/ Developments and Trends in the Chilean Capital Markets16 August, 2011
Miguel Massone and Felipe Cousiño, Alessandri & Compañía Attorneys at Law
The Chilean capital markets have shown sustained growth in size, depth and liquidity over the last three decades. After notable structural changes to the Chilean economic system, such as the liberalization of the interest rate in mid 1970s and the reform to the pensions system in early 1980s, Chile embarked in continuing legal and administrative reforms to improve its capital markets since early 1990s. Today, the Chilean capital markets are one of the largest (relative to the size of its economy) among emerging market economies.
A first noticeable reform, known as MK I, was launched in 2001. In order to foster capital markets development, this reform, among other measures, provided more flexibility for insurance and “mutual funds” industries; abolished the income tax on capital gains from the sale of frequently traded shares; promoted (pre-tax) employees’ voluntary contributions for pension; and created asset-management entities (known as “AGFs”) to manage several types of funds, such as “mutual funds”, “investment funds” and mortgage companies.
A second reform, known as MK II, was introduced in 2007. The reform introduced tax incentives to promote the venture capital industry; broadened the existing scheme of voluntary contributions for pensions by introducing 401K-type accounts; improved standards on corporate governance to put them in line with OECD standards; and increased supervision over the market.
As part of this ongoing process, a third reform had been proposed to Congress by the previous government back in 2009, and it was passed in 2010 by means of Law No. 20,448, published in the Official Gazette of 13 August 2010. Law No. 20,448 of 2010 was aimed at increasing liquidity and depth of the capital markets; enlarging the financial markets; promoting competition within the credit market; and facilitating integration of the Chilean markets by promoting participation of nonresidents. Some of the legislation amended by Law No. 20,448 includes the following: (i) Decree Law No. 1,328 of 1976 on Mutual Funds; (ii) Law No. 18,045 of 1981 the on Securities Market; (iii) Decree Law No. 3,500 of 1980 on Pensions System; (iv) The Labor Code; (v) Law No. 18,657 of 1987 on Investment Funds for Foreign Capital (known as “FICEs”); (vi) The Income Tax Law of 1974.
Among the most significant changes, Law No. 20,448 provided the grounds for the growth of Exchange Traded Funds (ETFs) in Chile, by amending the mutual fund statue in order to permit, inter alia the payment of shares by means of contributing a basket of securities that mirrors the investment portfolio of the fund, introducing flexibility to the relevant investment limits and allowing for implementing regulations (yet to be issued by the Superintendencia de Valores y Seguros- SVS) to authorize restrictions on redemptions. This important reform will enter into force once the new implementing rules (Rules) are issued by the President of the Republic.
Another important development refers to the streamlining of the registration process for mutual funds by means of deposit system akin to the one existing for insurance policies. This means that the relevant documentation of the fund may be marketed without waiting for it to be reviewed by the SVS. The regulator may however request that the fund shares cease to be marked if the documentation is found to infringe the law or regulations.
As to FICEs certain flexibility was introduced for investment by so called foreign venture capital investment funds (FICERs) which are invest in Chile under a structure with a locally registered management company. FICERs will now be allowed under certain circumstances to invest in locally registered closed end funds that are managed by the same local manager.
With reference to income tax amendments, Law No. 20,448 continued the trend of changes under which capital gains from shares in stock corporations, shares/quotas in “mutual funds” and bonds have been progressively exempted from income taxation, and it moved forward by eliminating the taxation on capital gains derived from certain financial assets whose underlying profits have already been subject to tax. The new Law also improved some Articles in the Income Tax Law dealing with capital gains. More specifically, this Law formally suppressed Articles 18 bis, 18 ter and 18 quarter of the Income Tax Law, which were renumbered as Articles 106, 107 and 108, respectively. In essence, the suppressed Articles were redrafted to gain clarity and were also slightly amended to extend their scope. This Law, however, does not represent a substantial progress in the field of taxation as compared with prior MK I and MK II reforms.
In the case of the tax exemption contemplated by the old Article 18 bis for capital gains realized by foreign institutional investors (such as mutual funds and pensions funds) from the sale of shares and debt securities traded on the stock exchange, the new Article 106 extended such exemption so that it covers shares/quotas in “mutual funds” and “investment funds”.
Also, the tax exemption contemplated by the old Article 18 ter for capital gains realized from the sale of shares held in Chilean corporations frequently traded on the stock exchange, shares/quotas in “investment funds” frequently traded on the stock exchange and shares/quotas in “mutual funds” whose assets are represented in at least 90% by shares frequently traded on the stock exchange, was extended under the new article 107 so that it covers gains from shares/quotas in “mutual funds” whose assets are represented in at least 90% by securities (i.e. not only shares) frequently traded on the stock exchange. Thus, under this new Law investments eligible for the capital gains exemption include not only shares in corporations, but also some other securities.
A new Article 109 was introduced to the Income Tax Law in order to provide for specific rules to determine gains or losses realized from the acquisition or redemption of shares/quotas in “mutual funds”.
In early 2010, the new government announced the preparation of a package of capital market reforms, known as “MK Bicentenario” or simply “MKB”, in a nod to Chile’s bicentenary in September 2010. This package consists of more than 20 separate bills, which would be submitted to Congress over the next four years. The government’s goal is to deepen integration with the rest of the world; create a regulatory framework which promotes innovation and undertakings; adopt better practices regarding competition, oversight and transparency; increase depth, liquidity and access to financial markets; and improve standards for corporate governance and customers protection.
As a priority within MKB, the new government already prepared a bill providing specific rules for the tax treatment applicable to derivative instruments, which has been disclosed to the business community for debate. Another government priority is the preparation of a bill to boost the Chilean fixed income market, by promoting investment of foreign institutional investors, which currently take positions by acquiring derivatives offshore. Along these lines, the government is also pushing ahead a plan to make the peso convertible so that it can be traded internationally so as to help to better spread the peso risk. Another idea top on the agenda of the government is promoting venture capital industry. The government has also announced bills to improve the insurance market and harmonize into a single new law the separate laws governing the so called “mutual funds” as well as the different types of “investment funds”. Other proposals include amending the pension fund statute in order to create a level playing field between investments in foreign mutual funds and investments in separate accounts (by addressing the issue of custody fees).