Cross-Border Buy-and-Sell Transactions

11th Annual Latin American Tax Conference The Biltmore Hotel, Coral Gables, FL March 10-11, 2010 Cross-Border Buy-and-Sell Transactions Argentina Martin J. Barreiro

Contents I. Case 1 (Distribution)...1 A. Background...1 B. Questions...2 C. red Channel with Guarantee:...5 D. Referential Values:...5 E. Disagreement of the Customs Agent:...5 II. Case 2...7 A. Background...7 B. Questions...7

I. Case 1 (Distribution) A. Background Hardware & Software, Inc. (HSI) is a US Company that designs and manufactures computer workstations and servers that are sold to customers in the United States and abroad. Through January 2004, Hardware & Software Distributors, Inc. ( 1-1S1)1 ) wholly-owned US subsidiary of HSI, contracted with customers in Argentina and sold HSI products to such customers with shipping terms ex-works California. As such, the customer was the importer of record and was responsible for all costs of importation. HSI is planning to incorporate subsidiaries in Argentina, Brazil, Chile, Colombia, Mexico and Venezuela. The subsidiary would serve as a link between HSI and the clients in each jurisdiction. For operating purposes, HSI would like that the local subsidiaries consider the two alternatives outlined below: 1. Commission structure The local subsidiaries would provide HSI with marketing and technical services to HSI. The local subsidiaries have no authority to conclude contracts on behalf of HSI. The costs related to those services should be billed to HSI with a markup of 10%. The clients would import the products into their respective countries and pay the purchase price to HSI. 2. Buy-sell structure The local subsidiaries would act as buy-sell distributors for HSI, entering consequently into contracts with the customers in their own name. HSI would sell to the local subsidiaries at US list price less a discount of 49%, and the local subsidiaries act as the importer of record of the products. HSI s preference would be that 100% of sales in Argentina be made to the local subsidiary on a buy-sell basis rather than directly to the Argentina customers. However, in certain situations it may be advantageous, from a business point of view, for customers to contract with HSI directly, for example: a) Where there are special rules allowing customers that are exempt from duties and taxes, such as government agencies or universities, to import without duty or taxes (in which case direct sales from a US company to the customer would reduce the cost that the local subsidiaries would otherwise need to pass to the end customer). b) Where the customer has secured favorable financing arrangements for goods that they import-buy directly from a US company. c) Where the customer would like goods shipped to a location within the US for software integration before ultimate export to their country. d) Where the local government has created tax and other incentives to companies under certain circumstances. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 1

Therefore, HSI would like to offer customers in the local jurisdictions a choice of either buying products that have been imported by the local subsidiary or of buying the products outside of the country and importing the products themselves, provided that it can do so without creating significant tax or customs exposures. It is thought that these situations could account for up to 10% of the local subsidiary customer revenue and that in some cases refusing to sell from the US Company could mean HSI looses the business. HSI has considered meeting those customer objectives by having a US company sell the products directly to the customer, which then imports the products into Argentina. In this case it is assumed that the price that HSI would charge to its clients for the products would be higher than the price that it usually charges to the local subsidiaries for the same products. B. Questions 1. Commission Structure a) What are the tax consequences for HSI under the commission structure? (Income tax, value added tax. gross turnover taxes, stamp tax, etc.) There will be no tax consequences for HSI under the commission structure. However, it is worth adding that dividends exceeding the taxable income of the Argentine paying subsidiary will subject to withholding. Any excess to be distributed over the above mentioned limit is subject to a 35% withholding and final payment. For example: If the taxable income of the Argentine subsidiary were of USS 100, and the dividends to be distributed were of USS 150; USS 100 may be remitted freely, and USS 50 shall be subject to a 35% withholding. b) What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) 1 Assuming that the reimbursement of the costs plus a 10% is arm s length, the local subsidiary will be subject to a 35% income tax on its net income; to an approximately, 4.9% gross receipts tax on the reimbursement of the costs plus the 10%. On the other hand, in accordance with case law, the marketing and technical services rendered by the Argentine subsidiary will not he subject to VAT. This is so due to the fact that while the Argentine subsidiary shall neither be a party in the sales agreements to be entered into between HSI and the Argentine customers nor assume any liability for such agreements, HSI shall not perform direct activities within the Argentine territory. Stamp tax will not apply if there is no contractual document instrumenting it. 1 Federal Tax Court, in re: Tecnopel SA vs Federal Tax Bureau, December 6, 1999; Uniquim SA vs Federal Tax Bureau, March 15, 2002; and Codipa SA vs Federal Tax Bureau, September 12, 2003. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 2

c) Are there any permanent establishment issues that the client should be aware of? There is no permanent establishment issue. d) Are there any customs duties or customs valuation issues that the client should be aware of? There are no customs duties or customs valuation issue for the client if the transaction is arm s length. Since the local subsidiary would not be importing the products (Which would be imported by the clients), no customs issues shall arise under this scenario. e) Are there any transfer pricing issues that the client should be aware of? The arm s length principle is applicable to the reimbursement of the costs plus a markup of 10% paid by HSI to its local subsidiary. Therefore, in order to demonstrate that the transaction is at arm s length, the local subsidiary must prepare transfer pricing studies and submit them, together with information returns, to the Federal Tax Bureau annually. 2. Buy-sell structure a) What are the tax consequences for HSI under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) There will be no tax consequences for HSI under the buy-sell structure. However, please note that dividends to be paid will be subject to the tax treatment described in I. B. 1. a. above. b) What are the tax consequences for the local subsidiary under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The local subsidiary will be subject to a 35% income tax on its net income; to an approximately 3% gross receipts tax on the gross profits arising from the sale of the products, and to a 1% minimum presumed income tax on the value of the products owned as of December 31 of each year. In addition, the local subsidiary will be responsible for the payment of import duties and taxes. In this sense please note that a 21% VAT applies, in general, to the definitive imports of goods into Argentina. In that respect, please note that the importation of goods to be resold within Argentina by the local subsidiary is subject to and additional 10% VAT and 3% advance income tax. These rates might he 20% and 6%, respectively, if the local subsidiary does not have the Certificate of Import Data Validation (CVDI). which is issued bi- the Federal Tax Bureau. Such additional taxes may create ((financial problem for the local subsidiary if the amounts to be collected for the.vale of the products are not sufficient to offset such additional taxes. Such financial problem may be even increased if the local subsidiary sells the products to Argentine customers categorized by the Argentine Tax Authority as VAT withholding agent ( Agent ). If the Argentine customer is an Agent, it will not pay 100% of the VAT invoiced by the local subsidiary but 50% thereof Such VAT adverse effects do not apply if the local subsidiary is an Agent or if the local subsidiary obtains the appropriate exemptions. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 3

With respect to stamp tax, please refer to I. B.1.b. c) Are there any permanent establishment issues that the client should be aware or? There is no permanent establishment issue. d) Are there any transfer pricing issues that the client should be aware of? There are no transfer pricing issues as long as the transaction is arm s length. However, importation of products into Argentina is always subject to transfer pricing rules, irrespective of whether the parties are related. Therefore, we are hereby making some brief comments regarding the treatmen t applicable in the case of imports made by both independent parties (Argentine customers) and related parties (local subsidiary) in order to draw some conclusions in relation with a normal market price. (i) Sales made to independent parties Income derived for the mere importation of goods into Argentina is foreign source income for the foreign exporters. Section 8 of the income lax law, which refers to income derived from the import of goods, constitutes a guideline for the determination of the normal market price among independent parties. According to this regulation, were international prices - of public and notorious knowledge - exists for the imported goods, that may be established through transparent markets, commercial exchange markets or similar, said prices - absent evidence to the contrary - shall be used in determining the net income of argentine source. Additionally, Section 8 of the income tax law states that were import operations made between independent parties exceeds the annual amount of AR$ 1,000,000, the importer shall submit the necessary information to the Federal Tax Bureau in order to demonstrate that the declared prices are adjusted to market prices, including assignment of costs, profit margins and any other relevant information that the Federal Tax Bureau may consider necessary for the audit of such import operations (ii) Sales made to a related party In the scenario were the analyzed transaction is entered into between related companies, the arm s length principle shall apply. This principle is defined in the income tax law as conditions adjusted to the normal practices of the market between independent entities. In order to demonstrate that the transactions are at arm s length, the taxpayer must prepare transfer pricing studies and submit them, together with information returns, to the Federal Tax Bureau annually, The transfer pricing provisions of the Argentine income tax law generally follows the OECD guidelines for Multinational Enterprises and Tax Administrations. Where import operations are entered into between related parties and the prices and conditions of such transactions are not adjusted to normal practices of the market Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 4

between independent entities, said operations shall be adjusted in accordance with Section 15 of the income tax law. Transfer pricing rules are applicable not only in the case of companies which are related by means of a capital interest but when any other form of control not necessarily involving capital, such as an operative, contractual or management control exists. Also, if the import operations are entered into with companies with domiciled in, or constituted in accordance with, or located at low tax jurisdictions, said operations shall not be considered entered into market conditions and, thus, transfer pricing rules will apply. e) Are there any customs duties or customs valuation issues that the client should be aware of? A customs valuation issue might arise from the existence of importations to unrelated parties where the transaction value ( Reference Value ) is higher than the transaction value of importations carried out between HSI and the local subsidiary ( Transaction Value ). The difference between the Reference Value and the Transaction Value should be justified by the local subsidiary, in order to demonstrate that the relationship has not influenced the Transaction Value. In this sense, Resolution 1907/2005 issued by the Federal Tax Authority established a control regime for the selection of cases were the declared value of the imported goods differs from the referential prices published by the Customs Service. The purpose of this regime is to verify whether the declared transaction value is real and accurate. Basically, this regime selects the importations or home use and determines the control procedures to be followed. Such control procedures are as follows: C. red Channel with Guarantee: A guarantee must be provided to the Customs Service prior to the release of the imported goods when their declared value differs from the referential prices published by the Customs Service. The importer and/or the customs broker may be subject to inspection by the Customs Service and/or the Tax Authority. In this case, the importer will have to submit within 15 days from the release of the imported goods complementary explanations and elements of judgment related to the total amount effectively paid or to be paid for such goods, justifying the declared value as a market price. D. Referential Values: The customs declaration is not selected under Purple Channel. However, due to the existence of referential values, the customs agent will request the provision of a guarantee. E. Disagreement of the Customs Agent: Even though, in this case, the importation for home use is not subject to Purple Channel or to the provision of guarantee, the customs agent may disagree with the declared value and, thus, notify the Customs Valuation Agents in order to initiate an investigation. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 5

The importation for home use will be selected upon the following procedures: a) Sistema Informático Maria : The customs automated system will automatically determine the control procedure to be followed and may liquidate a guarantee. b) Verification by the Customs Agents, through a control on the declared value. In addition, we remark that pursuant to the GATT/WTO Customs Valuation Agreement (the Valuation Agreement ) the relationship does not influence the price, whenever the importer demonstrates that the Transaction Value closely approximates to one of the following Test Values occurring at or about the same time: (i) (ii) (iii) the transaction value in sales to unrelated buyers of identical or similar goods for export to the same country of importation; the customs value of identical or similar goods as determined under provisions of Article 5 of the Valuation Agreement; the customs value of identical or similar goods as determined under the provisions of Article 6 of the Valuation Agreement. The applicability of the methods described in (ii) and (iii) is extremely difficult, since in practice, information regarding that type of values is not available. To apply the foregoing methods, the differences in commercial levels, quantity levels and costs incurred by the seller in sales to unrelated purchasers and that are not incurred by the seller in sales to related parties, should be taken into account. Therefore, we should apply the method described in (i) in order to demonstrate that the Transaction Value agreed between HSI and the local subsidiary is acceptable for customs valuation purposes. If the local subsidiary does not justify the difference between the Transaction Value and the Reference Value as explained above, the Customs Office would consider the Reference Value as the customs k a lue of the product and, thus, may claim the local subsidiary the owed amounts in consideration for import duties. c) Which of the proposed structures would better suit the interests of our client from a tax perspective? That will depend on the factual circumstances q each.specific case, each of them has advantages and disadvantages that should be reviewed from a business stand point on a case by case basis. d) Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? There are no other alternatives that have been tested with the Argentine authorities. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 6

II. Case 2 A. Background 1. Current commission structure Computer Software, Inc. ( CSI ), a US company that designs and licenses software programs, has a local subsidiary incorporated in each of your jurisdictions. The main activity of these local subsidiaries is to identify potential clients and to make all the efforts that are required for marketing CSI s software products. The license agreements are entered into between CSI and the customers. The software programs are imported directly by the customers. Once the business is closed, CSl pays its local subsidiaries a commission equivalent to a certain percentage of the license fee charged to the client. 2. Alternative sublicensing structure CSI is interested in identifying the tax consequences of an alternative structure. The relevant characteristics of the alternative structure are as follows: a) A software distribution agreement is executed between CSI and its local subsidiaries. The agreement allows the local subsidiaries to license CSI s software products to local clients. In exchange, they pay a royalty fee to CSI equivalent to a certain percentage of the pric e of the sublicense agreements. b) The local subsidiary imports the software, and pays the relevant customs duties and VAT c) The local subsidiary enters into license agreements with the clients. The clients pay the price of the licenses to the local subsidiary, and the local subsidiary pays the relevant royalties to CSI. B. Questions 1. Commission structure a) What are the tax consequences for CSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Under the commission structure, payments to be made by the customers to CSI are subject to a 31.5%. As a general rule, all payments of Argentine source income made to beneficiaries residing outside of Argentina are subject to a 35% Income Tax withholding on the irrefutably net taxable income presumed by the Income Tax Law (which for general payments is 90% of the amount paid, thus resulting in a 35% over 90% = 31.5% withholding on the gross payment). b) What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 7

Assuming that the local subsidiary receives an arm s length commission, it shall be subject to the same tax treatment explained in I.B.1.b. The tax impact on the Argentine subsidiary can be summarized as follows: Income Tax: 35% on the net income. VAT: services provided by the local subsidiary would not be subject to VAT provided the requirements mentioned above in point I.B.1.b. are met. Gross Turnover Tax: 4.9% approximately (depending on the activity fulfilled and the jurisdiction) Stamp Tax: Only applicable if agreements are instrumented c) Are there any permanent establishment issues that the client should be aware of? There is no permanent establishment issue. d) Are there any customs duties or customs valuation issues that the client should be aware of? The need to differentiate in the commercial invoice between the value of the carrier media and the value of the intellectual property, Decision 4.1, dated May 12, 1995, of the Customs Valuation Committee, establishes that the custom value of the software shall only include the value of the carrier media. It shall not include the value of the data or instructions contained in the carrier media, as long as the value of the data or instructions is differentiated from the cost or value of the carrier media. This principle has been repeated by Resolution 856/1995 of Argentina s Ministry of Economy. According to such resolution, software classified in tariff classification number 8524 of the Mercosur Common Nomenclature (N.C.M.), that corresponds to the physical media, shall be subject to import duties only upon the invoice value of such physical media. In order to be exempted from import duties, the values corresponding to the software and its physical media shall be clearly specified from the invoice total amount. The remaining goods classified in tariff classification number 8524 of the N.C.M. that do not constitute software, such as digital recordings, are subject to the general valuation criteria and, thus, excluded from this exemption. e) Are there any transfer pricing issues that the client should be aware of? The arm s length principle is applicable to the commission paid by CSI to its local subsidiary. Therefore, in order to demonstrate that the transaction is at arm s length, the local subsidiary must prepare transfer pricing studies and submit them, together with information returns, to the Federal Tax Bureau annually. 2. Sublicensing Structure a) What are the tax consequences for CSI under this structure? (Income tax, value added tax. gross turnover taxes, stamp tax, etc.) Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 8

The tax consequence for CSI under the sublicensing structure will be the following: income tax withholding shall be applicable at a 31.5%, in accordance with the comments made in I.B.1.a. above. Please note that dividend payments to be made by the Argentine subsidiary shall be subject to the withholding treatment described in point I. B. 1. a, above. VAT shall be levied on the imports of software programs at a 21% rate and shall be due by the Argentine subsidiary as explained in point II.B.2.b. below. b) What are the tax consequences for the local subsidiary under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The local s ubsidiary will be subject to a 35% income tax on its net income; to an approximately 3% gross receipts tax on the gross profits arising from the sale of the products and to a 21% VAT on the sublicense of software. In addition, the local subsidiary will be responsible for the payment of import duties and taxes. In this sense please note that a 21% VAT applies, in general, to the definitive imports of goods into Argentina. In the case of software imports, Federal Tax Bureau s Ruling N 97195, stated that VAT shall be levied not only on the ruler of the physical media and of the software contained therein, but also on the value attributable to the licenses of use of such software granted by the exporter to the importer. This interpretation maybe regarded as inconsistent with the Valuation Agreement which clearly states that in order to determine the customs value of imported goods payments made in consideration for the reproduction of software shall not he added to the price actually, paid or payable. Moreover, please note that the importation of goods to be resold within Argentina by the local subsidiary is subject to and additional 10% VAT and 3% advance income tax. These rates might be 20% and 6%, respectively, if the local subsidiary does not have the Certificate of Import Data Validation (CVDI), which is issued by the Federal Tax Bureau. Such additional taxes may create a financial problem for the local subsidiary if the amounts to be collected for the sale of the products are not sufficient to offset such additional taxes. Such financial problem may be even increased if the local subsidiary sells the products to Argentine customers categorized by the Argentine Tax Authority as VAT withholding agent ( Agent ). If the Argentine customer is an Agent, it will not pay 100% of the VAT invoiced by the local subsidiary but 50% thereof. Such VAT adverse effects do not apply if the local subsidiary is an Agent or if the local subsidiary obtains the appropriate exemptions. c) Are there any permanent establishment issues that CSI should be aware of? There is no permanent establishment issue. d) Are there any transfer pricing issues that the client should be aware of? Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 9

