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The tax transparency of US LLCs and the tax regime applicable in Spain.

Apr 7, 2024 | AEAT, IRPF Spanish Tax Return, IRS - Internal Revenue Service, Tax Treaty, US Tax Return 1040 / 1040NR | 0 comments

The Spanish tax treatment of US LLCs classified as pass-through entities: sole proprietorships, partnerships, S-Corps and Trusts, are analogous to entities subject to the Spanish income attribution regime (= atribución de rentas), which is the tax treatment of distributions made by the aforementioned Entities to tax residents in Spain.

In 2006, the United States and Spain signed the Friendly Agreement, which established the procedure so that these entities could benefit from the Double Taxation Treaty (DTT). Thus, the Friendly Agreement establishes that LLCs and trusts are included in the definition of persons for the purposes of the DTT as entities subject to the Spanish income imputation regime.

The Spanish Tax Agency (AEAT) has established some elements to know when a foreign entity is analogous to a Spanish entity and must submit to the income attribution regime. Entities are considered to be subject to the income attribution regime when the entity is not a tax payer in the State of its incorporation; the income is fiscally attributed to the partners or participants in accordance with the legislation of the State of constitution, and that the income obtained by the entity in the attribution of income and the income attributed to the partners retains the nature of the activity or source from which they come for each partner or participant in accordance with the legislation of the State of their Constitution.

In a similar situation are (binding consultation DGTV2110-04) UK partnerships that lack legal personality and are not subject to UK corporation tax. The AEAT also established (binding consultation DGT V1631-14) that a German limited partnership, despite having legal personality, was subject to the income attribution regime in Germany and, therefore, was analogous to Spanish entities. In the same sense, the binding consultation DGT V1319-04 concluded that a UK LLP that has legal personality and was subject to the income attribution regime in the United Kingdom was an entity analogous to Spanish entities in income attribution.

It is clear that the Entities are not corporate tax payer in the United States since the IRC establishes that these entities are transparent for tax purposes and does not consider them to be persons other than their owners. Consequently, the Entities will not be liable for corporate tax and the income received by them will be directly attributed to their owners. From the administrative point of view, the Entities must complete the information returns and indicate who the partners are, what is the amount of their participation in the Entities, and what amount is distributed to the partners, so that the IRS can compare the information in the partner’s income tax return.

Additionally, the Entities function as an information center on the flow of capital, providing the form or Schedule K-1 to the partners in S-Corps and they must attach it to their personal tax returns. This procedure allows us to identify how the income is fiscally attributed to the partners and participants, who must compute it in their tax returns.

If the Entities are considered transparent or pass-through by US tax legislation, then the nature of the income is already determined provided that the Entity is not a separate person from the partner or participant from a tax point of view, and it could be understood as if the partners or participants carried out the transaction directly with a third person.

Now, the United States and Spain divide their tax powers through the DTT in accordance with the principle of benefits, which establishes that the State of source has the right to tax active income (i.e., income derived from work, income from economic activities , real estate income and capital gains from the sale of real estate), while the State of residence has the right to tax passive income (i.e., dividends, interest and capital gains not derived from real estate).

For example, if it is real estate located in the United States, this country will have the tax power to tax real estate income, or capital gains derived from sales of real estate. The Spanish tax resident may deduct the tax paid abroad under article 24 of the CDI and article 80 of the LIRPF. If, for example, these are dividends from shares in US companies or investment accounts, the general rule is that they will be taxed in Spain, but the United States may tax 5% of the gross amount of the dividends if the beneficial owner of dividends is a company that owns at least 10% of the voting shares in the company that pays the dividends, or 15% in other cases. Likewise, the tax paid in the United States may be deducted in Spain. If the Spanish resident owns more than 80% of the voting shares in the company that pays the dividends, then the United States will not practice withholding in accordance with the rules established in the Protocol.

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