Volume 5, Number 24, Page 2

Argentina: VAT Issues Still Unresolved

Argentina has in recent years issued several administrative rulings and promulgated statutory amendments to address the VAT treatment of covenants not to compete, but several issues still remain unresolved.

Covenants not to compete have been very useful for tax-planning purposes in Argentina, as they constitute one of the few kinds of intangibles that qualify for an amortization allowance under Argentine income tax law. According to the law, amortization of goodwill and intangibles with useful lives not limited to a specific term are generally not deductible. Conversely, the purchase cost of an intangible not limited to a specific term may be amortized over that term.

In 1994, the Argentine General Tax Directorate (DGI) issued a nonbinding opinion in which it ruled that a covenant not to compete triggered a VAT taxable event, because the covenant qualified under the VAT catch-all provision of section 3(e)(21) relating to “prestaciones” (loans) as defined under the Civil Code. “Prestaciones” was not defined under VAT law, but was defined under the Civil Code as any “obligation to give something, to do or not to do.” Under this interpretation, almost everything could be subject to VAT, including alimony payments, for example. Such an interpretation was completely unreasonable, according to Argentine tax scholars who analyzed VAT taxable events.

In 1996, the DGI Deputy Director overruled the 1994 DGI opinion by stating clearly that (1) the lack of a specific VAT law provisions could not be construed to mean that the law is vague and that everything is subject to VAT; and (2) VAT law does not follow the patterns and definitions of the Civil Code. The Deputy Director further stated that VAT law itself defines the items included or excluded as a taxable event. Moreover, in the event that there were no VAT law provision on a certain topic, a reasonable construction of the law requires one to disregard taxation. If the taxable event results from a clear construction of the law, the interpretation should be the direct result of a comprehensive analysis of all sections involved. The DGI stated that given the absence of a specific list of pertinent items and the need to harmonize sections 1 and 3 of the VAT law, the catch-all provision could reasonably refer only to “services” as mentioned in section 1. The DGI’s 1996 general criteria is inconsistent with the taxation of covenants not to compete under VAT.

Following these administrative rulings, a new section 8 of the VAT implementing decree (as recently amended by Decree 692/98) was issued to clarify the scope of the catch-all provision. Section 8 now states that the taxable transactions (enumerated in the catch-all provision) comprise obligations to do or give something as a consequence of the performance of work for compensation, given that such work forms part of the industry of a supplier. Furthermore, Decree 692-98 states that items in the catch-all provision do not include the sale or assignment of rights, except when a financial service, an industrial or commercial exploitation concession is involved; in which case the taxable event will also include any obligation not to do something.

The lack of clarity concerning these rules has raised a number of questions. The confusion has led some professionals to ask whether the rule was intended to tax all covenants not to compete, be they ancillary to the sale of intangibles or not. Such an outcome does not result from a reasonable construction of the law.

First, the law only provides for the taxation of the assignment of trademarks; industry intangibles are an exception — but only when they are assigned as an ancillary element to a taxable lease or service. Essentially, the purpose of the law is to prevent the erosion of tax bases: if a taxable service is rendered and, as a consequence, a sale of industry intangibles becomes ancillary to such service, the ancillary component must be taxed to prevent erosion of the taxable-service basis. These rules do not provide for the taxation of covenants not to compete when they are ancillary to a taxable sale of industry intangibles.

Second, the new rules further clarify that covenants not to compete cannot be taxed in isolation; instead, they should be ancillary to a taxable financial service or an exploitation concession. Only in these cases may the consideration received for the covenant not to compete be viewed as further “value added,” resulting from two preceding taxable items. In fact, the consideration paid for not performing financial services or exploitation concessions is directly related to taxable streams of value added.

by Cristian E. Rosso Alba from the law firm of Hope, Duggan & Silva, in Buenos Aires, Argentina. This article was reproduced by permission.