There are no transfer pricing issues as long as the transaction is arm s length. e) Are there any customs duties or customs valuation issues that the client should be aware of? There are no customs duties or customs valuation issues as long as the transaction is arm s length. In addition, please refer to answer I.B.2.e. above. f) Which of the proposed structures would better suit the interests of our client from a tax perspective? That will depend on the factual circumstances of each specific case, each of them has advantages and disadvantages that should be reviewed from a business stand point on a case by case basis. g) Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? There are no other alternatives that have been tested with the Argentine authorities. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Argentina 10

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2010 Latin American Tax Conference The Biltmore Hotel, Coral Gables, Miami March 11-13, 2009 Cross-Border Buy-and-Sell Transactions Brazil

Contents Selling into Brazil...1 I. General Description of Applicable Taxes...1 1. Income Tax...1 2. Value Added Taxes...1 3. Other Taxes...2 4. Customs Duties and Taxes...2 5. CIDE on Importation of Services, Technology Trans fers and Software Licenses...3 II. CASE 1 - Direct Sales from Outside Brazil...4 2. Second Scenario....5 III. Case 2 - Sales Licenses of Software Products...7

Selling into Brazil

There are a number of alternatives available for non-resident manufacturers and distributors planning to structure sales operations in the Brazilian market. Below we provide an overview of the main taxes applicable and a discussion of specific tax aspects related to the most common structures. I. General Description of Applicable Taxes 1. Income Tax In general, Brazilian income tax law adopts the principle of the paying source of income, i.e., withholding tax is due whenever income is paid, credited, delivered or remitted by Brazilian sources to non-residents (whenever the non-resident payee acquires legal or economic availability of income), exception made to the capital gains tax levied upon the sale of assets located in Brazil between non-resident parties. The withholding income tax rate applicable to payments to non-residents is 15% for most transactions, but in certain cases the applicable rate is zero (e.g., payments for lease of aircraft and vessels) or 25% (e.g., payments for services in general, and payments of any nature remitted to entities located in low-tax jurisdictions). Payment of dividends from Brazilian entities to non-resident shareholders or quotaholders are not subject to withholding income tax. From a corporate income tax perspective, Article 539 of the Brazilian Income Tax Code provides that a foreign resident is subject to income tax in Brazil if (i) it sells in Brazil through an agent, and (ii) it directly invoices the buyer. The Sole Paragraph of Article 539 further provides that: (i) income tax will be imputed only if the agent in Brazil has powers to contractually bind the seller before the purchaser in Brazil; (ii) income tax shall not be imputed over sales in which the agent acts simply as a business intermediary, collecting and placing orders or proposals, or performing other acts necessary to commercial mediation, even if these services are compensated with commissions or other types of compensation, provided the agent does not have powers to contractually bind the seller; (iii) the fact that the seller participates in the capital of the agent in Brazil does not cause the agent to have powers to contractually bind the seller; (iv) the fact that the legal representative or attorney-in-fact of the seller signs agreements in Brazil in the name of the seller, on a non-regular basis, is not enough to determine the application of the provisions set forth in this Article. Therefore, in principle no permanent establishment issue should arise provided that there is no agent in Brazil with powers to bind the non-resident entity before the Brazilian customers. The statutory corporate income tax rate in Brazil is 34% (corporate income tax rate of 15%, plus a 10% surtax for income exceeding R$ 240,000 per year, plus a social contribution on adjusted earnings at a rate of 9%). The tax basis generally is the book profit adjusted by permanent and timing differences set forth in tax law. Companies with annual gross income below certain limits (currently R$ 48 Million; approximately USD$ 24 Million) can pay income taxes based in an elective system that deems the profit to be 32% of gross income. 2. Value Added Taxes The IPI is a federal value added tax that is levied on imports, sale and transfer of manufactured products. The tax paid upon the acquisition or importation of raw materials and intermediary products, parts Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 1

components, etc., for the production of the manufacture and it can offset the tax due on the subsequent sale to non-industrial entities or to individuals. The net effect is a tax on the value added at each stage of production. IPI rates vary depending on the tariff classification of the product. The ICMS is a state value added tax on sales of goods and certain services. It is levied on imports, sale and transfer of any goods, and on transport and communication services. The Brazilian taxpayer is allowed to credit the ICMS it pays to third-party suppliers against the ICMS it receives from sales of goods to its customers. The difference is the amount owed to the state government. The ICMS general rate is 18% in the States of Sao Paulo and Rio de Janeiro but the State of Rio de Janeiro also demands the payment of an additional of 1% destined to the Fund to Struggle against Poverty ( Fundo Estadual de Combate à Pobreza - FECP ) over the 18% general ICMS rate. 3. Other Taxes Brazilian entities are subject to gross revenue taxes on monthly gross receipts. These taxes are federal. There are specific provisions excluding export revenues from the tax basis of PIS and COFINS. Imports however are subject to these taxes. There are two regimens for these taxes. One regimen is cumulative with cascading effects and the other is non-cumulative, allowing tax credits to offset the tax due on subsequent transactions. For most taxpayers, the PIS and COFINS apply under the non-cumulative system at total aggregate rate of 9,25% over gross billings. Certain specific activities, such as banks, financial institutions and companies engaged in the development of software products in Brazil, as well as companies electing to pay corporate income taxes under the presumed profit method, are still subject to the PIS and COFINS under the cumulative system but at lower rates (i.e. 4,65% total, for financial institutions, and 3,65% for other entities). Brazilian taxpayers and foreign residents providing services locally may also be subject to Municipal Service Tax ( Imposto sobre Serviços de Qualquer Natureza ISS ), at rates that generally vary from 2% to 5%, depending on the type of service and the particular municipality in which the party rendering the services is located. 4. Customs Duties and Taxes The resident importer of record is subject to the payment of the following taxes upon importation of goods into Brazil: import duty over the CIF value of the goods; federal excise tax (IPI) over the CIF value plus the import duty; and state value added tax (ICMS) over the CIF value plus import duty and IPI. PIS & Cofins are also charged at the combined rate of 9,25% upon the grossed up CIF value plus ICMS. The IPI, ICMS and PIS and COFINS levied over imports may generate credits to be offset against outputs in the domestic market. The import duty rates and the IPI rates vary depending on the tariff classification of the imported products. The general ICMS rates over imports carried out by taxpayers established in the States of Sao Paulo and Rio de Janeiro are 18% and 16% for most products. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 2

5. CIDE on Importation of Services, Technology Transfers and Software Licenses CIDE at the rate of 10% and is due on amounts paid, credited, delivered used on behalf or remitted to non-residents as remuneration for use of rights or technology transfers or any agreement for the rendering of technical services, administrative assistance and other similar services, as well as on payments, credit, delivery, use or remittance for royalties at any title. A Governmental Decree of 2001 (Decree # 3,949, dated as of October 3, 2001), listed as subject to the tax contracts for: (i) supply of technology; (ii) technical assistance (technical assistance services and specialized technical services); (iii) technical services, administrative assistance and other similar services; (iv) trademark license and assignment; and (v) patent license and assignment. On February 27, 2007, after a long debate between the Brazilian Government and the software industry, Federal Law # 11,452 established that the CIDE should not be levied over amounts paid in consideration for the licensing of rights to use, commercialize or distribute software programs, except if such programs involve the transfer of the correspondent know-how. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 3

II. CASE 1 - Direct Sales from Outside Brazil 1.1 First Scenario. A U.S. seller sells computer workstations and servers from its domicile in the U.S. The goods are shipped from the U.S. to the buyer in Brazil. A local subsidiary of the U.S. seller provides marketing and technical services to the parent company, which are remunerated at cost plus 10%. The local subsidiary places orders for the products to the parent. 1.1.1 Effects for the Non-resident Seller The non-resident seller is not subject to taxes in Brazil under this scenario. This is because the foreign resident should not have a taxable presence provided the agent does not have the powers to legally oblige the foreign resident seller. 1.1.2 Effects for the Local Subsidiary (Agent) From a federal taxes standpoint, the local subsidiary will be only subject to corporate income taxes to the extent its sole activity is the exportation of services to the parent company. This is because the gross income taxes, PIS and COFINS with combined rates of 9,25%, do not apply to exports of services. The Brazilian Constitution states that a Complementary Law also shall exempt exports of services from the ISS. Along with such constitutional provision, Complementary Law # 116/03 provided general rules on the ISS levy, stating that exports of services shall be deemed exempt provided that the result of the services occur abroad. Based on a restrictive interpretation of Complementary Law # 116/03, the 1st Panel of the Brazilian Superior Court of Appeals decided, while ruling on Special Appeal # 831124/RJ, that services performed within the Brazilian territory would necessary produce results herein and, therefore, would not qualify as services exports. In view of the above, assuming that the local subsidiary would perform the agency services within the Brazilian territory, Brazilian tax authorities would most likely require the payment of the ISS. In the Municipalities of Rio de Janeiro and São Paulo, the ISS rate over agency services is 5%. As mentioned above, a permanent establishme nt may be characterized when a dependent agent has, and habitually exercises, the authority to conclude contracts in the name of the non-resident principal, regardless of a controlled/controller relationship. On the other hand, such issue will not arise in case of business carried out though a broker, general commission agent or any other independent agent. Whenever the Brazilian agent has authority to conclude contracts on behalf of the U.S. seller, the U.S. seller may be deemed to have a permanent establishment in Brazil pursuant to Article 539 of the Brazilian Income Tax Regulations. The U.S. seller in this hypothesis is subject to have locally taxable profit imputed calculated as a percentage of the gross revenues generated by the agent (the percentage to calculate the taxable income is currently of 58.4%). Corporate income tax rates would apply to the taxable income (15% corporate income tax rate, plus 10% surtax for income exceeding R$ 240.000 per year, plus 9% social contribution on adjusted earnings). Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 4

1.1.3 Transfer pricing aspects if the agent is a related party to the U.S. seller If the Brazilian agent is a related party to the U.S. seller, the amounts of commissions received by the Brazilian agent may be subject to adjustments for income tax purposes. According to Brazilian Transfer Pricing Regulations, approved by Law No. 9,430/96, upon exports of services, goods or rights to related parties, taxpayers have to verify if transfer pricing adjustments to taxable income are applicable whenever the average sales price in such transactions is lower than 90% of the average sales price in the Brazilian market to unrelated parties during the same period and under similar payment conditions. If the average price with related parties is lower than 90% of that used with unrelated parties, the export income can be adjusted according to one of the following methods: (i) Average Price of Export Sales; (ii) Wholesale Price in the Destination Country Less Profits; (iii) Retail Price in the Destination Country Less Profits, and (iv) Acquisition or Production Cost Plus Taxes and Profits. The methods mentioned in items (ii) and (iii) above do not apply to the exportation of services. If comparables were not available, the applicable method would be the Acquisition or Production Cost Plus Taxes and Profits. This is an authentic cost plus method. Such method requires the Brazilian seller to recognize, at least, a gross profit margin of 15% (plus the costs incurred) for income tax purposes. There are regulations that allow a minimum 5% margin, which is not applicable to transactions with listed low tax jurisdictions. In fact provided the exports to related parties result in a net profit of at least 5% when the results of three years in a roll are taken in consideration, the taxpayer may not apply transferpricing methods to adjust its income. This is viewed as a safe harbor regulation, although not biding to the tax authorities that may reject this approach in cases it considers not adequate a 5% margin. 2. Second Scenario. A U.S. seller sells computer workstations and servers from its domicile in the U.S. The goods are shipped from the U.S. to the local subsidiary in Brazil that resells to the end customer. The local subsidiary would acquire the products with a 49% discount over the US list price. A. Effects for the Buyer/Importer From a Brazilian legal perspective, title to the goods will necessarily transfer to the Brazilian importer upon customs clearance. In order to clear the products from customs, the importer will have to pay import duty, IPI, ICMS, PIS and COFINS as described in item 1.4 above. The IPI, the ICMS, PIS and COFINS may be recovered from the subsequent sale of the imported products in the internal market. In the State of São Paulo, listed hardware products qualify for a 12% ICMS rate reduction. In the State of Rio de Janeiro, hardware manufacturers qualifying for the IPI rate reduction provided by Federal Law # 10,176/01 may also qualify for a 7% ICMS rate reduction. The local subsidiary is subject to corporate income taxes on its adjusted net profits unless it elects to pay taxes under the deemed profit system. As mentioned this system is only applicable to companies with gross income below a certain limit and is only advantageous if the net profit margin of the activity is in excess to 32%. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 5

Customs valuation adjustments may also be necessary. For goods imported from a related party, the taxpayer might be required to demonstrate that the importation value meets the fair value determined by one of the customs valuation regulations. Otherwise, the tax authorities the might challenge the import value, charging import duty, IPI, ICMS, PIS and COFINS differences. Recently, there was a change in one of the Brazilian Transfer Pricing methods available on the importation of imports of goods and services. Provisional Measure n. 478/09 revoked the Resale Price Less Profit Method and created the Purchase Price Less Profit Method (PVL), which provides a minimum markup of 35% in case of importation of goods, services and rights used as raw material or to be resold. In addition, the PVL method provides that the calculation of the parameter price must cumulatively respect the following requirements: (i) be supported by purchase and sale transactions exclusively performed between unrelated parties; and (ii) the transactions utilized for purposes of the calculation must represent ate least 10% of the amount of the import transactions subject to transfer pricing rules performed by the taxpayer, in the relevante year, with respect to the imported goods, rights or services, in case the information used for calculation purposes refers to its own transactions. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 6

III. Case 2 - Sales Licenses of Software Products The tax regime in Brazil applicable to software transactions is very complex. The classification and taxation of payments for software and related services under Brazil s domestic laws can vary depending upon whether the transaction is treated as the license of a copyright, the sale of merchandise, or the provision of services. The classification can differ according to the tax under consideration, whether the government permits a different interpretation through the ruling process, and whether the courts have ruled on the issue. The payment of fees for software programs and software related services can be treated under domestic law as payments for the use of or for the right to use copyrights, payments for goods or merchandise, or payments for services. Such payments may be subject to the following taxes withheld on payments to the nonresident: (1) income tax; (2) municipal services tax (ISS) and (3) federal social contributions (PIS and COFINS). Where the resident entity importing the software obtains a ruling from the Income Tax Authorities to the effect that imported software is standardized and mass marketed (i.e., similar to goods or merchandise), no income tax is due; in this case however, the importation of software is subject to (1) import tax (II), (2) federal excise tax (IPI), (3) the state VAT (ICMS) and (4) federal social contributions (PIS and COFINS imposed on the full value of the software. In the absence of such a ruling, these taxes are only imposed on the media value of the software. These import duties generally do not apply to payme nts for software copyrights (e.g., reproduction royalty) or for software services (e.g., installation) unless carrier media is also transferred. With the exception of non-standardized software that can be characterized as a service provided to the customer, in general software has been commercialized as distribution of a license of use and Case 2, under discussion is based on this assumption. Payments for both physically and electronically delivered software are subject to 15% income withholding tax. The party liable for the tax is the non-resident supplier of software (although the tax is collected and remitted by the Brazilian resident). The 15% withholding tax rate can, in theory, be lowered under an applicable tax treaty. The 2%-5% ISS also applies to payments for software programs regardless of whether provided physically or electronically. The non-resident supplier of software is liable for the ISS on the gross payment (although the tax is collected and remitted by the Brazilian resident). Also a 9.25% combined rate for PIS and COFINS is levied upon importation of software programs. The imposition of PIS and COFINS does not depend on whether the software is provided physically or electronically. Where the software is delivered physically, an 16% import duty (II), the 15% federal VAT tax (IPI), and the 18/19% state VAT ICMS generally apply to the media value of the imported software. The only difference in the case of electronic delivery is that none of the three import taxes (i.e., the 16% import duty (II), the 15% federal VAT tax (IPI), and 18/19% state VAT ICMS apply the media value of the software because there is no carrier media. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 7

