CAPITAL GAINS TAX - TAX FRAUD PREVENTION ACT
Two bills were passed by the Spanish parliament and took effect on January the 1st, 2007: the Income Tax Act and the Tax Fraud Prevention Act, both of which will affect non-residents owning or intending to buy a holiday property in Spain.
The Income Tax Act changed certain articles of the Non-Resident Income Tax Act affecting, amongst other things, the capital gains tax rate which will drop from 35% on net gain to 18%, which will be the same rate of tax applicable to the residents. These changes are due to EU pressure on the Spanish Government after receiving reports from foreign taxpayers complaining that the existing system discriminates against non-residents by applying a different Capital Gains Tax (CGT) to them than to residents.
Another significant change in the Law is the withholding tax that a property purchaser must pay to the Tax Office on account of the potential Capital Gains Tax liability of a non-resident seller. This will also drop from the existing 5% of the purchase price to 3%. This reduction is in line with the equivalent reduction for the CGT rate as the resulting tax will be (as of the 1st of January, 2007) substantially lower than it is under existing legislation. Also, do be advised that if a non-resident incorporates property into a Spanish Company it will not be subject to this withholding tax. If the purchaser does not make payment of the withheld tax, the property will be affected by the lowest of the following sums: either the CGT on the sale or the 3% on the purchase price.
The new Income Tax will do away with the special system regulating Asset Holding Companies. These were companies owned by at least one physical person with most of their assets not affected by economic activities. The letting of property was not considered an economic activity unless the Company had an employee and premises dedicated exclusively to carrying out business. Under the existing system any non-resident owner of real estate in this type of Company would benefit from the same CGT tax rate as individual residents if assets were deposed of by the company after one year. At present that rate is 15%.
The Tax Fraud Prevention Act creates new obligations when it comes to property transactions. First of all, in order for the Land Registry to register a transaction, the Title Deed must include the Fiscal Identification Number (NIF or NIE in case of non-residents) and the means of payment for the purchase price. Also, in order to subscribe to basic utilities (water, telephone, electricity, gas, etc.) it will be necessary to provide the reference number on the property’s Local Rates Bill (Referencia Catastral). Evidently, these measures represent the Spanish Government’s attempt to avoid future money laundering through real estate transactions and to use utility contracts in order to gain more control over the use of real estate property.
This Act includes important changes affecting Offshore Companies. These are companies from a list of jurisdictions (from the so-called Black List) that were subject to prime attention from the Spanish Tax Authorities. These Offshore Companies face severe tax legislation, with a 3% tax on the rateable value of property when the company holds real estate and with transactions they carry out with third parties valued (for tax purposes) at market value. Now the law attempts to close the circle, enlarging the list to include not only companies on the “Black List” but also those from jurisdictions of practically null taxation or those with which Spain has not worked out a double taxation treaty with provisions for exchange of information.
The Law will consider Offshore Companies resident in Spain if their main assets consist of real estate property situated in Spain. As far as CGT goes, the existing Non-Resident Income Tax Act provides for the taxation in Spain of the share transfer from a company whose main assets are directly or indirectly (through a subsidiary holding) real estate assets in Spain. Under the new draft bill, if an offshore company is involved, the appraisal of these transactions will be based on the market value of the real estate, regardless of the property price declared and the real estate assets of the company will be affected by the payment of the tax.
The foreseen consequences of the new legislation will be significant. One the one hand, mainly with the drop to 18% in the CGT, properties, even the expensive ones, will be purchased in the name of individuals instead of companies. The reduced rate for capital gains will certainly be an incentive for foreign investors who will be prone to purchase and sell property with a relatively low tax burden. Real Estate and all professionals involved in this sector will also certainly welcome the reduction of the CGT, as they will see the benefits of the surge in the real estate market when the new legislation takes effect. On the other hand, to great extent it will help prevent tax fraud.
Rafael Berdaguer, lawyer from the firm Rafael Berdaguer Abogados, based in Marbella, Spain. www.berdaguerabogados.com