EY Argentina: Argentina Amends Promotional Tax System for Knowledge-Based Firms

With technology disrupting business models in various sectors of the global economy, Argentina has finally introduced tax incentives for knowledge-based industries.

Law number 27,506 was first published in the Official Bulletin on June 10, 2019, and established the promotional regime for the knowledge-based economy.

But the regime was suspended by the government this January, with the intention of introducing amendments. In February, a bill to do that was submitted to the Chamber of Deputies.

According to the submission letter, the main goal was to divide benefits according to the size of each local company and the level of maturity of each production sector, while continuing to promote and accompany the development of large companies for the good of the country.

On October 26, Congress enacted Law No. 27,570, which imposed new qualification requirements and modified certain benefits. The regime will be in force until December 31, 2029.

Government representatives said the amendments were aimed at building a new and progressive tax system that promotes quality employment, technological development and export of added value. In this sense, the changes seem to strengthen opportunities for entrepreneurs, support the export development of small knowledge-related services companies and contribute to territorial and gender equality.

While the new law finally provides a legal framework that removes uncertainty for these industries, it is not certain that it was worth the wait. Have the reforms really improved the capacity of the knowledge-based industries to generate employment, federal economic development and foreign exchange reserves?

The new law does not modify the activities that were originally subject to promotion. Those are: (i) software and IT and digital services; (ii) audiovisual production and post-production, including digital formats; (iii) biotechnology, bioeconomy, biology, biochemistry, microbiology, bioinformatics, molecular biology, neurotechnology and genetic engineering, geoengineering, and their trials and analyses; (iv) geological and prospective studies, and services related to electronics and communications; (v) professional services, insofar as they constitute export services; (vi) nanotechnology and nanoscience; (vii) aerospace and satellite industry, space technologies; (viii) engineering for the nuclear industry; (ix) manufacturing, fine-tuning, maintenance and introduction of goods and services aimed at production automation solutions, including feedback cycles from physical to digital processes and vice-versa, characterised at all times by the use of industry 4.0 technologies such as AI, robotics and industrial internet, Internet of Things, sensors, additive manufacturing, and augmented and virtual reality.

It also comprises engineering, exact and natural sciences, agricultural sciences and medical science activities related to research and experimental development tasks.

Under the amended regime, professional services qualifying as exports include legal, accounting, management, public relations, audit, tax and legal advisory, translation and interpretation services, human resources, advertising, design, engineering and architectural services.

Registration Requirements

Companies intending to enjoy the tax benefits shall be required to prove that:

• 70 percent of their total billing in the past year arises from promoted activities. The professional services must meet this requirement to the extent of their export
• the promoted activities are performed intensively to incorporate the knowledge arising from scientific and technological progress made in their products, services or production processes, so as to add value and innovation, under the terms and the scope set by regulations and along with the documentation or requirements for this purpose.

This last item in particular seems to refer to the technological processes or activities promoted within a company that are incorporated to final products or services, but do not generate any revenue in themselves. It is clear that the administrative order will have to determine how to articulate the benefits in these cases, as many domestic companies could incorporate part of their activities into this system.

The law also sets forth that those interested in applying for the promotion shall meet two of three requirements in relation to the promoted activity: (i) provide evidence of continued improvements in the quality of their services, products or processes, or through a well-known quality standard; or (ii) prove the disbursements made in (a) training a percentage of their payroll employees, or (b) research and development as a percentage of total billing; or (iii) prove the export of goods or services arising from promoted activities or their development and intensive application as a percentage of total billing.

These requirements were included in the first version of the law. The new bill breaks down the percentages to be applied based on the definition of micro-, small- and medium-sized or large enterprises.

As to the training ratio applicable to employees assigned to promoted tasks, microenterprises must disburse at least three percent of total salaries, SMEs at least five percent, and large enterprises, eight.

As to the research and development ratio, microenterprises shall prove disbursements for at least one percent of total billing and SMEs two percent, while three percent was set for large enterprises.

The requirement related to the exports of goods and services breaks down the percentages as follows: four percent in the case of micro enterprises, 10 percent for SMEsm or 13 percent for big enterprises

Self-Development

The new law excludes the self-development activity from the promotion system, which cannot be calculated as part of the billing percentage required to have a promoted activity.

The law defines self-development as that carried out by an artificial person for its own benefit or for companies that are related from the corporate and/or economic perspective, in all cases in the capacity of final user.