2.1 First Scenario - Current Commission Structure Under this scenario, the main activity of the local subsidiary is to identify potential clients and to market the parent s software products. The software is imported directly by the customers and the local subsidiary receives a commission equivalent to a percentage of the license fee charged to the customer. 2.1.1 Effects for the Seller The Ministry of Finance Ordinance No. 181/89 expressly recognizes that payment of software license to nonresidents is deemed to be payments of copyrights. Upon remittance of the software fees to Seller, the Brazilian customer shall withhold a 15% income tax. The parties may agree that the Brazilian customer supports the tax burden, through a gross-up (by applying a 17.64% rate). In addition as mentioned above, municipal services taxes may apply depending on the laws of the specific Municipality. The non-resident supplier of software is liable for the ISS on the gross payment although the tax normally should be collected and remitted by the Brazilian resident customer. 2.1.2 Effects for the Local Subsidiary (Agent) The tax consequences for the local subsidiary receiving the commission are the same as discussed above in the case of sale of hardware under item 1.1.2. The local subsidiary is subject only to income taxes to the extent its activity is an exportation of services, because the gross income taxes, PIS and Cofins with combined rates of 9,25% do not apply to exports of services. Since the agent will perform the services locally, this may not be considered a service exported, which result is produced abroad and accordingly, the local services tax (ISS) may apply at a 5% rate in the cities of Sao Paulo and Rio de Janeiro on the amounts of commissions received. Whenever the Brazilian agent has authority to conclude contracts on behalf of the U.S. seller, the U.S. seller may be deemed to have a permanent establishment and pay taxes in Brazil. A permanent establishment may be characterized when a dependent agent has, and habitually exercises, the authority to conclude contracts in the name of the non-resident principal, regardless of a controlled/controller relationship. On the other hand, such issue will not arise in case of business carried out though a broker, general commission agent or any other independent agent. In the case at hand, transfer pricing applies to the commission received for the local distribution of the software sold directly to the customer by the parent company as commented above. Here also if comparables were not available, the applicable method would be the Acquisition or Production Cost Plus Taxes and Profits requiring the Brazilian seller to recognize a gross profit margin of 15%. In addition, in this case the safe harbor of the minimum 5% net profit margin may not apply because the company will be receiving a commission on actual sales, which is different from providing market services to the parent and adding a 5% margin to its cost. In other words, the company may even have taxable losses. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 8

2.2 Second Scenario - Software Distribution Agreement Under this scenario, the parent enters in a software distribution agreement with the local subsidiary to license the software to local customers. The local subsidiary pays the parent a fee equivalent to a percentage of the price of the sublicense agreements. As mentioned above, this is the most common model of business adopted by software companies in Brazil. 2.2.1 Effects for the Non-Resident Parent As mentioned above, the parent licensor is subject to withholding income taxes and municipal services tax. In fact the payments for both physically and electronically delivered software are subject to 15% income withholding tax if not lowered under an applicable tax treaty. The 2% to 5% ISS tax also applies to payments for software programs regardless of whether provided physically or electronically. 2.2.2 Effects for the Buyer/Importer Pursuant to the Ministry of Finance Ordinance No. 181/89, only the carrier media bearing software will be subject to import duties and other taxes levied upon importation, provided that the commercial invoice states the value of the carrier media separately from the value of the software. Therefore, under the regular import procedure, the Brazilian importer would be subject to the following taxes over the carrier media (diskettes, CD-ROMs, etc.): (i) import duty ( 11 ) at a 16 % rate over the CIF value; (ii) federal excise tax ( IPI ) at a 15% rate over the CIF plus II, and (iii) state value-added tax ( ICMS ) at a 18% rate over the CIF plus II plus IPI (ICMS rates vary from State to State; in the State of Sao Paulo the applicable rate is 18% over twice the value of the carrier media). Further to Ordinance No. 181/89, there is also Decree No. 2,498 of February 13, 1998, which regulates the application of the WTO Valuation Agreement. Article 20 of Decree No. 2,498/98 makes specific reference to Decision 4.1 of the GATT Valuation Committee and provides that the customs value of the carrier media containing data or instructions for data processing equipment shall be determined solely on the value of the carrier media, provided that the value of the data and instructions is separately stated in the acquisition document. On paying the license fees the Brazilian subsidiary in addition to withholding the 15% income tax, ISS varying from 2 to 5%, depending on where licensee is located, and to the 9,25% PIS and COFINS. Transfer pricing issues will also apply to the fee payment to the parent. 2.2.3 Just-in-Time Sales The U.S. seller may opt to export the products for deposit in a bonded warehouse in Brazil. The goods remain deposited in the bonded warehouse in the name of the U.S. seller and either a Brazilian subsidiary or directly the customer may act as the importer of the goods deposited. Under the bonded warehouse regime, imported products are stored in an authorized place and the payment of taxes is deferred (import duty, IPI, PIS, COFINS and ICMS). For tax purposes, the storing of products in the bonded warehouse does not correspond to an importation process fully carried out. This will occur only upon removal of the products from the bonded warehouse, Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 9

on which occasion they will be considered nationalized products. Only then all taxes levied on the importation will be due. With respect to products to be exported or re-exported directly from the bonded warehouse, no import taxes and duties will apply. The use of this system offers a number of advantages, such as: (i) (ii) (iii) the duties and taxes will only be due upon removal of the products from the bonded warehouse (nationalization), if any; the products will be at the importer s disposal, in the country, with the possibility of being exported to other countries without being nationalized; the goods may remain in the bonded warehouse for the period of one year, renewable for a maximum term of three years. The operations with bonded warehouses allow the exporter to mainta in legal title to the products deposited until customs clearance. The parties involved in operations with bonded warehouses: (i) (ii) (iii) (iv) consignor: the foreign exporter of the goods to be deposited in the bonded warehouse; consignee: the importer; depositary bailee: the company authorized to operate a bonded warehouse, responsible for the safekeeping of the goods deposited, and purchaser: the legal entity who purchases goods deposited in the bonded warehouse (the purchaser and the consignee may be the same entity depending on the structure of the specific operation). Goods that are shipped to Brazil for deposit in a bonded warehouse must be accompanied by a pro-forma invoice that expressly states (i) that the goods will be deposited in a bonded warehouse upon arrival in Brazil; and (ii) that the goods do not have foreign exchange coverage. For removal of the goods from the bonded warehouse, a definitive invoice will be issued with exchange coverage. Payment for the goods will be remitted abroad based on the definitiv e invoice. Although the foreign exporter will retain legal title to goods deposited in a bonded warehouse, the Brazilian consignee will be responsible for those goods until they are nationalized; as a result, the consignee will also be responsible for paying the applicable storage fees. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Brazil 10

www.bakermckenzie.com Baker & McKenzie has been global since our inception. It is part of our DNA. Our difference is the way we think, work and behave we combine an instinctively global perspective with a genuinely multicultural approach, enabled by collaborative relationships and yielding practical, innovative advice. With 3,900 lawyers in 39 countries, we have deep understanding of the culture of business the world over and are able to bring the talent and experience needed to navigate complexity across practices and borders with ease. Baker & McKenzie International is a Swiss Verein with member law firms around the world. In accordance with the common terminology used in professional service organizations, reference to a partner means a person who is a partner, or equivalent, in such a law firm. Similarly, reference to an office means an office of any such law firm. 2010 Baker & McKenzie All rights reserved.

Latin American Tax Seminar Miami, March 2010 Cross-Border Buy-and-Sell Transactions Chile Miguel Zamora

Contents Cross Border Payments...1 I. Response to Questionnaire on Proposes Cases and Business Structures....1 Response to Questionnaire on HSI case, Commission v/s Buy-sell Structure....1 Response to Questionnaire on CSI case...3 II. Tax Treatment to Cross Borders Payments under Chilean Domestic Legislation....6 1. Brief Introduction to Chilean Income Tax System...6 2. The Withholding Tax applicable to Cross Border Payments...6 3. Capital decrease...9 III. Treaty law and cross border payments...10 1. Chile has the following Tax Treaties...10

Cross Border Payments 1 1 The information contained in this document is intended to provide a brief and general overview of this subject. In some cases it may not represent the legal and tax opinions of Baker & McKenzie s Santiago Office. This document was updated on February 2010.

I. Response to Questionnaire on Proposes Cases and Business Structures. Response to Questionnaire on HSI case, Commission v/s Buy-sell Structure. 1. Commission structure. a) What are the tax consequences for HSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc. Income arising from the sales with customers located in Chile is not taxable in Chile as HIS does not have a PE in Chile. No relevant tax consequences other than likely paying VAT on the marketing and technical assistance fees payable to its Chilean subsidiary. In this regard, the marketing and technical assistance fees payable to its Chilean subsidiary will be subject to a 19% VAT, which may not be recovered by HIS in Chile as HIS is not a VAT registered taxpayer. It is possible that such marketing and technical assistance services may be considered by Customs as export services as such subject to a VAT exemption. As a general rule, commission agent services are not accepted by Customs as export services but the marketing and technical features of the local subsidiary activity may allow for such qualification.. b) What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The Chilean subsidiary s income derived from the marketing and technical assistance fees would be subject to Corporate Tax at a 17% rate. In addition, it must obtain VAT enrollment from the taxing authority and surcharge the VAT to HSI on its marketing & technical services fees. c) Are there any permanent establishment issues that the client should be aware of? Chile and the U.S. have recently signed a tax treaty. Despite the exclusivity of the local subsidiary in regards to its parent company HSI, the fact that its activity its auxiliary and preparatory in nature will prevent any PE formation in Chile under the PE tax treaty rules. d) Are there any customs duties or customs valuation issues that the client should be aware of? As a general rule no, as the importer would be each customer directly HSI should disclose a separate value to customers on the hardware and basic software and on any additional software. Such information is for Customs valuation and application on the Tariffs only on the value of the hardware. e) Are there any transfer pricing issues that the client should be aware of? Only in connection with the amount of the marketing and technical assistance fees payable to the local subsidiary. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 1

2. Buy-sell structure a) What are the tax consequences for HSI under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Income arising from the sales with the local subsidia ry is not taxable in Chile as HIS does not have a PE in Chile. The 49% discount may create an audit from a Transfer Pricing perspective both before Customs and for Tariffs and VAT on import purposes and from the U.S. tax authority if considering that such discount is not Arm s Length and is subsidizing the Chilean subsidiary. No PE risk is involved under Buy-sell structure. b) What are the tax consequences for the local subsidiary under the buy-sell structure? (Income tax, value added tax, gross turnove r taxes, stamp tax, etc.) The Customs authority may argue that the declared price is not Arms Length and therefore notifying tax deficiencies on import VAT and eventual Tariffs. Such assessment from Customs should affect the cost of inventory of the local subsidiary for Corporate Tax purposes. This is a Transfer Pricing issue and how its principles interplay among external Customs- and internal - Corporate Tax- taxation. c) Are there any permanent establishment issues that the client should be aware of? No. The local subsidiary is carrying on its own business. d) Are there any customs duties or customs valuation issues that the client should be aware of? As explained, there is the risk that Chilean Customs authority finds the 49% discount inconsistent with the Arms Length principle and notifies tax deficiencies claiming VAT and Tariffs differences. e) Are there any transfer pricing issues that the client should be aware of? Please see responses to questions b) and d) above. 3. Which of the proposed structures would better suit the interests of our client from a tax perspective? From a purely tax perspective, the commission structure poses less tax risk. In addition, most of the business revenue from Chile is directly received by HIS. However, commercial reasons and having a formal presence in the country may lead to choose the buy-sell structure. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 2

4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? In the commission structure, the local subsidiary could charge its services directly to Customers to avoid a related payment and the exclusivity with regards to HSI. Response to Questionnaire on CSI case. 1. Commission structure a) What are the tax consequences for CSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Chile has recently signed a tax treaty with the U.S. and once in force the tax consequences particularly the rate amounts may be reduced. According to domestic tax law, the license fee on computer software paid to CSI will be subject to a 15% WHT. The customer must act as withholding agent. The WHT is only assessed on the intangible component of the software. When and if imported, Tariffs and VAT will be assessed on the physical support of the software. CSI should be able to credit in the U.S. the Chilean WHT paid and further would not be able to recover the 19% VAT surcharged in Chile on the commission payment to its local subsidiary. No risk of PE and not TP risk on the license fee charged to customers as they are unrelated parties. b) What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The local subsidiary will pay Corporate Tax on the fee received from CSI. In addition, it will have to surcharge 19% VAT to CSI on the commission fee. c) Are there any permanent establishment issues that the client should be aware of? No. d) Are there any customs duties or customs valuation issues that the client should be aware of? Please see response to question a). e) Are there any transfer pricing issues that the client should be aware of? Only on the amount of the commission fee. The majority of the Chilean business income i.e. the license fee, is not subject to TP risk as it is charged to an unrelated party. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 3

2. Sublicensing structure. a) What are the tax consequences for CSI under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Chile has recently signed a tax treaty with the U.S. and once in force the tax consequences described below, particularly the rate amounts, may be reduced. According to domestic tax law, the license fee on computer software paid to CSI in a related party context is subject to a 30% WHT. As described, the tax treaty between Chile and the U.S. is likely to reduce such rate to 10%. The local subsidiary must act as withholding agent. The WHT is only assessed on the intangible component of the software. When and if imported, Tariffs and VAT will be assessed on the physical support of the software. CSI should be able to credit in the U.S. the Chilean WHT paid. No risk of PE should exist and a TP risk on the license fee amount charged to its local subsidiary will exist as they are related parties. b) What are the tax consequences for the local subsidiary under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The local subsidiary for Corporate Tax purposes will expense the license fee paid to CSI, including the WHT. In turn, its revenue will be derived from the sub-license fee charged to its customer. In addition, it will have to surcharge 19% VAT from the sub-license. c) Are there any permanent establishment issues that CSI should be aware of? No, as the local subsidiary is carrying on its own business. d) Are there any transfer pricing issues that the client should be aware of? Yes. The license fee paid to CSI by its local subsidiary is subject to TP review. e) Are there any customs duties or customs valuation issues that the client should be aware of? Yes. On the entrance of the software into Chile, import VAT and Tariffs if any must be assessed only on the physical support of the software. The basic software i.e. the operational system for the hardware is subject to Customs taxes as considered part of the hardware itself. Based on the above-mentioned rules, the tax issue among software is the licensee fee amount and the WHT. 3. Which of the proposed structures would better suit the interests of our client from a tax perspective? It seems that having a direct license with the customer avoids the majority of the tax risks described above. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 4

4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? To use the commission model and have the local subsidiary carrying on customization and maintenance directly charged to the local customer. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 5

II. Tax Treatment to Cross Borders Payments under Chilean Domestic Legislation. 1. Brief Introduction to Chilean Income Tax System 1.1 The Chilean Income Tax Law (ITL) combines two principles. Individuals and juridical entities resident or domiciled in Chile are subject to taxation on their worldwide income regardless its source. Individuals and juridical entities neither resident nor domiciled in Chile are subject to taxation only on their Chilean-source income. Foreign individuals resident in Chile, however pay taxes solely on their Chilean-source income during their first 3 years of permanence in the country, counted as from their entrance. Said term may be extended on an exceptional basis by the Regional Director of the Chilean tax authority (Servicio de Impuestos Internos or SII). 1.2 The ITL is structured as an integrated system. Business income taxation is divided into two levels: First, at the business entity or corporate level a 17% rate Corporate Tax (called First Category Tax) is assessed on a yearly basis on the entity s net taxable income determined on accrual basis in accordance with the ITL and full accounting records (on exceptional basis, Corporate Tax is based on presumed income under the ITL and accordingly no accounting records are needed). This 17% Corporate Tax is creditable against the second level taxation. Second level of taxation takes place only when business profits are effectively distributed or deemed distributed to the ultimate business owners. If they are resident individuals such as partners or shareholders of the distributing business entity they are subject to Surtax. If such business owners are non- resident individuals or foreign juridical entities such as partners or shareholders the Withholding Tax applies. The effective rate payable on profits remitted abroad to a non-resident partner or shareholder, as the case may be, is normally 35% (17% being payable at the time profits were accrued at the business level and the balance [35%, less 17% credit] due on the remittance or deemed withdrawal of the profits overseas). 1.3 According to this structure, in addition to the 17% Corporate Tax paid at the business entity level, there are no income taxes applicable to undistributed business profits or to business profit distributions made by a business entity to another business entity which does not qualify as the ultimate business owner. Internal double taxation is thus avoided. Further, under some circumstances, the ultimate business owner may be entitled to a tax deferral on profit remittances which are reinvested in another business entity within twenty days. Finally, consistent with this two level integrated structure, non-deductible expenses and amounts which are deemed to be a covert profit distribution are deemed as withdrawn and penalized with second level taxation. These amounts are subject to a special 35% tax in the case of Chilean corporations. 2. The Withholding Tax applicable to Cross Border Payments. 2.1 In addition to the Withholding Tax (WHT) affecting profit distributions abroad, the WHT is payable by non-resident individuals and entities, on Chilean-source business income withdrawn from Chile, paid from Chile, made available for or remitted abroad. This tax must be withheld by the Chilean resident payer. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 6

