Old Principle, New Concept: Tax Residence in Uruguay

Uruguay is a small economy that has always relied on foreign direct investment to achieve sustainable economic growth. In this context, it has used tax incentives to foster investments and, more recently, to attract individuals to reside in the country.

This article will briefly review the history of tax incentives in Uruguay, providing a historical context and highlighting the importance of tax incentives to understand and explore recent changes in tax residence matters.

In short, through the old principle of tax incentives, a new concept of tax residence is modified and determined.

Old principle: tax incentives

The attempt to attract investments through tax incentives dates back to at least 1939, when Uruguay sought to promote regulations regarding “holding” companies. The parliamentary discussions of that time reveal that the main objective of these regulations was to position Uruguay as a reliable financial services centre for investors. The report referred to strategies adopted by countries such as Belgium, the Netherlands and Switzerland in this regard.

Nevertheless, these structures raised concerns in the Parliament of that time. As a result, one of the reports quoted Franklin D Roosevelt: “The very form of a holding company is such as to lend itself to secrecy, mismanagement, and fraud.” Consequently, the project was not approved.

However, Law 11,073 was finally passed in 1948, approving the regime for Financial Investment Corporations (SAFIs). The year of its approval was not coincidental. In fact, several historians believe that this was closely related to the inauguration of President Juan Domingo Perón in Argentina in 1946, which led many of his opponents to become interested in these types of regimes. In this regard, according to the words of the Minister of Finance at the time, they sought to make Uruguay the “Switzerland of America” in financial terms: “The advantages offered by Uruguay are so evident that financial companies began to be established in the country, even without specific regulations.”

The regulations for SAFIs were based on international experience in the field, mainly from Switzerland. In this sense, the tax rate was set by taking into consideration the rates imposed on similar regimes in the rest of the world. This can be construed as one of Uruguay's first steps in terms of tax competition.

Following the experience with SAFIs, financial and trade liberalisation, globalisation, technological changes and improvements in communications occurred from the 1980s onward.

Considering this context and the country's need for foreign direct investment, Uruguay decided to enact the following laws between 1982 and 1997:

• Decree-Law 15,322 (banking secrecy);
• Law 15,921 (Free Trade Zone Act);
• Law 16,060 (Commercial Companies Act); and
• Law 16,906 (Investment Act).

It should be noted that, to attract investments, Uruguay not only offered tax incentives but also emphasised the preservation of its reputation as a reliable and safe country. This idea is related to the risk and return financial relationship. Since the country cannot offer significant profits due to the lack of important natural resources and the size of its market, it compensates with a high level of legal security for investors.

New concept: tax residence in Uruguay

Historical framework

In 2007, the Personal Income Tax (IRPF) was introduced in Uruguay, applying the principle of territoriality, which meant that only income obtained in Uruguay was taxed, thereby excluding foreign income.

However, through the approval of Law 18,718 in 2011, the criterion of worldwide income was introduced for the IRPF, applicable to resident individuals but only for income from movable capital (essentially interest and dividends from abroad).

The arguments presented in the draft bill were based on principles of justice and fairness, arguing that it was discriminatory to tax local incomes and not those from abroad. In this sense, the main objective of the government was to promote local investments. The mentioned argument could be questioned since only income from movable capital obtained abroad was subject to taxation, while other types of income, such as capital gains, remained excluded, resulting in some inconsistency.

Nevertheless, the previous provision conflicted with the interests of then-President Jose Mujica, who aimed to attract foreigners to the country. This is because if an individual came to Uruguay and became a tax resident, they would have to start paying taxes on their foreign income.

This led to the approval of Law 18,910 in 2012, which allowed those who became tax residents in Uruguay to choose not to pay IRPF on their income from movable capital abroad for a period of five years.

Concept of tax residence

The regulation presents the following different scenarios under which a person is considered to be residing in Uruguay.

• Staying in Uruguay for more than 183 days during the calendar year – in this regard, sporadic absences are counted. An absence will be considered sporadic if it does not exceed 30 consecutive days, unless the taxpayer can prove their tax residence in another country. Judicial decree 179/019 of the Court for Administrative matters has recently determined that the concept of sporadic absence should be construed not based solely on its wording, but rather based on reasonability criteria to fulfil the purpose of the law, which is to stay in the country.

• Having the main core of business in Uruguay – it is understood that the main core of business is in Uruguay when the volume of income generated in Uruguay exceeds that obtained in any other country. Pure capital income is not considered for the purposes mentioned, even if the entirety of the assets is in Uruguay.

• Having vital interests centred in Uruguay – it is presumed that an individual has vital interests in the country if their spouse and dependent minor children reside in the Republic, provided that the spouse is not legally separated and the children are subject to parental authority. If there are no children, the spouse will be sufficient.

• Having economic interests centred in Uruguay – prior to Decree 163/020 of June 2020, a person's economic interests were considered to be centred in the country if they made an investment in real estate of approximately USD1,700,000, or if they made a direct or indirect investment of more than approximately USD4,800,000 in a local company; the company must have a project of national interest. However, Decree 163/020 introduced the following scenarios to facilitate residence:

1. investment in real estate worth more than approximately USD380,000, provided it is made from July 2020 onwards and involves a physical presence in Uruguayan territory for at least 60 days during the calendar year; or
2. direct or indirect investment in a company worth more than approximately USD1,700,000, provided it is made from July 2020 onwards and generates at least 15 new direct jobs.

New benefits

In 2020, two changes were made regarding tax residence to attract new individuals to the country. The first change was the amendment of Decree 163/020, as mentioned above, which reduced the required amounts for investments in real estate and companies to obtain tax residence.

The second change was introduced by Law 19,904 in September 2020, which provided for the following tax options:

• extending the exemption period for income from abroad from five years to ten years for individuals who acquire tax residence status; or
• paying a reduced rate of 7% indefinitely instead of the current 12%.

Final reflection

Uruguay's tax incentives policy seems to remain unchanged over time, and the only element that can modify it (and has modified it) is the adoption of international tax standards. This has led to tax reforms to align with international regulations (or, more accurately, to avoid international penalties).

Historically, Uruguay has implemented incentives based on the principle of sovereignty, asserting that countries are free to decide their own tax systems. Every country in the world competes and provides tax benefits to attract more investments and generate positive externalities in the economy.

Nevertheless, in the context of globalisation and a digital economy, tax matters are no longer solely a matter of national sovereignty, where each country can autonomously decide its tax policies without considering extraterritorial issues.

From this author's perspective, there is a certain scepticism/disbelief regarding true international co-operation, and this scepticism can be extended to other areas of international co-operation (COVID-19, wars, free trade, etc).

In summary, using a maritime metaphor, Uruguay will continue to navigate the waters of fiscal incentives while keeping an eye on and guarding against the waves of international standards coming from abroad, thus avoiding any fall or accident, better known as penalties, blacklists, etc.