Colombia enacted tax reform (Law 1943-Tax Reform) on 28 December 2018. The Tax Reform makes numerous changes to the Colombian tax rules that generally apply from 1 January 2019. The tax reform includes following changes:

Corporate tax:

• The Tax Reform reduces the corporate income tax (CIT) rate from 33% in 2018 to 32% for 2020, 31% for 2021 and 30% for 2022 and onwards. The Tax Reform also repeals the 4% surcharge imposed on corporate income, making the total tax rate 33% for 2019, as opposed to 37% (33%, plus the 4% surcharge). The Tax Reform imposes a tax rate of 37% for 2019, 35% for 2020, and 34% for 2021 on the income of those financial institutions.
• The Tax Reform increases the dividend tax on distributions to foreign nonresident entities and individuals from 5% to 7.5%. In addition, the Tax Reform establishes a 7.5% dividend tax on distributions between Colombian companies. The tax will be charged only on the first distribution of dividends between Colombian entities, and may be credited against the dividend tax due once the ultimate Colombian company makes a distribution to its shareholders (nonresident shareholders (entities or individuals) or to Colombian individual residents). The dividend tax on local distributions does not apply if the Colombian companies are part of a registered economic group, or the distribution is to a Colombian entity qualifying for the new Colombian holding company (CHC) regime.
• The presumptive income tax rate (i.e., an alternative tax based on a percentage of the net equity of the last year) is reduced from 3.5% to 1.5% in 2019 and 2020 and 0% for 2021 and onwards.
• In determining net taxable income, taxpayers may deduct all paid taxes related to their economic activity, except for the debit tax (only 50% is deductible, regardless of whether the tax relates to the income-producing activity), and the equity tax, which is not deductible. In addition, the Tax Reform allows taxpayers to claim 50% (100% from 2022) of paid industry and commerce and debit (i.e., financial transaction tax) taxes as a credit against their income tax liability.
• The thin capitalization rule ratio is modified from 3:1 (which includes all debt that generates interest with local and foreign entities, related or unrelated) to a 2:1 ratio that only considers debt transactions involving related local and foreign parties (including back-to-back transactions involving foreign third parties). The thin capitalization rule does not apply: (1) when companies are subject to the authority of the Superintendence of Finance; (2) to some factoring activities (i.e., financial transactions in which a business sells its accounts receivable to a third party at a discount); (3) when taxpayers have unproductive periods; or (4) to infrastructure projects for public services and transportation carried out by special purpose vehicles.
• Investors in a private equity fund (PEF) generally will no longer benefit from deferring the recognition of income, unless the PEF meets certain requirements. The Tax Reform provides a transitory rule to allow existing PEFs to adjust to the new rules. The transitory rule is effective until 30 June 2020.

Incentives:

• The Tax Reform creates an income tax exemption for gross income below 80,000 tax units (approximately US$850,000) that derives from certain entrepreneurial activities related to technological and creative industries, or agricultural activities. The exemption period is 7 years for income derived from technological and creative industries and 10 years for income derived from agricultural activities. The gross income requirement does not apply to entities devoted to TV production-related activities.
• For so-called mega investment projects, those involving an investment of at least 30 million tax units (approximately US$320 million) over 5 years and generating 250 jobs or more, the Tax Reform establishes benefits for 20 years, such as a 27% income tax rate, a dividend tax exemption, the possibility of depreciating assets over 2 years, and presumptive income tax and equity tax exemptions. The benefits do not apply to the exploration of non-renewable resources. Taxpayers may enter into legal stability agreements for mega investment projects to ensure that future changes to the tax law will not affect the benefits. To enter into a legal stability agreement, taxpayers will need to pay a premium equal to 0.75% of the investment.

International tax measures

• Under the Tax Reform, permanent establishments (PEs) are subject to taxation on worldwide-source income (in the past, they were only subject to tax on Colombian-source income). In addition, the Tax Reform does not allow taxpayers to deduct interest expenses that are attributable to a PE and are not subject to withholding tax in Colombia.
• The Tax Reform subjects indirect transfers of Colombian assets/shares to tax in Colombia, if the Colombian assets/shares account for 20% or more of the book or fair market value of the foreign entity that is being transferred.
  The Tax Reform establishes the CHC regime for which Colombian companies may apply if they meet certain requirements. Under this regime, dividends received from, and proceeds from the sale of, certain non-Colombian entities are not taxable in Colombia.
• A 20% withholding tax will apply to payments abroad for services, royalties, movie sales (currently 15%), and software licenses (previously 26.4%). The withholding tax on payments abroad for management and direction fees increases from 15% to 33%. A 15% withholding tax applies to loans with a term of one year or more, and a 20% withholding tax applies to loans with a term under one year.
• The Colombian controlled foreign corporation (CFC) regime will not apply when the CFC’s income is 80% or more active income.
• The Tax Reform also adds requirements for claiming indirect foreign tax credits (FTCs), but indirect FTCs cannot be claimed for portfolio investments. The Tax Reform allows taxpayers to carry forward FTCs without limitation (previously capped at four years).
• Rules to make the mutual agreement procedure (MAP) provided in tax treaties more viable are included. Agreements reached in accordance with the MAP will have the same applicability as a final judicial decision.