With a population of 44.9 million people and a per capita income of $9,070, Colombia is one of the largest markets in Latin America. Colombia has become an attractive market for foreign investments thanks to its political stability, and burgeoning oil, gas and mining sectors. In the first half of 2011, foreign investment in the petroleum and mining industry (representing approximately 85% of all direct foreign investment in Colombia) reached $7.3 billion dollars, which is an increase of roughly $2.3 billion dollars from the first half of 2010. In 2010, total direct investment in Colombia by Indian investors was approximately $500 million dollars. This figure is expected to increase significantly due to the recently enacted bilateral investment protection treaty entered into between Colombia and India, and the signing of the India-Colombia double tax treaty.
On June 12, 2011 India and Colombia entered into a bilateral investment protection treaty (the “India-Colombia BIT”). Investment protection treaties are agreements entered into by countries for the reciprocal encouragement, promotion, and protections of investments made by nationals of one treaty country in the territory of the other treaty country. Investment treaties are adopted by countries in order to spur economic development by attempting to attract foreign capital and encourage investment.
India-Colombia Investment Treaty
The India-Colombia BIT encourages bilateral investment by protecting the investors of a contracting party against arbitrary or confiscatory government measures. The protections to Indian investors are enforceable by independent international arbitration. The India-Colombia BIT is typical of most investment treaties in its framework and substantive protections. Thus, it includes: (i) initial provisions establishing the scope of coverage and the meaning of the terms “investor” and “investments”; (ii) substantive protections related to non-discrimination of treaty investors, fair and equitable treatment, and protection against government expropriation; and (iii) mechanisms for the settlement of disputes. While a discussion of each provision of the India-Colombia BIT is beyond the scope of this article, the following is a brief summary of its substantive provisions:
- Fair and Equitable Treatment: the India-Colombia BIT affords a foreign investor protection against arbitrary and unfair or inequitable treatment by the government under standards of international law.
- Non Discrimination: the India-Colombia BIT assures national treatment and most favored nation status to investors of each state. This means that foreign investors cannot be treated less favorably than investors from the host country or from a third party country.
- Anti-Expropriation: the India-Colombia BIT guarantees that government expropriation of investments, including actions tantamount to expropriation, are prohibited except under due process of law and accompanied by full compensation.
- Dispute Settlement: Under the India-Colombia BIT a state must submit a foreign investor’s claim of a treaty violation to arbitration. The arbitration must be conducted by an independent ad hoc tribunal and the tribunal’s award will be binding.
Covered Investors and Investments under the India-Colombia BIT
Perhaps the most significant provisions of bilateral investment agreements are those related to the definitions of “investor” and “investments”. As with all investment agreements, the definition of the term “investor” and “investment” is usually found in Article 1 of an investment treaty. Read together, the definition of “investment” and “investor” delimits which parties may benefit from treaty protection.
The definition of “investment” is often the first point in determining whether a transaction is subject to treaty protection. Since the principle purpose of investment agreements is to encourage foreign investment, the definitions of investment found in most treaties are virtually always expansive. Accordingly, Article 1, Section 2.1 of the India-Colombia BIT defines investments to mean: “every type of asset that have been established or acquired by investors of a contracting party in the territory of the other contracting party…” Similarly to most investment agreements, the India-Colombia BIT subsequently provides a non-exclusive list of permitted investments, and Article 1, Section 2.3 specifically states that the minimum characteristics of an investment under the treaty must include: (i) the commitment of capital or other resources (ii) the expectation of gain or profit and (iii) the assumption of risk for the investor. Hence, an “investment”, for purposes of the India-Colombia BIT, applies to a broad spectrum of current and future potential arrangements within each member country.
Tribunals interpreting the term “investment” tend to apply the term liberally. In Fedax N.V. v. Venezuela, for example, the tribunal determined that, even an indirect transaction in which a claimant acquired Venezuelan promissory notes by endorsement from the original note-holder qualified as an “investment” under the Netherlands-Venezuela investment treaty. Furthermore, tribunals have ruled that a qualifying investment under an investment treaty may even include transactions that, taken in isolation, might not otherwise qualify as an investment. For example, the tribunal report in Chevron-Texaco v. Ecuador, stated that an “investment” needed to be “viewed holistically and not as discrete transactions or components”. Therefore, countries that seek a restrictive reading of the term will often find themselves on the losing end of the argument.
The definition of the term “investor” is the second point of reference in determining whether a party is subject to the protection of an investment treaty. The India-Colombia BIT defines investor as follows:
Any physical or natural person or an entity of one of the contracting parties that has made investments in the territory of the other contracting party in accordance with its national legislation.
- A physical or natural person shall mean a person who, in the case of India is a citizen of India and in the case of Colombia is a citizen of Colombia pursuant to their respective legislations
- An entity shall mean a company, corporation, firm or association incorporated or constituted or otherwise duly established pursuant to the laws of that contracting party and is engaged in substantial business activities in the territory of the Contracting Party.