2.2 Withholding Tax -normally assessed at a 35% rate - is assessed on many cross border payments. The most relevant taxable events and rates are the following: 2.2.1 Dividends. A 35% rate is applied to profit or dividend withdrawals from companies and other permanent establishments existing in Chile. As explained in 1.2. above, in case Corporate Tax (17%) is paid on the above income, this amount is creditable against the Withhold ing Tax. 2.2.2 Interest. A 35% rate is applied to interest payments made abroad. The rate is 4% in the case of credits granted by international banks or financial institutions as defined by the tax authority regulation, balances on imported goods prices, bonds or debentures issued in foreign currency by Chilean companies or by the Chilean Central Bank or the Chilean State. However, when the debtor of foreign credits is a financial institution incorporated in Chile, which uses the funds in turn to grant a credit abroad, no tax is applied to the interest payments made to the foreign lender. A sort of thin capitalization rule exists, aimed to restrict the application of the 4% rate in cases of excess related indebtedness. This rule was designed to curtail tax strategies employed by foreign investors based on a very high ratio of related indebtedness. This rule applies to the excess of related indebtedness in case the debt to equity ratio is 3:1 or more. In the event of excessive related indebtedness potentially subject to the 4% rate, interest payments corresponding to the excess will be subject to a special 31% tax, in addition to the 4% rate. The ITL expressly allows the Chilean payor to deduct as necessary expense the 31% tax paid. For these purposes, related indebtedness is deemed to exist in the following circumstances: (a) the creditor or debtor, directly or indirectly, own 10% or more of the capital or the profits of the other; (b) the creditor or debtor are under a common control (the comptroller directly or indirectly own 10% or more of the capital or the profits); (c) in financing operations guaranteed with cash a cash equivalents (operations known as back to back ), but excluding project financing; and, (d) loans obtained from an entity incorporated in a low tax jurisdiction. 2 Due to the restriction of the related party financing concept and other rules introduced by Congress in this respect, for the purpose of determining the 3:1 ratio, the following loans will not be considered: (a) loans granted by unrelated foreign or international banks or financial institutions (unless domiciled in a tax haven, or if there is a back to back arrangement); (b) loans subject to the general 35% withholding rate; (c) loans granted by international multilateral financial institutions, and (d) leasing agreements subject to the 1.75% withholding rate. This rule also does not apply to debtors whose line of business has been qualified as of a financial nature by the Ministry of Finance. 2 Law 19.738 dated June 19, 2001. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 7

2.2.3 Royalties. Under Article 59 of the ITL, a 30% withholding tax rate is assessed to all payments made by Chilean residents to non-residents for the use of trademarks, patents, formulae and other similar items, whether consisting in royalties or any other kind of remuneration 3. This rate is reduced to 15% in respect to payments for the use, enjoyment and exploitation in Chile of invention patents, utility models, industrial drawings and designs, layout-design (topographies) of integrated circuits, new vegetable varieties and computing engineering programs or software and such professional or technical services rendered by a person or entity with know how on a science or technique which is render through an advice, report or plan. Any payments to related party or common controlled companies, or to companies located in tax havens or in non-cooperative territories forming the black list, will continue being subject to a 30% rate. 4 In addition, a 20% rate applies to amounts paid abroad to foreign producers and/or distributors for materials to be broadcasted in television or cinema. Under Article 31 N 12 of the ITL a 4% limit is set forth to the deductibility of royalties payments made abroad. Said limit does not apply: (i) if no relation exist between the payor of the royalty and the beneficial owner during the exercise in which the royalties were paid; and, (ii) if in the country of residency of the beneficial owner of the royalty, income is subject to Income Tax with rates equal or greater than 30%. 2.2.4 Services fees. 35% of service fees paid abroad. A reduced 15% rate (reduced in 2007 from 20%) is assessed to services paid abroad for engineering or technical works; and for the professional or technical services rendered by an advice, report or plan. Any payments to related party or common controlled companies, or to companies located in tax havens or in non-cooperative territories forming the black list, will continue being subject to a 20% rate. 2.2.5 Lease payments. 1.75% of lease payments made by lessees under certain capital assets leases of imported goods. The capital assets even if exempt from Tariffs either under Custom domestic Law or under a Free Trade Agreement entered into by Chile have to comply with the requirements of a Customs benefit that allows to pay in installments the Tariffs that arise or would arise during the assets import. 2.2.6 Insurance premiums. A 22% rate applies to premiums paid to foreign insurers on insurance policy covering risks of assets sited in Chile or persons domiciled in Chile. In case of reinsurance premiums the rate is only to 2%. 2.3 A number of cross border payments are exempt from the Withholding Tax 5. For example, amounts paid abroad for: (i) freights; (ii) boarding and disembarks costs; (iii) storage; (iv) sampling and analysis of products; (v) insurances and reinsurance premiums; (vi) commissions; (vii) international telecommunications; (viii) smelting, refining or subjecting Chilean products to 3 Please note that the ITL is construed on the use or right or privilege to use language, prevailing the OECD guidelines of 1967. 4 In case of engineering services or technical assistance, this rate will be 20%. 5 See Article 59 N 2 of the ITL. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 8

other special procedures, are exempt from Withholding Tax. The exemption also applies in case of amounts paid for: (i) exportable assets and services; (ii) publicity and promotion (iii) market analysis; (iv) technological and scientific research and; (v) attorneys fees only with respect to administrative and/or judicial representation. 2.3.1 Reporting to the SII. Ruling N 01 issued by the SII on January 3, 2003 (Ruling N 1) stated that all those operations exempted from Withholding Tax pursuant to Article 59 N 2 of the ITL must be reported to the SII before 15th March of each year by means of the presentation of a Sworn Statement contained in the Tax Form N 1854 so called Yearly Sworn Statement on Exemption of Additional Tax, and Yearly Complementary Sworn Statement for Professional Associations. 3. Capital decrease. 3.1 General. This type of operation may be achieved in any type of juridical entities (LLP, stock corporations, and registered branches) and paid in cash or in in-kind payment (in which case FMV should be considered). It requires the amendment of the by-laws of the corresponding entity. The capital decrease must be reported to the SII as a prior authorization from the SII is required under Article 69 of the Tax Code. A capital decrease does not imply termination of the business or the dissolution of the legal entity. 3.2 Taxation. Returns of capital made by Chilean entities to their owners neither domiciled nor resident in Chile are characterized as taxable profit distributions insofar the entity has undistributed tax earnings (either capitalized or not). Accordingly, capital returns up to the amount of the tax earnings of the entity are characterized as a dividend or profit withdrawal subject to 35% WHT, with a credit of the Corporate Tax effectively paid. Capital return in excess of the FUT qualifies as a non taxable event. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 9

III. Treaty law and cross border payments. 1. Chile has the following Tax Treaties. 1.1 In Force. Argentina, Brazil, Canada, Colombia, South Korea, Croatia, Denmark, Ecuador, Spain, France, Ireland, Malaysia, Mexico, Norway, New Zealand, Paraguay, Peru, Poland, Portugal, UK and Sweden. 1.2 Other Treaties DTT with Belgium, Russia, Thailand, the United States and Switzerland are already signed. DTTs with South Africa has concluded its negotiation. DTTs with Australia, Austria, China, Cuba, Finland, the Netherlands, Hungry, India, Italy, Kuwait, Czech Republic, Uruguay and Venezuela, are reported to be under negotiation by the SII. 1.3 Dividends. 1.3.1 Due to the integrated tax system of Chilean taxation, treaty partners have agreed to consider Chilean income taxes as one level of taxation; therefore, the rates agreed under the DTTs for dividends do not affect Chilean taxation of Corporate Tax and WHT. In fact, Chile has made a reserve in all its DTTs in force (based on the OECD model except with Argentina) in the sense that the rates agreed upon those DTT for dividends do not apply to Chile so long as the Corporate Tax is creditable against WHT. 1.3.2 The following are the rates for dividends agreed under some of the DTTs, which apply to the Chilean treaty counterparts and may apply to Chile in the future if integration is abandoned. Country Canada Mex. Ecuador Poland Brazil Peru Norway S. Spain U.K. Sweden Denmark Croatia N. France Korea Zealand Related 10% 5% 5% 5% 10% 10% 5% 5% 5% 5% 5% 5% 5% 15% 15% Non - Related 15% 10% 15% 15% 15% 15% 15% 10% 10% 15% 10% 15% 15% 15% 15% 1.4 Interest 1.4.1 The following are the rates on interests agreed under some of the DTTs. Country Canada Mex. Ecuador Poland Brazil Peru Norway S. Korea Spain U.K. Sweden Denmark Croatia N. Zealand France 15% 10% 15% 15% 15% 15% 15% 10 and 15% 5 and 10% 5 and 15% 5 and 15% 15% 5 and 15% 10 and 15% 5 and 15% 1.4.2 Accordingly, the general 35% rate of Withholding Tax is reduced to a 15% or 10% rate. If the 4% rate is applicable under the ITL such 4% rate will prevail over the 15%, 10% or 5% rate Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 10

agreed in the DTT. The DTT reduction may arise directly from its text or as a result of the application of a most favorable nation clause. That is precisely the effect of the lower rates agreed by Chile with Spain 6. Accordingly, a case by case analysis is required to determine the effective rate to be applied. 1.5 Royalties. 1.5.1 The following are the rates on royalty payments agreed under some of the DTTs. Country Canada Mex. Ecuador Poland Brazil Peru Norway S. Spain U.K. Sweden Denmark Croatia N. France Korea Zealand Leasing N/A N/A 10% 5% N/A N/A 5% 5% 5% 5% 5% 5% 5% N/A 5% Equip General 15% 15% 15% 15% 15% 15% 15% 15% 10% 10% 15% 10% 10% 10% 10% 1.5.2 Accordingly, the general 30% rate of WHT is generally reduced to a 15% rate. The DTT reduction may arise directly from its text or as a result of the application of the most favorable nation clause. Accordingly, a case by case analysis is required to determine the effective rate to be applied. 1.6 Services Fees. 1.6.1 Services rendered in Chile or abroad by non residents are subject to a 35% rate of WHT unless such services are considered as technical assistance or engineering works, in which case a reduced 15% (or exceptionally 20% in case of a related payment) rate is assessed. In general terms, under the DTTs following the OECD Model Treaty, taxation takes place only in the country of residence of the entity or individual rendering the services. Special attention is required with some treaties, like the one with Brazil, which include payments for technical services within the definition of royalty. 1.7 Treaty Shopping. Chilean DTTs do not contain a specific Limitation of Benefits article. Nevertheless, Treaty Shopping is not allowed. DTTs entered into by Chile generally include a provision stating that in the event it s provisions are used in such a way that provide for benefits not contemplated or included in such DTT, the competent authorities shall recommend specific modifications to it. In addition, certain provisions may not apply if the main purpose or one of the main purposes of any person concerning the creation or assignment of the rights in respect of which the income is paid was to take advantage of the respective provision by means of that creation or assignment. Further, the concept of beneficial owner of the respective income contained in the DTT, as interpreted by the SII constitutes an obstacle to Treaty Shopping 7. 6 The lower rates agreed with Spain implied a domino effect in the Chilean tax treaty net work. In this regard, the SII had to issue two Circular Letters which regulate such domino effect in the rest of the tax treaties (See Circular Letter N 62 dated November 24, 2005 and Circular Letter N 33 dated June 30, 2005). 7 See Circular Letter N 32 dated May 25, 2001 regarding the DTT Chile-Canada. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 11

1.8 Reporting to the SII. Ruling N 9 issued by the SII on January 29, 2004 (Ruling N 9) which provides for the obligation to submit a Yearly Sworn Statement in order to report to the SII the withholding of the amounts that, pursuant to Article 74 N 4, 79 and 82 of the ITL, must be withheld. For these purposes, the Chilean resident payer, before 15th March of each year, must present to the SII the Tax Form N 1850 even in cases of applications of DTT provisions. This paper is only a general overview of the Chilean tax aspects of certain crossborder payments. Laws referred herein may be subject to amendments, exceptions, qualifications, supplemental rules and guidelines which are not covered in this document. It does not aim to cover all cross-border payments nor all tax effects associated to them. Any persons considering investing or doing business in Chile should discuss with their Chilean tax advisors the tax ramifications of the proposed business or investment. Baker & McKenzie Cross-Border Buy-and-Sell Transactions - Chile 12

www.bakermckenzie.com Baker & McKenzie has been global since our inception. It is part of our DNA. Our difference is the way we think, work and behave we combine an instinctively global perspective with a genuinely multicultural approach, enabled by collaborative relationships and yielding practical, innovative advice. With 3,900 lawyers in 39 countries, we have deep understanding of the culture of business the world over and are able to bring the talent and experience needed to navigate complexity across practices and borders with ease. Baker & McKenzie International is a Swiss Verein with member law firms around the world. In accordance with the common terminology used in professional service organizations, reference to a partner means a person who is a partner, or equivalent, in such a law firm. Similarly, reference to an office means an office of any such law firm. 2010 Baker & McKenzie All rights reserved.

LATax 2010 Cross border buy-and-sell transactions questionnaire

Contents Response to Questionnaire on HSI case, Commission v/s Buy-sell Structure....1 1. Commission structure....1 2. Buy-sell structure...2 3. Which of the proposed structures would better suit the interests of our client from a tax perspective?...2 4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client?...3 Response to Questionnaire on CSI case...3 1. Commission structure...3 2. Sublicensing structure...4 3. Which of the proposed structures would better suit the interests of our client from a tax perspective?...5 4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client?...5

Response to Questionnaire on HSI case, Commission v/s Buysell Structure. 1. Commission structure. a) What are the tax consequences for HSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) As marketing and technical services will be provided by the local subsidiary in Colombia, those services will be taxed with VAT at a rate of 16%. The VAT paid by HSI could not credited, thus it will constitute a higher amount of the service. b) What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Colombian subsidiary s income will be taxed at 33%. Colombian subsidiary shall collect the invoiced VAT and paid it to the Tax Authority. Gross income received for the marketing and technical services will be taxed with industry and commerce tax in the jurisdiction where the services would be rendered. The rate varies depending on the municipality, in average is 1%. c) Are there any permanent establishment issues that the client should be aware of? From a Colombian tax standpoint, there is no provision that defines a permanent establishment for tax purposes. However, the Colombian Code of Commerce sets a list of activities that qualify as permanent activities. The consequence of carrying out such activities in Colombian territory is the obligation of incorporating a branch (or an affiliate) in Colombia. Only after the entity is incorporated in Colombia, would such entity be liable for Colombian tax obligations as a domiciled entity. In this event, no PE issues arise to HSI. d) Are there any customs duties or customs valuation issues that the client should be aware of? As a general rule no, as the importer would be each customer directly, HSI should disclose a separate value to customers on the hardware and basic software and on any additional software. Such information is for Customs valuation and application on the tariffs only on the value of the hardware. e) Are there any transfer pricing issues that the client should be aware of? Only in connection with the amount of the marketing and technical assistance fees payable to the local subsidiary. Baker & McKenzie LATax 2010 Cross border buy -and-sell transactions questionnaire 1

2. Buy-sell structure a) What are the tax consequences for HSI under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Income derived from the sale of the hardware to Colombian subsidiary will not be taxed in Colombia, as it is not Colombian source income. The VAT is paid on import by the Colombian subsidiary. No P.E. issues for HSI. b) What are the tax consequences for the local subsidiary under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Transfer pricing issues may arise for the Colombian subsidiary as the offered discount is high and perhaps it will not comply with arms s length principle. VAT (16%) will be paid on the import of the hardware, and it will be calculated on the amount declared plus tariff. If the imported hardware classifies as personal computer (desk or laptop) and its individual value does not exceed 82 UVT (approx. US$1,000), those will be excluded of VAT. Local subsidiary shall invoice VAT (16%) to the customer, collect it and paid to the Tax Authority, unless hardware classifies as personal computer (desk or laptop) and its sale price does not exceed 82 UVT (approx. US$1,000). VAT paid on import could be credited by the Colombian subsidiary against its invoiced VAT. Gross income received by the Colombian subsidiary from the sale of computers will be taxed with industry and commerce tax in the municipality in which the hardware will be sold. c) Are there any permanent establishment issues that the client should be aware of? The Colombian subsidiary is carrying on its own business. d) Are there any customs duties or customs valuation issues that the client should be aware of? No. e) Are there any transfer pricing issues that the client should be aware of? Please see responses to questions b) above. 3. Which of the proposed structures would better suit the interests of our client from a tax perspective? From a tax standpoint the commission structure will be more efficient as it generates a lower tax burden. Baker & McKenzie LATax 2010 Cross border buy -and-sell transactions questionnaire 2

