism in the aftermath of the Arab Spring," said Mariana Verissimo, Country Leader, TMF Portugal. "But there's also been a significant number of business-friendly government measures, most notably the Golden Visa."
Created in 2012, the Golden Visa programme is designed to boost foreign investment to benefit the Portuguese economy. It enables non-EU citizens to qualify for a residency permit, and ultimately a passport, through investments.
There are a number of investments that someone can choose to make to qualify for a Portuguese Golden Visa, including a capital transfer of a minimum of €1.5 million. One may also choose to invest in a VC-style fund, known as fundos de capital de risco, that has a minimum €500,000 subscription.
This is helping to drive a more sophisticated choice of fund structure in the country. "There are now two main templates for the structuring of collective investment vehicles," said Carlos Couto, Senior Associate, VdA Portugal. "There is the more traditional route of a contractual structure for the fund with a management company, or you can go with a collective investment company, which can either be self-managed or have an external management company."
"The traditional structure still represents the majority of the local funds, but collective investment companies, which have existed in Portugal since 2010, are now becoming more popular. This sees the conversion of existing real estate commercial companies into collective investment companies that can benefit from the tax regime."
Collective investment companies can be self-managed, in which case the directors will carry out the role traditionally ascribed to a management company. Or they can be externally managed, with one option being a management company passported from Luxembourg to Portugal.
In 2019, the Portuguese government approved a new regime to create a new type of investment vehicle, specifically aimed at attracting foreign investment and strengthening the real estate sector – the Sociedades de Investimento e Gestão Imobiliária (SIGI). These are the Portuguese version of real estate investment trusts (REITs).
"The advantage of a SIGI is that it's a less regulated vehicle, which is closer to a commercial company and therefore appealing for investors who don't want such a complex vehicle to operate," said Francisco Cabral Matos, Partner, VdA Portugal.
"At the same time, it will need to be eventually listed, at least in part, but this has created an opportunity for Portuguese groups and multinationals operating in Portugal to refinance themselves, because this is a good way of creating a vehicle where you can raise capital from equity investors."
"Portuguese SIGIs also encompass activities beyond residential real estate – they are used in the hospitality sector, but also in agribusiness, such as the large plantations in the countryside that produce almonds and olive oil. They are giving some new flavours to the diversity of investments that may be considered."
The final piece of the puzzle
With the range of investment vehicles becoming more sophisticated, the ECJ's landmark decision in the AllianzGI-Fonds AEVN case has now provided a further lift, heralding the end of WHT for investment funds.
According to Portuguese tax law, dividends paid to non-resident UCIs are subject to WHT, while the same type of income is not taxed when paid to resident UCIs. The ECJ has ruled that this differentiated treatment is incompatible with the principle of free movement of capital.
Given the outcome of this case, it's expected that other UCIs, resident in or outside the EU, will be able to claim back the WHT suffered on dividends distributed by Portuguese resident companies.
"In the past, the only real downside of investing directly with funds was that they could maybe not benefit directly from European directives or from double tax treaties, because of their tax regime or legal characteristics," explained Matos. "This is why we believe this case will be a turning point in respect of investments made directly by investment funds, in Portuguese companies in this case, but also companies in general. It could bring a new boost to the European funds space."
The facts of the case brought by the Portuguese tax authorities were fairly simple. The question was whether it's acceptable from a European law standpoint that a German investment vehicle is subject to a final WHT in Portugal of 25%, whereas a similar Portuguese investment vehicle benefits from a full exemption - so not being subject to WHT and, ultimately, not being subject to CIT at all. The ECJ has decided that this was a breach of European law.
"The law hasn't yet been amended, but the ruling will likely be taken into consideration in the coming months with the Portuguese state budget," added Matos. "Even if WHT still applies on a transitory basis, investment funds will now be able to recover in full the WHT they suffered from dividend and interest payments from Portugal. What's particularly interesting is that we will be able to go back four years to recover WHT levied on foreign funds."
Working with TMF Group
Portugal was already an attractive jurisdiction to invest in, thanks to a range of business-friendly government initiatives. With the introduction of boundary-pushing investment structures and the ECJ ruling, which has laid the foundations for WHT refunds, it's become a very appealing investment destination.
TMF Group is well positioned to help you bring all the pieces of the puzzle together. We can draw together Luxembourg's privileged position as a funds hub, recent case law and Portugal's expanded range of fund structures to provide seamless solutions for clients worldwide, managing all aspects of the deal value chain in a cost-efficient manner.
Get in touch to find out more.
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