Natural persons that are nationals of the state party to the India-Colombia BIT and entities incorporated or constituted under the laws of such state that carry out substantial business in the are thus able to rely on treaty protection. Interestingly, the India-Colombia BIT is representative of various Latin American investment treaties in that it requires corporate investors to carry out substantial business in the relevant state. This provision is included to prevent treaty shopping, i.e., when individuals from 3rd party jurisdictions create a new company, or shell company simply to benefit from the provisions of a particular investment treaty. As further discussed below however, this provision should not limit treaty protection to Indian nationals or Indian corporations (with substantial activities in India) that structure their investment in Colombia through intermediary corporate vehicles located in third party jurisdictions.
Many BITs expressly include in their definition of investor, corporations “owned or controlled” by nationals of a contracting state. This is important in order to account for the myriad of ways in which investment may be structured in a foreign country. Often, the corporate structure of a contracting partner to an investment treaty may include one or more intermediary corporate entities located in third party jurisdictions. For example, the Netherlands includes in its 2004 model investment treaty, the definition of investors that are:
“Legal persons not constituted under the law of that contracting party but controlled, directly or indirectly by natural persons… or by legal persons [ who otherwise meet the definition of national]”. Article 1(b)(iii).
Likewise, Article 1 of the U.S. 2004 model investment treaty covers protection to intermediary corporations by expressly defining “investment” to include “every asset that an investor owns or controls, directly or indirectly, that has the characteristics of an investment”. ”. It would have preferable to have seen this language incorporated into the India-Colombia BIT and not leave it potentially open to argument of whether indirectly controlled investments are covered by the treaty protection.
Nonetheless, we believe that a bona-fide Indian national (or entity with substantial business activities in India) who invests in Colombia through a corporate intermediary established in a third party jurisdiction would be provided treaty protection. In such a case, treaty protection would be consistent with Article 31, Section 1 of the Vienna Convention on Law of Treaties, which states that “a treaty shall be interpreted in good faith, in accordance with the ordinary meaning to be given to the terms of the treaty in their context and in light of its object and purpose.” The objective and purpose of investment agreements, which is stated in their preamble, is to encourage foreign investment. Thus, tribunals have traditionally been flexible and willing to uphold the right of bona-fide investors under a particular treaty, including where investments are made through intermediary companies.
New Tax Treaty signed between India and Colombia.
On May 13, 2011 India and Colombia signed a Double Taxation Avoidance Agreement (“DTAA”). The DTAA is a comprehensive tax treaty designed to prevent double taxation of income earned in one country by a resident of the other country. The DTAA will also include provisions for the exchange of information for tax purposes.
The DTAA has yet to be ratified by the contracting parties and enter into force. However, if ratified, the DTAA will set maximum rates for withholding taxes imposed on dividends, interest and royalties. While, dividends, interest and royalties will be subject to tax in both India and Colombia, the maximum withholding tax will not exceed 5% in the case of dividends and 10% in the case of interest and royalties. The DTAA provides that business profits from a permanent establishment will be taxable in the source State. Furthermore, profits derived from construction, assembly or installation projects lasting at least six months will be taxed in the source state. Capital gains from the sale of shares will be taxable in the country of source.
The DTAA is an important development for India-Colombia trade and bilateral relations.
Colombia allows foreign investment in virtually all sectors of the economy except for sectors related to national security and the disposal of hazardous waste product. Colombia offers a variety of incentives such as tax exemptions and tax holidays for investment in priority sectors, including manufacturing, agro-industry, mining and petroleum.
The forms of business organization most often used by foreign investors in Colombia are joint capital stock corporations (“Sociedad Anonima”) and limited liability companies (“Sociedad Limitada”). The corporate income tax rate and capital gains rate is 33%, which applies both to the Sociedad Anonima and the Sociedad Limitada, and all expenses incurred in the normal course of business are generally deductible to both types of entities. Furthermore, no thin capitalization rules or CFC regime exists. Significantly, dividends paid to a foreign company or entity not domiciled in Colombia are not subject to Colombian withholding tax so long as the corporate profits have already been subject to taxation at the corporate rate.
Interest is subject to a 33% withholding tax. Lastly, the deductibility of interest payments is limited to the interest rate published from time to time by Colombian Superintendencia. Thus, Colombia encourages foreign capital investments over foreign financing.
There are various outbound structuring opportunities for Indian persons seeking to invest in Colombia. Significant planning opportunities exist to minimize the taxes on the repatriation of after-tax profits at the Colombian entity level. An Indian investor would obtain the greatest tax efficiencies, by structuring their investment through one or more corporate intermediaries located in a low-tax jurisdiction that has entered into a comprehensive income tax treaty with India. The following diagram illustrates the potential effects of utilizing a Cyprus and Panama intermediary; however, similar results may apply utilizing alternative jurisdictions. In each case, an efficient exit strategy would involve the tax free sale by Cyprus Co of its shares of Panama Co.
- Equity Investment
- Investment Utilizing Financing
The enactment of the India-Colombia BIT and the impending DTAA are expected to facilitate Indian investment in Colombia. Bona-fide investors, even those that structure their investments through intermediary corporations should benefit from the protections set forth the India-Colombia BIT.
Fernan Rodriguez is a foreign legal consultant for The Richards Group, in Miami Florida. Fernan is a licensed Colombian attorney who specializes in tax and international transactional matters. He may be contacted by email at firstname.lastname@example.org. Alonso Sanchez is an associate in The Richards Group’s tax department. He may be contacted by email at asanchez@richards-law.
By Fernan Rodriguez and Alonso Sanchez