However, commercial reasons and having a formal presence in the country may lead to choose the buysell structure. 4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? In the commission structure, the local subsidiary could charge its services directly to Customers to avoid a related payment and the exclusivity with regards to HSI. Response to Questionnaire on CSI case. 1. Commission structure a) What are the tax consequences for CSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Under Colombian tax regulations, with respect to software revenues in particular, the single regulation regarding software revenues specifically provides that the exploitation of computer programs is subject to withholding tax at an effective rate of 26.4%. This rate is comprised of a 33% income tax on 80% of the compensation, which equals 26.4%. Regarding VAT, under current regulations there are some services that even if rendered from abroad, are deemed for VAT purposes as rendered in Colombia, if the beneficiary of the services is located in Colombia. The license of intangibles is covered by this provision. However, such VAT is not to be included in the invoice issued by the foreign entity providing the license (as it is not liable for Colombian VAT). The VAT is collected under the reverse charge mechanism: the Colombian customer calculates the VAT, and is liable for its payment. No amount is detracted from the payment to be made to the foreign entity. This VAT can be credited by the local customer if the customer is a VAT liable entity. No industry and commerce tax would be triggered on the license of intangibles from abroad or on the sale of intangibles abroad. b) What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The local subsidiary will be subject to income Tax on the fee received from CSI. In addition, Colombian subsidiary will have to charge VAT at 16% to CSI on the commission fee. Gross income received for the marketing and technical services will be taxed with industry and commerce tax in the jurisdiction where the services would be rendered. The rate varies depending on the municipality, in average is 1%. c) Are there any permanent establishment issues that the client should be aware of? No. Baker & McKenzie LATax 2010 Cross border buy -and-sell transactions questionnaire 3

d) Are there any customs duties or customs valuation issues that the client should be aware of? No, as the importer would be each customer directly. e) Are there any transfer pricing issues that the client should be aware of? Only on the amount of the commission fee. The royalty for licensing should not meet arms s length principle, as it is charged to an unrelated party. 2. Sublicensing structure. a) What are the tax consequences for CSI under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Payments for royalties will be subject to a 26.4% income tax withholding on the amount paid. License of intangibles is taxed with VAT (16)%. However, such VAT would not be invoiced by CSI. The VAT is collected under the reverse charge mechanism: the Colombian subsidiary calculates the VAT, and is liable for its payment. No amount is detracted from the payment to be made to the foreign entity. This VAT can be credited by the local subsidiary if the subsidiary is a VAT liable entity. No industry and commerce tax would be triggered on the license of intangibles from abroad or on the sale of intangibles abroad. No risk of PE. b) What are the tax consequences for the local subsidiary under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The revenue derived form the sub-license fee charged to its customers will be subject to income tax at 33% rate. The Colombian subsidiary will be able to deduct the royalties paid to CSI in the calculation of its income tax return. Colombian subsidiary must invoice VAT (16%) on the fee charged to the Colombian customer, and it will have to collect and pay it to the Tax Authority. Revenues received by the Colombian subsidiary for the sub-licensing will be taxed with industry and commerce tax in the municipality in which the sub-license is granted. The rate varies depending on the municipality, an average rates is 1%. c) Are there any permanent establishment issues that CSI should be aware of? No, as the local subsidiary is carrying on its own business. d) Are there any transfer pricing issues that the client should be aware of? Yes. The license fee paid to CSI by the Colombian subsidiary is subject to TP review. Baker & McKenzie LATax 2010 Cross border buy -and-sell transactions questionnaire 4

e) Are there any customs duties or customs valuation issues that the client should be aware of? Yes. On the entrance of the software into Colombia, import VAT and Tariffs if any must be assessed only on the physical support of the software. The basic software i.e. the operational system for the hardware is subject to Customs taxes as considered part of the hardware itself. 3. Which of the proposed structures would better suit the interests of our client from a tax perspective? The commission structure, because it reduces the amount of taxes and responsibilities of the Colombian subsidiary. 4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? N/A Please refer to the aforementioned Baker & McKenzie LATax 2010 Cross border buy -and-sell transactions questionnaire 5

www.bakermckenzie.com Baker & McKenzie has been global since our inception. It is part of our DNA. Our difference is the way we think, work and behave we combine an instinctively global perspective with a genuinely multicultural approach, enabled by collaborative relationships and yielding practical, innovative advice. With 3,900 lawyers in 39 countries, we have deep understanding of the culture of business the world over and are able to bring the talent and experience needed to navigate complexity across practices and borders with ease. Contact: Name Email Address Telephone Name Email Address Telephone Name Email Address Telephone Baker & McKenzie International is a Swiss Verein with member law firms around the world. In accordance with the common terminology used in professional service organizations, reference to a partner means a person who is a partner, or equivalent, in such a law firm. Similarly, reference to an office means an office of any such law firm. 2009 Baker & McKenzie All rights reserved.

11th Annual Latin American Tax Conference Miami, FL March, 2010 Venezuelan Tax Issues in Cross-Border Distribution Activities José P. Barnola, Jr. (Caracas)

Table of Contents Introduction...1 A. Direct Sales from Abroad...1 B. Use of an Unaffiliated Local Sales Agent...2 C. Use of an Affiliated Agent or Distributor...3 I. Case 1: Distribution of Computer Hardware...4 A. Background...4 1. Commission structure...4 2. Buy-sell structure...4 B. Questions...4 1. Commission structure...4 2. Buy-sell structure... 13 II. Case 2: Licensing of Software Programs...18 A. Background...18 1. Current commission structure... 18 2. Alternative sublicensing structure... 18 B. Questions...18 1. Commission structure... 18 2. Sublicensing Structure... 22 3. Which of the proposed structures would better suit the interests of our client from a tax perspective?... 26 4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client?... 26

Introduction 1 Distribution of goods into Venezuela presents non-resident sellers with the challenge of identifying the most tax efficient structures for the transactions as their operations evolve to meet changing business objectives. The foreign sellers and local distributors or agents, whether affiliated or unaffiliated, have to deal with income tax, VAT, and custom duties arising from this activity. These tax issues, and the tradeoffs with the company s marketing objectives, become more complex for the foreign seller as its local affiliates become more involved in the distribution activities. Among the primary tax issues that a foreign supplier must take into account in Venezuela are the following: (i) (ii) (iii) (iv) The need to avoid the imposition of income tax on some portion of the foreign company s income on its sales into Venezuela, on the ground that its activities in connection with the sales cause it to have a permanent establishment in the country, The need to avoid non-creditable VAT, particularly in the case of payments to a local sales agent, The need to comply with transfer pricing rules in the event that the local distributor or sales agent is an affiliated party or the seller into the country is located in a low-tax jurisdiction, and to avoid double taxation as a result of the simultaneous application of the transfer pricing rules in its home jurisdiction, and In the case of sales of software, the need to take into account application of the tax and customs rules to payments for the software in question. Transfer pricing adjustments on sales of goods to related parties have the potential for generating huge tax liabilities if tax authorities follow the questionable practice of denying deductions for the entire price of goods sold to a related distributor on the grounds that the transfer price was not correct. A. Direct Sales from Abroad Selling goods from abroad to a distributor in Venezuela, without a local affiliate or a local sales agent, presents the simplest case from a tax standpoint. In that case the seller should be able to structure the transactions so that it has no local income tax or VAT liabilities in Venezuela. Among other things it will be important in that situation for the foreign party to make sure that its employees do not conclude contracts with the local distributors or customers while they are in the country, which could expose the foreign party to local income tax on a portion of its earnings on its sales into the country on the ground that part of its income is attributable to a local tax presence there. The importer of record of the products will generally be subject to import VAT, custom duties and, for some products, excise taxes. In Venezuela a 1% customs fee is also applicable. The rates of custom duties and excise taxes, when applicable, vary depending on the kind of product. The rate of import VAT will generally be 12%, although certain products are subject to a reduced 8%; while other luxury products 1 In this section we follow John A. McLees, Selling Into Latin America, paper presented at the Seminar TAX STRATEGIES FOR LATIN AMERICAN OPERATIONS, Executive Enterprise Institute, Chicago, Illinois, November 9 through 11, 2004. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 1

are subject to a 10% rate in addition to the regular 12% rate. Certain items are exempt from VAT and customs duties, such as medicines. The amount of customs duties will depend on customs valuation rules, which generally rely on transactional value in the case of unrelated party sales. (i) Passage of Title to the Goods After the Enter the Country Passing title to the goods from the foreign party to the local importer of record within Venezuela should not in itself create an income tax exposure for the foreign party in Venezuela. Passage of title to the goods in Venezuela will probably create non-recoverable VAT for the foreign party. (ii) Sale of Goods by the Foreign Party After they Enter the Country The foreign seller will generally be subject to local income taxation if it holds imported goods for sale to customers in Venezuela, whether or not it is able to function as the importer of record under local law, which is not absolutely clear, though income tax may not apply if a tax treaty applies, depending how the Venezuelan Tax Administration interprets the more refined definition of permanent establishment that generally applies under a tax convention. Venezuela has a diverse tax convention network: Austria, Barbados, Belgium, Canada, China, Cuba, Czech Republic, Denmark, France, Germany, Indonesia, Iran, Italy, Korea, Kuwait, Malaysia, Norway, Portugal, Qatar, Spain, Sweden, Switzerland, The Netherlands, Trinidad and Tobago, the United Kingdom, the United States of America and Vietnam. Maintaining stocks of goods for sale to local customers also creates VAT exposures for the foreign seller, regardless of which party is the importer of record. If the foreign party itself is able to operate as the importer of record, then it would generally have the obligation to register with local authorities. If the seller relies on a local party, acting as its agent, to be the importer of record of the goods, it may suffer limitations on the creditability of the import VAT. Bonded warehouse and free trade zone regimes can help in implementing a chain of distribution with these characteristics. (iii) Sales of Software to Local Part ies from Abroad Sales of software from foreign parties to local customers presents special issues regarding the determination of the tax base for imposing customs duties, and the characterization of the payments for the software as sales of goods, payments for use of a copyright or payments for use of other intangible property. In Venezuela customs duties apply only to the value of the media on which the software is encoded, but this treatment may depend on separate identification of this value on the invoice and on a treatment of the remainder of the payment for the software as a license fee and not as a payment for the purchase of goods. For income tax purposes payments for imported software will generally be treated as license payments, subject to withholding tax, unless the software is imbedded in hardware, in which case the price of the software will generally be treated as part of the purchase price of the hardware for income tax and customs purposes. B. Use of an Unaffiliated Local Sales Agent Some products lend themselves to the use a local sales agent, in which case the foreign party sells directly to local customers that are identified by a local agent with or without the authority to conclude contracts on behalf of the seller. The agent typically invoices the foreign party for a fee for its agency services. Apart from the transfer pricing issues that arise in the case of an agent that is an affiliated party, the most significant tax issues that arise from the use of such a sales agent in Venezuela concern the potential Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 2

imposition of VAT on the fee that the local agent invoices to the foreign party and the possible exposure of the foreign party to local income tax liability in the case of an agent that qualifies as a dependent agent and that has the power to conclude contracts for the foreign party. The agent s fees are generally subject to VAT, which would generally be non-recoverable if paid by the foreign party, unless the agency relationship gives rise to an export of services as that is defined under local law, in which case the agency fee may be zero rated or exempt from VAT. The analysis of the income tax issues arising from the use of a local sales agent in Venezuela under local law is similar to that which generally applies under a bilateral income tax convention. If the foreign seller concludes all of its sales contracts from its foreign location and the local agent has no power to conclude contracts on behalf of the seller, then the seller should not be subject to local income tax liability. Use of an agent that has the authority to conclude contracts on behalf of the foreign seller will generally result in the creation of a permanent establishment for the foreign party and the imposition of income tax on the foreign party if the agent is a dependent agent (i.e. one that has a close relationship with the seller, in contrast to, say, a shipping agent whose business is to conclude transportation contracts for many parties). Note that if the local agent is in fact an employee of the foreign seller, then the foreign seller will generally have a permanent establishment in Venezuela whether or not the agent has the power to conclude contracts on behalf of the foreign party, on the ground that the foreign company has a fixed place of business in the country, which is an independent ground for creating a permanent establishment. C. Use of an Affiliated Agent or Distributor If an affiliated party acts as the local agent or distributor, then the agency fee or the price paid by the distributor is subject to scrutiny under the local transfer pricing rules and the transfer pricing rules of the foreign seller s home country. As noted above, enforcement of the local transfer pricing rules can have a disastrous effect if the Venezuelan Tax Administration denies an affiliated distributor its entire deduction for the purchase of goods for resale on the ground that the transfer price that the parties have used is incorrect, as has happened in a number of cases that are still pending in Mexico. As a practical matter, having an affiliate in the country can also give rise to new exposure to a permanent establishment for the foreign seller if foreign employees of the foreign seller use the premises of the local affiliate to engage in marketing activity in the country, even if they do not conclude contracts while they are present in Venezuela. Following are two hypothetical situations that illustrate the customs and tax issues of structuring distribution agreements in Venezuela. The first case refers to the distribution of tangible personal property structured as a buy-sell operation vs. a commission. The second case refers to the licensing of software programs. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 3

I. Case 1: Distribution of Computer Hardware A. Background Hardware & Software, Inc. ( HSI ) is a US Company that designs and manufactures computer workstations and servers ( Assets ) that are sold to customers in the United States and abroad. HSI is planning to incorporate subsidiaries in Argentina, Brazil, Chile, Colombia, Mexico and Venezuela. The subsidiary should serve as a link between HSI and its customers in each jurisdiction. For operating purposes, HSI would like that the local subsidiaries may work using the following structures: 1. Commission structure The local subsidiaries would provide HSI with marketing and technical services to HSI. The costs related to those services should be billed to HSI with a markup of 10%. The products would be delivered directly by HSI to its clients. The clients would import the products into their respective countries and pay the price to HSI. 2. Buy-sell structure The local subsidiaries would act as buy-sell distributors for HSI, entering consequently into contracts with the customers in their own name. HSI would sell to the local subsidiaries at US list price less a discount of 49% and the local subsidiaries act as the importer of record of the products. B. Questions 1. Commission structure a. What are the tax consequences for HSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) (1) Income tax The sale from HSI to the customer would not be subject to income tax liability in Venezuela because it would be deemed a non-territorial transaction. From the outset of the Venezuelan income tax legislation, the Tax Administration has developed the concept of an export sale, which is not subject to income tax liability. The elements of an export sale are a Venezuelan purchaser who orders goods from a foreign seller, and the latter who subsequently exports the goods to Venezuela. Where those elements are present, the income derived from the sale of goods by the foreign exporter to the Venezuelan purchaser has been deemed not subject to Venezuelan income tax liability. In reaching this conclusion, the Administration has not focused upon either the place where the contract is made or the situs of title passage, but rather the place where the goods are manufactured, produced or located at the time the sale is perfected. In distinguishing the case of a true export sale from a sale made by a foreign corporation from a stock of goods maintained in Venezuela on consignment, the Tax Administration has said that the latter is: [U]nlike the case of a simple foreign exporter who sells his merchandise on the basis of orders sent directly by the Venezuelan purchaser or through a traveling salesman or an agent of the seller domiciled in Venezuela. In the latter case, the Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 4

foreign exporter is not subject to Venezuelan income tax liability because the sale is deemed to be made outside of Venezuela without regard to whether the goods are consigned to the purchaser or consigned to a banking institution for delivery to the purchaser after payment of a draft or consigned to the seller s agent in Venezuela for the same purpose. 2 Clearly, the language of the ruling indicates that the fact that the sales agent is within Venezuela, that the contract is made in Venezuela, and that the title to the goods passes to the buyer in Venezuela, is irrelevant, provided that the goods are outside of the country at the time the contract is made. In another case in which a Venezuelan buyer purchased machinery manufactured in the United States pursuant to a contract which was executed in the United States, the Tax Administration ruled that the foreign manufacturer s income was not subject to Venezuelan income tax liability, notwithstanding the fact that the machinery was delivered to the buyer within Venezuelan and installed upon the buyer s premises by employees of the seller. 3 In that case, the Tax Administration considered the income to be free of Venezuelan income tax liability, because of the presence of all elements of an export sale. The conclusion that the income derived from an export sale is not subject to Venezuelan income tax liability is fully supported by a leading authority on the grounds that none of the causes giving rise to the income occurred within Venezuela, because the goods had not been manufactured in Venezuela, and the sale had been perfected outside of Venezuela as a result of the acceptance by the seller of the Venezuelan buyer s order. 4 Again, the commentator gave no consideration whatsoever to the situs of title passage as a cause of the exporter s income. Finally, there is no published ruling or case in which the Administration has asserted liability of a foreign exporter on the grounds that title to the goods passed in Venezuela. The case of the export sale must be clearly distinguished from consignment sales in which the income derived by the foreign seller from the transaction is deemed to be subject to Venezuelan income tax liability. In the latter case, however, the foreign seller maintains a stock of goods on consignment in Venezuela. Thus, at the time of purchase by the Venezuelan buyer the goods are physically located in Venezuela. Under these circumstances, the foreign seller is considered to be conducting a business in Venezuela, which subjects the transaction to Venezuelan income tax liability. 5 In our view, sales to be made by HSI to the customers would be deemed to be export sales as the concept has been developed in the Venezuelan Income Tax Law, provided the Assets are located outside Venezuela when the purchase order is accepted notwithstanding title passage in Venezuela. Even if the Assets were physically located in Venezuela when the sales contract is perfected, the gain derived from the sale should not be subject to income tax liability in Venezuela pursuant to the Convention for the Avoidance of Double Taxation between Venezuela and the U.S. ( US Convention ). The gain derived from the sale of the Assets would be characterized as business profits and, consequently, would not be subject to income tax liability in 2 Ministry of the Treasury, Memo IF 28, July 21, 1952. 3 Ministry of the Treasury, Ruling N? 3, in 27 Boletín del Impuesto sobre la Renta at 26. 4 Pedro Tinoco, I Comentarios a la Ley del Impuesto sobre la Renta de Venezuela (1955) at 142. 5 Pursuant to Article 37 of the Income Tax Law, in the case of consignment sales 25% of the sales price would be deemed the seller s net taxable income. If the seller is a corporation, Tariff No. 2 would apply (i.e., 34%), resulting in an effective rate of 8.5% (34% of 25%). Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 5