This is not irrelevant. It could be interpreted that, if the service beneficiary were not the “final user” of the process or product outsourced by the local company, the activity would not qualify as self-development and could be computed within the billing percentage required, as the product or service would be marketed in turn by the foreign company to its customers or final users.

Benefit Stability

According to the original law, beneficiaries enjoyed tax stability in relation to the promoted activities and during its effective term. Tax stability implies that the total domestic tax burden of beneficiaries will not be increased upon their request to join the system. The text amended indicates now that “[…] The parties subject to the system […] shall receive stable benefits in relation to their promoted activity or activities as from the date of registration with the registry […] during its effective term […].”

The difference is that, based on the new text, taxes could be levied on a specific industry or activity, and tax stability would not be affected to the extent that the benefits originally granted are not amended.

This will generate uncertainty when defining the direct investment, as the business models that will be built will eventually reflect an increase in the expected profitability of the model itself because of such uncertainty.

The tax credit certificate granted by the system for 70 percent of employer contributions will be subject to a tax quota to be determined by the enforcement authority. How the tax stability benefit is granted to beneficiaries and the tax quota to be defined by the enforcement authority at its own discretion should be clarified.

Tax Benefits

Besides the stability for the taxpayers, companies within the knowledge-based regime will receive the following benefits:

• A 60 percent reduction in the income tax rate for micro and small enterprises, a 40 percent reduction for medium-sized enterprises and a 20 percent reduction for big enterprises, applicable on the income originated in the promoted activities (which, considering the current general rate
• of 30 percent, would result in effective income tax rates of 12 percent, 18 percent and 24 percent, respectively)
• A tax credit bond that equals 70 percent of the amount payable as Social Security contributions on employees working in the promoted activities (80 percent if those employees are female employees, professionals graduated in engineering and/or exact or natural sciences, people with disabilities and other specific groups) and applies to up to 3,745 employees (and to new hires for promoted activities that increase the total headcount).
• The tax credit bond may be used to offset federal taxes, except income tax (only exporters of services or goods originated in the promoted activities will be allowed to offset income tax) and is not transferable.

System beneficiaries performing exports in relation to promoted activities will not be subject to VAT withholdings or additional withholdings. Nor shall the additional withholdings made abroad be computed towards income tax, and those charges may only be deducted if the resulting income is the consideration for the promoted activities and is classified as Argentine-source income.

Finally, the law sets forth the creation of the Trust Fund for the Promotion of Knowledge-Based Economy (FONPEC, in Spanish). The resources of that fund will arise, among other sources, from the contribution of system beneficiaries of up to four percent of the total amount of benefits received.

Under this new scenario, and while Covid-19 is still impacting the world, companies doing business in Argentina have a new tool to develop a growing strategy — if knowledge and technology are key drivers of their business models.

About the Authors

Sergio Caveggia is a tax partner currently in charge of Transaction Tax area in Argentina. He joined EY Argentina in 1994 and has developed expertise over 24 years in international taxation and merger and acquisition matters. Sergio is also focus on servicing clients in the Private Client Services (PCS) area. He is highly experienced in inbound and outbound investments, buy side, sell side and restructuring services within the Transaction Tax area.

Sergio has served in a variety of industries and has also been involved in many due diligence procedures performed in the past 20 years. He has given lectures in national universities and is a frequent speaker in tax seminars. He has also written several articles dealing with Argentina tax issues.

He is a Certified Public Accountant who graduated from University of Belgrano in Argentina. He obtained his Tax Specialist’s Degree at the University of Belgrano and has a postgraduate certificate in Business and Management from Universidad Catolica Argentina (UCA). He is also member of the Professional Council of Economic Sciences of Buenos Aires and the Argentina Fiscal Association.

Jimena Garcia is a Manager currently working in the International Tax and Transaction Services (ITTS) and Private Client Services (PCS) areas in Argentina. She joined the firm in 2014.

She has extensive experience in social security & labor law buy-side and sell-side due diligence services in numerous companies in different industries. She also participated in the coordination of many cross-border engagements, dealing with foreign labor and social security legislation matters on each transaction. Jimena participates in numerous seminars related to payroll taxes and labor law matters.

Jimena is a Lawyer graduated in 2010 from UNLAM (Universidad de La Matanza). She is enrolled in the Bar Association of the City of Buenos Aires.