Venezuela according to Article 7(1) of the Convention, to the extent that HSI does not have a permanent establishment in Venezuela. In order to benefit from the provisions of the Convention, HSI should have available at any time the Venezuelan Tax Administration requires it, evidence of US tax residence. For this purpose, tax residence certificates issued by the US Internal Revenue Service are admitted, translated into Spanish by public interpreter and legalized. The Apostille may replace the legalization. (2) VAT The Venezuelan VAT follows the traditional VAT-type taxes found in most European jurisdictions. All purchases and imports of movable property and services are subject to VAT liability. 6 Currently, the applicable general VAT rate is 12% of the gross price. 7 The actual tax to be paid by each taxpayer is equal to the difference between the taxpayer s output VAT (the VAT it charges to its clients) and its input VAT (the VAT it pays to its providers of goods and services). The importation of the Assets into Venezuela would be subject to VAT liability on the arm slength price of the Assets plus customs duties. The VAT should be paid by the importer of record (i.e., the customer). The VAT paid on the importation would constitute input VAT for the customer. (3) Gross turnover taxes, stamp tax, etc. HIS would not be subject to other taxes in Venezuela. b. What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) (1) Income tax The services rendered by the local subsidiary in Venezuela ( Services ) would be characterized as Venezuelan source services, subject to Venezuelan income tax liability. The determining factor for determining the territoriality of services is the place where the services are rendered. The place where payment is made, the currency of payment, the nationality or domicile of the parties, and the place of execution of the contract, are wholly irrelevant. Accordingly, because the local subsidiary ( Subsidiary ) would perform the Services within Venezuela, the compensation paid in consideration therefor ( Compensation ) would be subject to income tax liability. Because commissioning services are expressly contemplated in Article 2(4) of the Commercial Code, the Services would be characterized as commercial services. Where commercial services are provided by a domiciled corporation (e.g., the Subsidiary), the compensation received thereto would be gross income to the provider and the tax liability would be calculated on normal accounting basis (the Subsidiary would be allowed to deduct any normal and necessary expenses incurred in Venezuela in order to produce the income) by reference to Tariff No. 2 of the Income 6 VAT Law, Articles 1; 4(1) & (5). 7 An additional rate of 10% applies to certain goods deemed to be luxury goods. Certain goods and services are subject to a reduced rate of 8%. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 6

Tax Law. The rates established in Tariff No. 2 are: (i) 15% for the first 2,000 Tax Units ( TUs ); (ii) 22% for the excess of 2,000 until 3,000 TUs and (iii) 34% for the excess of 3,000 TUs. Currently, a TU is equivalent to Bs.F.65,00, subject to subsequent annual adjustments according to the inflation of the preceding fiscal year. According to Withholding Decree 1808, the payment of commissions to Venezuelan companies is subject to a 5% back-up withholding upon payment or constructive payment. 8 However, the Tax Administration has ruled in obiter dictum in two private rulings and without a solid rationale that a non-domiciled company, such as HSI, is not required to act as a withholding agent in Venezuela. 9 In our opinion such position would be aggressive. This is because (i) the statutory provisions do not distinguish between domiciled or foreign persons for the purpose of compliance with formal tax duties (i.e., withholding and filing duties); (ii) the US Convention does not exempt HSI from the compliance with tax formal duties; and (iii) the mentioned rulings are not binding upon the Tax Administration so they can be changed at any time. Failure to withhold would expose the payor (i.e., HSI) to a fine ranging from 100% to 300% of the amounts not withheld, although the possibilities of the Tax Administration imposing a fine are remote because HSI is not domiciled in Venezuela. Normally the applicable fine is the average (i.e., 200%), unless extenuating or aggravating circumstances apply. The Tax Administration may also hold HSI jointly and severally liable HIS income tax on the Compensation. Moreover, in case the fines were imposed a Tax Court should revoke them based upon the error of law theory. In this case HSI could argue that it was acting according to the rulings of the Tax Administration. In any event, in general the statute of limitations in case of fines is four years counted as of January 1 of the year following the year in which HSI should have withheld the applicable tax. Certain events, such as tax audits, would toll the statute of limitations. In order to avoid the exposure described in the preceding paragraph and if HIS wants to adopt a conservative position, it is advisable that HSI complies with the obligation to withhold the applicable income tax on the payment of the Compensation. For these purposes, HSI may appoint an attorney-in-fact in Venezuela to comply with its local withholding and payment duties. (2) VAT Article 1 of the VAT Law establishes that the provision of services to be performed in Venezuela is subject to VAT regardless of the place of execution of the corresponding agreement or the place of payment. Under the VAT Law, services mean any independent activity in which the principal obligations are obligations to perform (obligaciones de hacer). 10 Therefore, the Services rendered by the Subsidiary to HSI would be deemed services subject to VAT at the rate of 12%. The Subsidiary should charge HSI the applicable VAT. The VAT collected would constitute output VAT for the Subsidiary. The Subsidiary would be entitled to offset form its output VAT any input VAT paid to its providers of goods and services. Under the proposed structure, the Subsidiary would remain liable for VAT on both the fixed fee and the reimbursed operating costs. This would be true, even if the Subsidiary is an agent for an 8 Withholding Decree No. 1808, Article 9(2)(b). 9 Ministry of the Treasury, Ruling No. DCR -5-9644-1949 of April 9, 2001; and 82 Boletín Informativo del Ministerio de Hacienda [1947], at 5. 10 Article 4(4). Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 7

undisclosed principal ( comisionista ) under a contract with HSI. In this respect, Article 23 of the VAT Law reads as follows: Without prejudice to the provisions of Title III of this Law, in order to determine the tax base corresponding to each taxable period, all items which are charged or collected in addition to the price agreed upon for the taxable transaction must be included, whatever the nature thereof, and, in particular, the following: 1. (...) expenses of all kinds or the reimbursement thereof, except in the case of amounts paid in the name and for the account of the buyer or the recipient of the service by virtue of a mandate from the latter; (...). (Emphasis supplied). There are, of course, no rules that serve to further clarify the meaning of Article 23 in respect of reimbursable expenses. Clearly, all reimbursable expenses are subject to VAT, except the one limited category that is described in Article 23. In our view, the exception is restricted to the case in which the provider of services advances funds to pay an expense incurred on behalf of the principal, which the principal would be liable for regardless of the service rendered. 11 As an example, in the case of a registration fee which must be paid by a company in respect of a capital increase, the funds paid to the Commercial Registry by the lawyer in the name and for the account of the principal company would fall within the scope of the exception. Where, however, a taxi is used by the lawyer in order to deliver the applicable documents to the Commercial Registry, the reimbursement of the taxi fare does not fall within the excluded category because, in addition to the fact that the payment is not made in the name of the principal, the expenditure would not have been incurred but for the service rendered. It is clear that an agent provides a service to its principal, and this is true regardless of whether the agent acts for a disclosed or undisclosed principal. It would follow that, in either case, the compensation paid to the agent would be subject to VAT. The question of whether reimbursed expenses constitute compensation for services rendered by an agent is governed by Article 23(1). In this regard, no distinction is made between agents for a disclosed or undisclosed principal. For this reason, we believe that the distinction drawn above applies under Article 23(1), regardless of the character of the agent. Thus, where the agent incurs the expense in order to render the service, and is not an expense incurred by the principal, the reimbursement of that expense is taxable compensation rather than a non-taxable repayment of a loan made by the agent to the principal. In order to argue that the expenses that are reimbursed fall within the Article 23(1) exception, it would be essential to adopt the position that, as an example, the lessee of the rented premises and the employer of the personnel is the principal (i.e., HSI) rather than the agent (i.e., Subsidiary). In addition to the problems that the creation of a Venezuelan permanent establishment would raise for HSI, it is unlikely that such an argument would be consistent with the structural objectives of the company in Venezuela, or even tenable otherwise. If, however, it is possible to take this position, all of those expenses would have to be paid in the name of HSI in order to be exempt from VAT pursuant to Article 23(1). That means that HSI 11 Ministry of the Treasury, Ruling No. HGJT-200-1388 of June 6, 1995, in 3 Doctrina Tributaria (1996) at 364-7. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 8

should be party to all agreements in Venezuela that generate the relevant operating expenses. There is no doubt that, from a practical standpoint, such a requirement would be very difficult to meet. (3) Municipal business license tax The Subsidiary would be subject to the municipal business license tax ( patente municipal ). The patente municipal, which is a creature of the ordinance of each individual municipality, is in general a turnover tax based upon the gross receipts derived from the taxpayer s business activity, the rate of tax depending upon the nature of the business. It should be noted that the jurisdictional basis for application of the tax is the fact of doing business within the municipality. Once the jurisdictional basis is established, however, the tax may apply to the Subsidiary s total gross receipts without regard to the place from which the income has been generated. The applicable rate would vary depending upon the municipality. (4) Payroll taxes The following payroll taxes would apply to the Subsidiary: (5) Social Security contributions to the Venezuelan Social Security Institute ( IVSS ): All contributions are traditionally computed as a percentage of the employee s normal salary (however, current law temporarily provides that they must be calculated on the basis of the employee s monthly income), up to a cap of the equivalent to five urban minimum monthly salaries. The employee pays 4%, and the employer between 9% and 11%, depending on the degree of risk involved in the company s activity. (6) Contributions to the National Institute of Socialist Educational Cooperation ( INCES ): The sources of INCES funds include the following: (i) an employer contribution of 2% of the total amount of wages, salaries, and remuneration paid to employees in industrial or commercial establishments. This contribution is required for companies with more than five employees; and (ii) a contribution of 0.5% of the profit sharing which is paid to employees. This amount is withheld by the employer from the profit sharing amounts paid to the employees. (7) Contributions to the Employment Benefit System: Employers must contribute an amount equal to 2% of the employee s normal salary for the financing of the Employment Benefit System and must withhold and pay 0.5% of the employee s normal salary for these purposes. The bottom limit upon which these contributions are based is one urban minimum monthly salary, with ten urban minimum monthly salaries being the top limit. This contribution guarantees to any dependant worker a monetary benefit in case of involuntary loss of employment or termination of a fixed term employment contract or specific work contract. (8) Contributions to the Housing and Habitat Payment System ( BANAVIH ): The Law on the Housing and Habitat Payment System provides that the employer must contribute an amount equivalent to 2% of the employee s total monthly income and the employee must contribute an amount equivalent to 1% of his/her total monthly income. The employee s Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 9

contribution must be withheld and delivered by the employer. If the employer does not withhold the employee s contribution, the employer may be required to pay such contribution from its own pocket. In addition, certain adjustments and fines against the employer apply in case of late payment or lack of payment of these mandatory contributions. In order to make these contributions, the employer must open an account for the deposit of the Mandatory Housing Savings Fund, at a banking entity authorized by the BANAVIH. (9) Municipal property tax The owner of real property must pay a tax on urban real estate (commonly called Municipal Property Tax). This tax is calculated by applying the percentage established in the ordinance governing the situs where the real estate is located to its municipally appraised value, including the value of the land, buildings and industrial or commercial installations. The amount of this tax varies considerably according to the municipal jurisdiction where the property is located and even within the same municipal jurisdiction, according to the type, use and purpose of the property. This tax is determined annually and paid quarterly within the first month of each quarter. Generally, the ordinances provide exemptions and exonerations from this tax, establish the obligation to submit returns on a periodic basis to determine the tax payable, and provide sanctions for any infringements. c. Are there any permanent establishment issues that the client should be aware of? Under Article 5(5) and (6) of the US Convention, brokers, commission agents or any other agent of an independent status are excluded from the characterization of permanent establishment of their principals, provided that such persons are acting in the ordinary course of their business and do not have the power to execute contracts on behalf or their principal. The purpose of this test is to determine the actual independence of the agent with respect to its principal. The independence of an agent, both legally and economically, has been predicated on various grounds in international doctrine. In effect, several requirements should be considered (i) the extent of the obligations which this agent has vis-à-vis the enterprise (if it is subject to detailed instruction or to comprehensive control by it); (ii) whether the entrepreneurial risk has to be borne by the agent or by the enterprise; (iii) whether the agent has clients other than the enterprise, etc.) 12 The ordinary course of business test is derived from the assumption that an agent is considered dependent if his activity is the business of the principal. 13 The Technical Explanation to the US Convention issued by the US Treasury explains that the independence of the agent must be predicated both in legal and economic terms. On the economic front, it explains the factors that would be considered as follows: [75] Under paragraph 6, an enterprise is not deemed to have a permanent establishment in a Contracting State merely because it carries on business in that State through an independent agent, including a broker or general commission, agent, if the agent is acting in the ordinary course of his business. Thus, there are two conditions that must be satisfied: the agent must be both legally and economically independent of the enterprise, and the agent must be acting in the 12 Cfr. Commentaries, Article 5, Paragraph 6, OECD Model Convention, Gest and Tixier, Droit Fiscal International, Paris, 1985, at 231. 13 Skaar, Permanent Establishment, Erosion of a Tax Convention Principle, Kluwer, at 515-522. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 10

ordinary course of its business in carrying out activities on behalf of the enterprise. [76] Whether the agent and the enterprise are independent is a factual determination. Among the que stions to be considered are the extent to which the agent operates on the basis of instructions from the enterprise. An agent that is subject to detailed instructions regarding the conduct of its operations or comprehensive control by the enterprise is not legally independent. [77] In determining whether the agent is economically independent, a relevant factor is the extent to which the agent bears business risk. Business risk refers primarily to risk of loss. An independent agent typically bears risk of loss from its own activities. In the absence of other factors that would establish dependence, an agent that shares business risk with the enterprise, or has its own business risk, is economically independent because its business activities are not integrated with those of the principal. Conversely, an agent that bears little or no risk from the activities it performs is not economically independent and therefore is not described in paragraph 6. [78] Another relevant factor in determining whether an agent is economically independent is whether the agent has an exclusive or nearly exclusive relationship with the principal. Such a relationship may indicate that the principal has economic control over the agent. A number of principals acting in concert also may have economic control over an agent. The limited scope of the agent s activities and the agent s dependence on a single source of income may indicate that the agent lacks economic independence. The paragraph provides that an agent will be considered a permanent establishment of an enterprise (under Paragraph 5) when the activities of that agent are devoted wholly or almost wholly on behalf of that enterprise, and the conditions between the agent and the enterprise differ from those which would be made between independent persons (i.e., the agent and the enterprise are not operating at arms length) (emphasis supplied). It should be further noted that the US Convention (Paragraph 6 of Article 5) incorporated a slightly modified provision found in the UN Model Convention which emphasizes the economic test, under which, in cases where the activities of an independent agent are devoted wholly or almost wholly on behalf of the enterprise and the transaction between the agent and the enterprise are not made under arm s length conditions, such agent will not be considered an agent of an independent status. In such cases, the agent will be thrown back under the terms of paragraph 5, the dependent agent paragraph, and the principal will be ordinarily found to possess a permanent establishment. It is not clear the scope of when an agent will be considered to be devoted wholly or almost wholly to its principal 14 and it is generally the case (specially in commissionaire arrangements) that one can find differences in pricing policies and determine that a given price is not arm s length. 15 14 See Mac Donald, Id. at 186. 15 David Morgan, Commissionaire structures: selling out from the centre, in International Tax Review, Vol. 8, Number 1, Dec-Jan 1997, at 30. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 11

In order to avoid the existence of a permanent establishment in Venezuela through the Commission Structure between HIS and the Subsidiary, the Subsidiary should act as an independent agent without authority to conclude contracts on behalf of HIS. Foreign commentators have specifically stated, There is a surprising lack of authority as to where the power of solicit orders ends and the power to enter contracts begins. Soliciting orders at fixed prices subject to substantive home office approval is generally safe. 16 Therefore, it is advisable that the agreement to be entered into between HIS and the Subsidiary should provide that the Subsidiary would provide marketing and technical services (such as advertising). According to the agreement: (i) the Subsidiary would only be authorized to solicit orders from the customers but would not authorized to execute contracts on behalf of HSI; (ii) the Subsidiary could not determine the lead times, pricing, shipping terms, discounts, pricing exceptions and other terms and conditions for sales of the Assets, but they should be determined and agreed upon between the HIS and the customers; and (iii) the Subsidiary would not be authorized to accept the orders placed by the customers nor to approve credits to the customers. d. Are there any customs duties or customs valuation issues that the client should be aware of? Upon custom clearance the importer of record (i.e., the customer) would have to pay the applicable customs tariff on the CIF value of the Assets (the applicable rate would depend upon the corresponding asset, but normally ranges from 5% to 20%). In addition, the importation would be subject to a customs service fee of 1%, also calculated on the CIF value. e. Are there any transfer pricing issues that the client should be aware of? The transfer pricing rules contained in the Law follow OECD guidelines. Under Article 112 of the Income Tax Law, transactions carried out by Venezuelan taxpayers with related parties are subject to transfer pricing rules. Because in Venezuela there are no de minimis rules, transfer pricing rules and formal duties apply to all transactions carried out between related parties, without regard to the amount of the transaction. Because HIS and the Subsidiary are related entities, the sale of the Assets by HIS to the Subsidiary would be subject to transfer pricing rules. Therefore, the minimum amount the Subsidiary should report as taxable income would be their fair maker value of the Commission determined according to a transfer pricing study. The Subsidiary would be required to conduct a transfer pricing study and maintain available for the Venezuelan Tax Administration a significant number of documents, usually called contemporaneous documentation. 17 The Subsidiary must file an informative tax return of 16 Huston and Williams, Agency Permanent Establishments, Kluwer, Law and Taxation policies, Deventer, Boston. 17 Among the documents and information that must be available are the following: (i) (ii) (iii) Risks inherent to the activity, such as commercial risks and financial risks assumed in the production, transformation, marketing and sale of the assets and/or services provided, which may or may not be valued and/or quantified for accounting purposes; Organizational structure of the company and/or group, functional information of the departments and/or divisions, strategic associations and distribution channels; Last names and first names, trade name, tax registration information number, fiscal domicile and country of residence of the taxpayer domiciled in Venezuela, as well as information on the directly Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 12

operations carried out with related parties abroad in the preceding fiscal year (Form PT-99). Form PT-99 must be filed the June following the closing of the Subsidiary s fiscal year. The Subsidiary must complete Form PT-99 and its Attachments A, B, C, D, and E, which will be available on the Venezuelan Tax Administration s web page (www.seniat.gov.ve). 2. Buy-sell structure a. What are the tax consequences for HSI under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) Provided the Assets are located outside Venezuela when the purchase order is accepted, the sale of the Assets would be tax-free for HSI as described above in sub-paragraph IB(1)(a)(i) above. If the Assets are located within or outside Venezuela when the purchase order is accepted, the sale (iv) (v) (vi) or indirectly related parties, documents which evidence the relationship referred to, type of business, principal clients and shares in other companies; Information on operations carried out with, directly or indirectly, related parties, date, amount, and currency used; In the case of multinational companies, in addition to the principal activities developed by each of the group companies, location of the operations, operations developed among them, plan or any other factor supporting the holding of shares in the companies that make up the group as well as the agreements in relation to the transfer of shares, increase or decrease of capital, redemption of shares, mergers and other relevant changes in the company; Financial statements of the taxpayer s fiscal year, prepared in accordance with generally accepted accounting principles, balance sheet, statement of income, statement of changes in shareholders equity, and cash flow statement; (vii) Contracts, agreements or conventions entered into between the taxpayer and related parties abroad (distribution, sales and credit agreements, establishment of guarantees, licenses, knowhow, use of trademarks, copyrights and industrial property rights, attribution of costs, research and development, publicity, incorporation of trust funds, ownership interest in companies, investments in securities, among other) as well as documents related to the characteristics of immaterial or intangible rights, use of immaterial or intangible property rights, type of property, industrial or intellectual rights, foreseeable benefits, assignment of use of credit entry of any other asset or service, type of transaction, lease of facilities and equipment; (viii) Methods used to determine transfer prices, indicating the objective criterion and factors (ix) (x) (xi) considered to determine that the method used is the most appropriate method for the operation or company; Information on comparable company transactions indicating the items and amounts compared in order to eliminate the over-valuation or under-valuation of items and accounts which may be affected; Specific information regarding whether the related parties abroad are or were subject to control of transfer pricing or if they are settling any tax controversy regarding transfer pricing with the competent authorities or courts and, if this is the case, information on the status of the controversy. If the competent authorities issue resolutions or a final decision is issued by the competent courts, a copy of the pertinent decisions must be kept; and Information related to the functional analysis and calculation of transfer prices. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 13

would not be subject to income tax liability if HSI does not maintain a permanent establishment in Venezuela. b. What are the tax consequences for the local subsidiary under the buy-sell structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) (1) Income tax The sale of the Assets by the Subsidiary to the customers would be subject to income tax liability. As a result, gain, if any, on the sale is considered to be Venezuelan source income subject to income tax liability without regard to the site of execution of the sales contract or the place or currency of payment. 18 The payment of the purchase price would not be subject to withholding. For income tax purposes, gain shall be determined from the difference between the sales price and the tax cost basis of the Assets. 19 The tax cost basis of the Assets would comprise the price paid to HSI; plus transportation and insurance expenses, agent s fees and customs duties. The Subsidiary would be subject to income tax liability on a normal accounting basis by reference to Tariff No. 2 of the Income Tax Law, which is basically 34%, as explained above in sub-paragraph IB(1)(b)(i). (2) VAT The sale of the Assets to the customer would be subject to VAT liability. The VAT paid by the Subsidiary on the importation of the Assets would constitute input VAT for the Subsidiary and the VAT collected on the sale to the customer would constitute the Subsidiary s output VAT. The actual tax to be paid by the Subsidiary on a monthly basis would be equal to the difference between its output VAT and its input VAT. Under the proposed structure, the economic burden does not reside in HSI or the Subsidiary. Under these circumstances, for example, if the Subsidiary invoices its customers for the Bolivar equivalent of US$20,000, the customer should pay the Bolivar equivalent of US$2,400 to the Subsidiary (12% of US$20,000). This amount would constitute an output VAT for the Subsidiary. If the Subsidiary purchases the Assets for the Bolivar equivalent of US$10,000, the Subsidiary should pay to the Treasury the Bolivar equivalent of US$1.200 (12% of US$10,000) upon the importation of the Assets. This amount (i.e., the Bolivar equivalent of US$1.200), would constitute input VAT for the Subsidiary. The difference between the Subsidiary s output VAT (the Bolivar equivalent of US$2,400) and input VAT (the Bolivar equivalent of US$1.200) would be the VAT payable to the Treasury (the Bolivar equivalent of US$1.200). In this case, there would be neither a cash flow problem nor any economic impact to the Subsidiary when paying VAT to the Treasury. If the Subsidiary s clients are special taxpayers appointed as such by the Tax Administration, the payment of the VAT upon the sale of the Assets would be subject to a back-up 75% withholding that the Subsidiary would be entitled to credit against the VAT liability determined in the 18 Income Tax Law, Article 1 & 6. 19 Income Tax Law, Article 21. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 14

monthly return. This may pose a cash-flow problem for the Subsidiary as explained in the following example: Example We have assumed that in a given month the Subsidiary has imported the Assets for Bs.100.00 and paid Bs.12.00 as VAT to its suppliers or upon importation (which will generate fiscal credits). In the same month it has sold the Assets to clients for Bs.200.00, charging Bs.24.00 as VAT (which will generate fiscal debits). In this case the VAT withholding for sales is Bs.18.00 [i.e. (Bs.200.00 x 75%) x 12% = Bs.18.00]. The Subsidiary is entitled to deduct the VAT withheld: Purchases (Bs.) Sales (Bs.) Price Paid 100.00 Price Charged 200.00 VAT (12%) Total 12.00 112.00 VAT due by the Subsidiary (Bs.) 24.00 (fiscal debits in sales) -18.00 (VAT withheld) -12.00 (fiscal credits in purchases) VAT (12%) +24.00 (Bs.18.00 withheld) 224.00-6.00 (excess VAT to be carried forward to the following three months) The VAT Withholding Order issued by the Tax Administration provides that excess VAT may be carried forward for three months. If, after the three months, there should remain a surplus not deducted, the taxpayer may elect to recover the excess VAT from the Tax Administration by filing a recovery request. Although article 206 of the Tax Code provides that the Tax Administration should respond the recovery request within the following 60 working days, the Tax Administration is notoriously late in delivering the response. Under the Tax Code, the excess VAT could not be used by VAT taxpayers to offset the obligation to pay other federal taxes (e.g., income tax) nor could it by assigned to other taxpayers in the absence of a law allowing such offset. However, the the amendment to the VAT Law of 2004, which entered into force on September 1, 2004, included a section in article 11 pursuant to which, once the Tax Administration approves the recovery of the excess VAT, the VAT taxpayer may, alternatively: (i) await for the reimbursement through the Special Certificates of Tax Reimbursement, which must be issued by the Venezuelan Central Bank; (ii) offset the credit against the obligation to pay other federal taxes (e.g., income tax); or (iii) sell the credit, normally at a discount, to other taxpayers for their use. The first option has always been disregarded by taxpayers because, unlike other jurisdictions, the Venezuelan Central Bank is also notoriously late in issuing the certificates. The second option is attractive for the taxpayer if it has other federal taxes to pay. The third option is attractive for the taxpayer because, although discounted, it generates cash flow, and it is attractive for the buyer because the credit can be used at face value. The provision of the VAT Law constitutes an important recent change that may somewhat ameliorate the Subsidiary s cash-flow problem described above. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 15

(3) Other taxes The Subsidiary would also be subject to the taxes described above in sub-paragraphs IB(1)(b), i.e., municipal business license tax, payroll taxes and municipal property tax. c. Are there any permanent establishment issues that the client should be aware of? The sale of the Assets through the buy-sale structure would not generate any permanent establishment exposure for HSI. d. Are there any customs duties or customs valuation issues that the client should be aware of? Upon custom clearance the importer of record (i.e., the Subsidiary) would have to pay the applicable customs tariff on the CIF value of the Assets (the applicable rate would depend upon the correspondin g asset, but normally ranges from 5% to 20%). In addition, the importation would be subject to a customs service fee of 1%, also calculated on the CIF value. The Assets would be valued according to the WTO Valuation Code methods. e. Are there any transfer pricing issues that the client should be aware of? Because HIS and the Subsidiary are related companies, the purchase price of the Assets would be subject to transfer pricing rules. Therefore, the maximum amount the Subsidiary would be entitled to deduct as cost of the Assets for income tax purposes would be their fair market value determined according to a transfer pricing study. The Subsidiary would be required to conduct a transfer pricing study and maintain available for the Venezuelan Tax Administration contemporaneous documentation. The Subsidiary must file an informative tax return of operations carried out with related parties abroad in the preceding fiscal year (Form PT-99). Form PT-99 must be filed the June following the closing of the Subsidiary s fiscal year. The Subsidiary must complete Form PT-99 and its Attachments A, B, C, D, and E, which will be available on the Venezuelan Tax Administration s web page (www.seniat.gov.ve). f. Which of the proposed structures would better suit the interests of our client from a tax perspective? The Commission Structure would be the most tax efficient because: (i) it would allow the Subsidiary to act as a link between HSI and the customers; (ii) it would allow HSI to benefit from the tax-free treatment of the sale to the customer. In the Buy-sell Structure this beneficial treatment would not be achieved at the Subsidiary level; and (iii) the Venezuelan tax liability regarding income tax, VAT, and municipal business assets tax would be limited to the Compensation paid to the Subsidiary. In the Buy-sell Structure, the Subsidiary s gain on the sale to the customer would also be subject to VAT and income tax liability. g. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? The following structure is similar to the Commission structure but would allow HSI to suspend the payment of VAT and customs duties and re-export the Assets in case of default: HSI would Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 16

sell the Assets through purchase orders to the Venezuelan customer. The purchase orders would have a specific term for payment (e.g., 60, 90 or 120 days). After the customer places a purchase order, HSI would export the Assets to Venezuela where they would be stored in an In-Bond deposit. Upon payment of the purchase price, title passage would occur and the customer would nationalize the Assets. In case of default, HSI would re-export the Assets. According to this structure (i) the sale from HSI to the customer would not be taxable in Venezuela because they would be deemed non-territorial transactions (i.e., export sales); (ii) while the Assets are stored in an In-Bond deposit the payment of VAT, customs duties, and customs service fee would be suspended for one year; 20 (iii) upon custom clearance of the Assets, the customer would be responsible for the applicable VAT, customs tariff, and customs service fee; and (iv) the re-exportation of the Assets within the one-year term would not be subject to VAT, customs tariff, or customs service fee. 21 20 VAT Law, Article 16(1); Regulations to the VA T Law, Article 23; Regulations to the Customs Law, Article 89. 21 The maximum term for an importation to an In-Bond deposit is one year. After the expiration of that term, the importer must either: (a) import the goods, in which case VAT, customs tariff, and customs service fee would apply; or (b) export the goods. In this latter case, VAT, customs tariff or the customs service fee would not apply. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 17

II. Case 2: Licensing of Software Programs A. Background 1. Current commission structure Computer Software, Inc. ( CSI ), a US company that designs and licenses software programs, has a local subsidiary incorporated in Venezuela. The main activity of this local subsidiary is to identify potential clients and to make all the efforts that are required for marketing CSI s software products. The license agreements are entered into between CSI and the customers. The software programs are imported directly by the customers. Once the business is closed, CSI pays its Venezuelan subsidiary a commission equivalent to a certain percentage of the license fee charged to the client. 2. Alternative sublicensing structure CSI is interested in identifying the tax consequences of an alternative structure. The relevant characteristics of the alternative structure are as follows: (a) (b) (c) A software distribution agreement is executed between CSI and its local subsidiaries. The agreement allows the local subsidiaries to license CSI s software products to local clients. In exchange, they pay a royalty fee to CSI equivalent to a certain percentage of the price of the sublicense agreements. The local subsidiary imports the software, and pays the relevant customs duties and VAT. The local subsidiary enters into license agreements with the clients. The clients pay the price of the licenses to the local subsidiary, and the local subsidiary pays the relevant royalties to CSI. B. Questions 1. Commission structure a. What are the tax consequences for CSI under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) (1) Income tax The term royalty as used in the US Convention means payment of any kind received in consideration for the use of, or the right to use, any copyright of literary, dramatic, musical, artistic or scientific work, including cinematography films, tapes, and other means of image or sound reproduction, any patent, trademark, design or model, plan, secret formula or process, or other like right or property, or for information concerning industrial, commercial, or scientific experience (Article 12(3)(b)). If a payment is considered a royalty, Venezuela may tax it at a 10%. Commentaries on Article 13(3)(b) of the OECD Model Convention, which is identical to the applicable provision of the US Convention, points out that it is difficult to determine whether Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 18

payments related to, or arising from, software concepts may be characterized as royalties or payment of another kind. 22 The comment considers that only in very specific situations, payments made in consideration for the use of software may be de emed royalties. The first of those cases would arise when the author or the author s assignee licenses part of those rights to any third party, granting the third party the right to develop or use the software commercially (i.e., through distribution). The second situation arises when payments are made as consideration for the alienation of rights attached to the software. It is clear that where consideration is paid for the full transfer of ownership, the payment cannot represent a royalty. The third situation is where software payments are made under mixed contracts (i.e., sales of computer hardware with built-in software and concessions of the right to use software combined with the provisions of services). 23 The Technical Explanation of the US Convention issued by the US Department of the Treasury considers that the primary factor in determining whether consideration received for the use, or the right to use, computer software is treated as royalty or business profits is the nature of the rights transferred [190]. The Technical Explanation expressly states that a typical retail sale of shrink wrap software generally will not be considered to give rise to royalty income, even though for copyright law purposes it may be characterized as a license. The licensing of CSI s software is clearly a limited software license that grants the end-user the right to use the software for internal purposes and to make a limited amount of copies thereof. The license, however, does not allow the end-user to commercially exploit or sub-license the software. As a consequence, the licensing of CSI s software does not fall within the concept of royalty as defined in Article 13 of the US Convention. It is clear that when not characterized as a royalty under the US Convention, the payment made by the distributor in consideration for the limited use of the software must be considered as business profits. The US Convention establishes that business profits of an enterprise of a contracting party (i.e., CSI), may be taxed by that state (i.e., the U.S.) only, unless the enterprise carries out activities in the other contracting party (i.e., Venezuela), through a permanent establishment. Because CSI does not have any permanent establishment or physical presence in Venezuela, any payment thereof is not subject to Venezuelan income tax liability (US Convention, Article 7(1)). Transfer pricing rules would not apply because the distributor and CSI are not related parties. (2) VAT The licensing of software programs would constitute an importation of services and, because CSI is a non-domiciled foreign corporation, the customer would be responsible for the payment of the VAT at the 12% rate. Article 1 of the VAT Law establishes that the importation of services and movable into Venezuela is subject to VAT. The importation of services is deemed to be the hiring of those services from abroad, to be executed, rendered, and utilized or from which a benefit is derived in Venezuela and it expressly includes software licenses. 24 Therefore, the limited software licenses 22 OECD, Model Tax Convention on Income and on Capital (1996), p. 144. 23 Id. 24 VAT Law, Article 4(4). Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 19

from abroad constitute the importation of services under the terms of the VAT Law, and, thus, are subject to VAT. In the event of an importation of services rendered from abroad, the tax liability arises at the time the service is nationalized, which in this case occurs when the beneficiary or the receiver (i.e., the customer) has received the service. 25 It is at the time of nationalization that the VAT should be paid. If the provider of the services is a non-domiciled entity, such as CSI, then the tax must be paid by the receiver of the services who is deemed to be responsible for the payment thereof. 26 Also, the customer will have to prepare an invoice for each payment and pay the corresponding VAT on behalf of CSI. The issued invoices must indicate that they are issued pursuant to Article 9 of the VAT Law. Furthermore, payments and invoices issued on behalf of CSI will have to be recorded in the customer s VAT books in a separate section. VAT paid by the customer would constitute the customer s input VAT. b. What are the tax consequences for the local subsidiary under the commission structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) The Subsidiary would be subject to the taxes described above in sub-paragraph IB(1)(b). c. Are there any permanent establishment issues that the client should be aware of? The licensing of the software through the commission structure would not generate any permanent establishment issue to the extent that, according to the commission agreement: (i) the subsidiary would only be authorized to solicit orders from the customers but would not authorized to execute contracts on behalf of CSI; (ii) the subsidiary could not determine the lead times, pricing, shipping terms, discounts, pricing exceptions and other terms and conditions for licensing of the software, but they should be determined and agreed upon between the CSI and the customers; and (iii) the subsidiary would not be authorized to accept the orders placed by the customers nor to approve credits to the customers. d. Are there any customs duties or customs valuation issues that the client should be aware of? The importation of software packages contained in CD-ROMs and diskettes is subject to a customs tariff of 15% ad-valorem on the economic or commercial value of the package (i.e., the value of the license fee) and the software contained in it. The customs classification refers to a software package, which is a package including software supported by a magnetic tape and the corresponding technical documentation (i.e., operating manuals), with a defined economic value as described in the Customs Tariff. 27 The Tax Administration is currently drafting new Regulations to the Organic Customs Law ( the Regulations ). The Regulations will be consistent with Decision No. 4.1. of the World Trade Organization Valuation Committee of September 1984. Therefore, it is most likely that for Venezuelan custom purposes the software encoded on CD-ROMs will be valued on the basis of the value of the carrier medium only. 25 VAT Law, Article 13(3)(d). 26 VAT Law, Article 5. 27 Chapter 85, Codes No. 85.24.99.90, 85.24.39.00, and 85.24.40.00. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 20

The importation of documents into Venezuela, such as additional rights licenses, 28 does not constitute an act typically subject to customs regulation. This is because (1) the Additional Rights License does not qualify as merchandise, which is limited to marketable goods or products; and (2) the documents may be classified as business documents without commercial value and, therefore, the importation thereof should not generate customs duties. The Customs Regulations provide that patent and trademark licenses should be added to the price of imported items and therefore are subject to customs duties. The right to copy software already imported, however, must not be added to the price of the imported item. This is because the right to copy software is protected under copyright provisions different from patent and trademark licenses and, therefore, falls outside the scope of application of the Customs Regulations. 29 This conclusion is based upon the Explanatory Notes of Article 8(1)(c) contained in the WTO Valuation Code; the Explanatory Notes of Article 8(1)(c) contained in Decision No. 378 issued by the Commission of the Cartagena Agreement in 1995; and the Valuation Agreement signed in Brussels in 1950. The Tax Administration s position on this matter is unclear. In a recent ruling, the Tax Administration stated that (1) the license documents cannot be considered as business documents without commercial value because they contain rights, such as the right to reproduce, which is related to copyright and, therefore, they have an economic value, and (2) the right to use protected software must be added to the price of the software, but the right to reproduce may be included or excluded from the customs valuation depending on the international rules which apply in each case. 30 In the same ruling the Tax Administration concluded that, even if license documents are not introduced into the country together with a medium carrier such as CD-ROMs or diskettes, for custom purposes the value of the rights granted in the license documents must be added to the value of the software. Therefore, there is some risk that the Tax Administration may seek to apply the customs duty rate of 15% ad-valorem to both the economic or commercial value of the software license document and that of the carrier medium. The electronic transmission of the software license, the additional rights license, and the activation codes does not constitute a dutiable event for Venezuelan customs purposes because customs issues arise only when merchandise is introduced into the country. 28 Major software licensors usually grant additional rights licenses. In such case, the client, who is already a licensee, wishes to access the various software applications (e.g., execution of a limited number of copies of any particular application, execution of specific applications among all of those encoded on the CD-ROMs, execution on a specific server, or use on a network with a specific limited number of uses), and would request directly from the licensor an additional rights license and a diskette containing the activation codes. Normally, the additional rights license grants the client the right to make additional copies, or to use additional applications for internal use only, and the client has no right to market, distribute, sublicense or sell any of the copies made to any third party. In consideration for the granting of additional rights, the licensor would charge a fee and would send the client the diskette containing the activation codes, the additional rights license certificate, and the corresponding invoice. 29 Jaime Parra Pérez, Los Intangibles en el Ambito del Derecho Tributario, in Liber Amicorum (Homenaje a la obra científica y docente del Prof. José Muci-Abraham at 291. 30 Ministry of the Treasury, Ruling No. GA-200-98-E-083 of June 19, 1998. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 21

However, when CSI sends the CD -ROMs and the software operating manuals directly to the customer, the value of the additional rights license should not be included in the invoice. If the additional rights license to be transmitted electronically is included in the invoice for the software, there is a risk that the Tax Administration may add the value of this license to the value of the CD-ROMs and the software operating manuals. 2. Sublicensing Structure a. What are the tax consequences for CSI under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.)? (1) Income tax Under the US Convention, the payment of the royalty fee payable to CSI would be considered either as royalties, subject to tax at 10% on the payment thereof, or as Business Profits not subject to tax in Venezuela. Since we believe the payment cannot be considered as a royalty under Venezuela s income tax rules and given that tax treaties are not meant to extend domestic categories of income, in our view, the second alternative should prevail in Court. Nonetheless, because of the absence of any decisions or rulings in this respect, the most conservative approach would be to consider the payment as a royalty. The US Convention provides that royalties arising in a Contracting State (e.g., Venezuela), and paid to a resident of the other Contracting State (e.g., US), may be taxed in the Contracting State in which they arise (e.g., Venezuela), but if the recipient is the beneficial owner, the tax so charged on the gross amount of the royalties shall not exceed 5% or 10% (US Convention, Article 12[2][a][b]). The question then is to determine whether the royalty fee would be deemed to be a royalty under the US Convention. The Commentary on Article 12(2) of the OECD Model Convention points out that it is difficult to determine whether software payments may be regarded as royalties or other types of payment. 31 The Commentary considers that in the case of a partial transfer of rights the consideration thereof is likely to represent a royalty only in very limited circumstances. One such case in where the transferor is the author of the software (or has acquired from the author his rights of distribution and reproduction) and he has placed part of his rights at the disposal of a third party to enable the latter to develop or exploit the software itself commercially, for example, by distribution. 32 The Commentary further points out that even where a software payment is property to be regarded as a royalty, there are difficulties in applying the copyright provision of the Article to software royalties, since paragraph 2 requires that software be classified as a literary, artistic or scientific work. The Commentary establishes that none of these categories seems entirely apt, but treatment as a scientific work might be the most appropriate. 33 Thus, it should be clear that the royalty fee could qualify as one of those limited circumstances in which software licenses are deemed to be royalties under the US Convention. In effect, (i) CSI is the owner and author of the software products; and (ii) CSI granted the Subsidiary the limited 31 OECD, Model Tax Convention on Income and on Capital [1996] at 144. 32 Id. 33 Id. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 22

right to market and distribute the software products for its own benefit and use. As a consequence, the payment of the Royalty Fee may be characterized as a royalty under the US Convention. Nonetheless, it should be noted that if the Venezuelan Tax Administration adopts that position, the characterization of such services as royalties may be disputed on the basis that the Venezuelan tax law does not have a definition of royalties covering compensation which is not calculated on the basis of units of production, sale, exploration or exploitation thereof. This line of thinking may provide the Venezuelan Tax Administration with the opportunity to expand the definition of royalties through the US Convention, furnishing Venezuela with a taxation right, which it does not have under its domestic characterization of royalties. Definitions provided under double taxation treaties are widely-encompassing in order to accommodate the differences in characterization of income under the income tax rules of the Contracting States, but are never expected to create new sub-categories of income not otherwise subject to tax in the Contracting States. It is also true that tax treaties may not provide for a less favorable treatment than that accorded under domestic rules. 34 Indeed, it is a well-established principle, internationally recognized, that tax treaties may only limit or apportion taxation rights between contracting states, but may never be used to extend or expand a definition or tax right which is not found under domestic law. 35 The other alternative would be to treat the transaction as a transfer of a copyrighted Article. Transfers of copyrighted Articles will be treated as either sales or leases depending on whether the benefits and burdens of ownership are transferred. We think the most likely characterization would be that of a right to use intangible property. If this characterization were to prevail, income derived from the use of intangible property should be characterized as Business Profits, which would not be subject to tax in Venezuela to the extent that the recipient thereof does not maintain a permanent establishment in Venezuela. Nonetheless, there is also a risk that the Tax Administration may characterize the payment as Other Income, 36 in which case, Venezuela may have a right to tax such income regardless of the existence of a permanent establishment. In effect, in order to characterize income that is not expressly dealt in Articles 6 to 20 of a double taxation convention, the paramount question is whether the Other Income provision would apply to that item of income. In this regard, some scholars have maintained that income obtained from the lease of tangible or intangible property (such as software) should be properly regarded as Business Profits. From this point of view, the royalty fee should be covered by Article 7 of the US Convention, if it is made or received in respect of a business conducted by a resident of a contracting state. On the contrary, in case the contract relates to a non-business asset or activity, the Royalty Fee payments should fall under the other income Article. 37 34 Ronald Evans, El Principio de no agravación en los convenios para evitar la doble imposición internacional, in IV Jornadas Venezolanas de Derecho Tributario [1998] at 437 et seq. 35 Phillip Baker, Double Taxation Agreements and International Tax Law at 6-8. 36 US Convention, Article 21. 37 John F. Avery Jones et al, The Other Income Article of income Tax Treaties at 233. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 23

The foregoing criterion indicates that the scope of the rule of Article 21 should remain very narrow, in the sense that it would only apply to items of income that are produced as a consequence of isolated or extraordinary events (i.e., social insurance annuities, maintenance payments to relatives, accident benefits, scholarships and awards for artistic or academic achievements, gambling winnings, lottery prizes). It means, in substance, that the Other Income provision would only apply to income in no way related to the predominant activity developed by the taxpayer. According to this, Article 21 could not be applied to items of income classifiable as business profits within the meaning of Article 7 of the double taxation conventions, even in the absence of special rules that should deal with certain types of income. 38 In this respect, the widely encompassing view of the definition of Business Profits of the Venezuelan Tax Administration would suggest that income derived from the use of copyrighted property should be treated as Business Profits pursuant to Article 7 of the US Convention. This conclusion is derived from a ruling where the tax administration stated that the definition of Business Profits should include income obtained from a derivative involving the lease of shares in a Venezuelan corporation by a UK resident. 39 It is important to note that in the above -cited ruling, the Venezuelan Tax Administration did not apply the Other Income provision of the UK- Venezuela Tax Convention, which, as in the case of the US Convention, provides Venezuela with a concurrent taxing right of such gains. (2) VAT The limited software license granted by CSI to the Subsidiary from abroad would constitute the importation of services under the terms of the VAT Law, and, thus, the royalty paid in consideration therefor would be subject to VAT at the 12% rate. The tax liability arises at the time the service is nationalized, which in this case occurs when the beneficiary or the receiver (i.e., the Subsidiary) has received the service. It is at the time of nationalization that the VAT should be paid. If the provider of the services is a non-domiciled entity, such as CSI, then the tax must be paid by the receiver of the services who is deemed to be responsible for the payment thereof. The Subsidiary will have to prepare an invoice for each payment and pay the corresponding VAT on behalf of CSI. The issued invoices must indicate that they are issued pursuant to Article 9 of the VAT Law. Furthermore, payments and invoices issued on behalf of CSI will have to be recorded in the Subsidiary s VAT books in a separate section. b. What are the tax consequences for the local subsidiary under this structure? (Income tax, value added tax, gross turnover taxes, stamp tax, etc.) (1) Income tax The Subsidiary would be subject to income tax liability on a normal accounting basis. The tax liability should be determined by reference to Tariff No. 2 (34%). In this respect, the license fee collected from the customers would be deemed gross income for the Subsidiary. The Subsidiary would be entitled to deduct from its gross income any normal and necessary expense (e.g., the Royalty Fee paid to CSI). The license fee would be subject to a 2% withholding upon payment 38 Klaus Vogel, Double Taxation Treaties at 322. 39 Ruling No. HGJT-200-3374, November 5, 1997. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 24

by the clients whenever the clients are legal entities. 40 The Subsidiary would be entitled to credit the amounts withheld against the final income tax liability determined in the year-end income tax return. It should also be noted that the allowance of deductions for Venezuelan income tax purposes is conditioned upon the expense being normal, necessary and incurred within Venezuela for the purpose of producing Venezuelan source income. The Tax Administration has the power to disallow expenses that are deemed abnormal. As an example, where a royalty of 5% of gross receipts amounted to 95% of the taxpayer s net taxable income, the court upheld a determination that the royalty was excessive and disallowed a portion of the expense. 41 (2) VAT VAT paid by the Subsidiary would constitute the Subsidiary s input VAT. The actual tax to be paid by the Subsidiary on a monthly basis would be equal to the difference between its output VAT (the VAT it charges to its customers on the software licenses) and its input VAT (the VAT it pays on the royalty and on the importation of the software package ). c. Are there any permanent establishment issues that the client should be aware of? The licensing of the software through the alternative structure would not generate any permanent establishment issue. d. Are there any transfer pricing issues that the client should be aware of? Because CSI and the Subsidiary are related companies, the royalty would be subject to transfer pricing rules. Therefore, the maximum amount the Subsidiary would be entit led to deduct as an expense would be their fair market value of the royalty determined according to a transfer pricing study. The Subsidiary would be required to conduct a transfer pricing study and maintain available for the Venezuelan Tax Administration contemporaneous documentation. The Subsidiary must file an informative tax return of operations carried out with related parties abroad in the preceding fiscal year (Form PT-99). Form PT-99 must be filed the June following the closing of the Subsidiary s fiscal year. The Subsidiary must complete Form PT-99 and its Attachments A, B, C, D, and E, which will be available on the Venezuelan Tax Administration s web page (www.seniat.gov.ve). e. Are there any customs duties or customs valuation issues that the client should be aware of? Upon custom clearance the importer of record (i.e., the Subsidiary) would have to pay the applicable customs tariff on the CIF value of the software package. Under the proposed Regulations to the Customs Law, software products in the form of CD-ROMs will be valued, for Venezuelan customs purposes, on the basis of the carrier medium only. In addition, the importation would be subject to a customs service fee of 1%, also calculated on the CIF value, 40 Withholding Decree No. 1.808, Article 9(11). 41 Distribuidora Benedetti, C.A. v. Treasury, CXIX Jurisprudencia Venezolana Ramírez y Garay at 663 (Supreme Court), decision of December 17, 1991. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 25

and to the 12% VAT on the value of the carrier medium only. 42 importation would be input VAT for the Subsidiary. The VAT paid on the 3. Which of the proposed structures would better suit the interests of our client from a tax perspective? In our opinion, the commission structure would again be the most tax efficient because: (i) CSI would not be subject to income tax liability under the US Convention. Under the Alternative structure, however, there is the risk the CSI would be taxed at a 10% under the US Convention; and (ii) at the Subsidiary s level, the Venezuelan tax liability regarding income tax, VAT, and municipal business assets tax would be limited to the Compensation paid to the Subsidiary. In the Alternative structure, the Subsidiary s gain on the sublicensing of the software to the customer would also be subject to VAT and income tax liability. 4. Are there any alternatives that would meet the needs of the client and solve any tax or customs issues that you have identified? Is there any alternative that you could propose that may bring additional tax benefits for our client? The following structure is similar to the Commission structure but would allow CSI to avoid the payment of customs duties upon the importation of the CD-ROMs, license certificate, operating manuals. Pursuant to the customer s request, the software license will be granted electronically; and the software program and activation codes also will be transferred to the customer electronically. Thus, when a customer makes a request for the software license, CSI will send over the Internet the program to the customer together with a click wrap software license and operating manuals. The customer will confirm its acceptance of the terms and conditions under which the license is granted by clicking on the acceptance of the electronic license document. Concurrently, CSI will send the customer an invoice reflecting the software license fee. Under the circumstances described above, the electronic transmission of the software license, the additional rights license, and the activation codes does not constitute a dutiable event for Venezuelan customs purposes because customs issues arise only when merchandise is introduced into the country. 42 Regulations to the VAT Law, Article 47. Baker & McKenzie Venezuelan Tax Issues in Cross-Border Distribution Activities 26

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