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LAVCA in the News

Evolving regulation

8 March 2011

By Jenna Gottlieb

PE Manager

March 8, 2011— Improving Latin American regulatory systems and tax breaks are driving investment in the region.

Latin America has become a hot destination for private equity firms hoping to capitalise on the region’s dynamic economic growth, favourable tax conditions and improving regulatory environment. Although some nations are far more attractive than others.

Deal making in Latin America continues to soar. Investments in the region in the first half of 2010 reached $3.8 billion, surpassing the $3.3 billion put to work in all of 2009. Meanwhile, total funds raised for Latin America during the first six months of the year reached nearly $3.1 billion.

Global investors are turning their attention toward Latin America as the region’s key markets are faring well compared to other developed and emerging economies, says Cate Ambrose, president and executive director of the Latin American Venture Capital Association (LAVCA).


Regulatory matters have a part in the increasing interest from foreign firms. “Good public policy and investor-friendly regulation are a critical factor in distinguishing where to commit capital. We see high-level political support in Brazil, Chile, Mexico, Colombia and Peru,” says Ambrose.

Out of the region’s players, Brazil is far and away the region’s most popular private equity destination. Along with its expanding middle class and macroeconomic stability, its tax structure is very attractive to foreign firms.

“Going back historically, Brazil is really globally the most tax friendly environment in the world,” says a tax lawyer based in New York. “The FIP structure, which was created in 2003, has a lot of benefits including no capital gains tax.” A Private Equity Investment Fund (Fundo de Investimento em Participação) or FIP is governed by Brazil’s securities regulations.

In January, Brazil’s government reduced taxes for foreign investments in private equity funds to 2 percent from 6 percent. The government had cut the so-called IOF tax on foreign exchange transactions by overseas investors in an effort to increase long-term financing in the country. The 2 percent tax rate is for foreign investment in long-term Brazilian FIEE emerging company funds and FIP holding funds

Last October, the government raised the IOF rate on certain fixed income and derivatives investments to 6 percent from 2 percent as part of an effort to slow heavy foreign investment and the recent strong appreciation of Brazil’s local currency.

“The big headline story in Brazil is the issue with inflation and the currency wars.

The tax increase reflected that,” says a tax attorney in Miami.

Brazil also has the most sophisticated regulatory system in the region. Brazil’s FIP is a type of vehicle especially designed to structure private equity investments, by holding equity ownership interests in companies under a structure that while similar to that of a holding company, is different in that it is structured in a less bureaucratic, less expensive, and generally more tax efficient manner.

Next to Brazil, Chile has the region’s strongest laws for fund formation and is attractive for its relatively strong capital markets. Chile underwent regulatory reform in 2007 when a capital market reform law known as MK2 was implemented to stimulate the local private equity industry by creating exemptions from capital gains taxes. Corporate tax rates in Chile are generally low, ranging from 17 to 35 percent, depending on the share of profits reinvested and distributed.

“The reason Chile scores so well on our scorecard is the institutions in general are so good and there is so much tax and regulatory transparency,” says Ambrose.

It’s a similar story in Colombia as laws on private equity fund formation continue to be the nation’s greatest strength when compared to the region. Institutional investors face low barriers and liberal policies toward foreign investment.


Ongoing improvements in Colombia’s regulatory structure have been consolidated over the past two years. Resolution 470 of June 2005 allowed for the establishment of private equity funds (fondos de capital privado) which invest at least two-thirds of their capital in unlisted companies or in mixed portfolios, and set up a framework to provide investors with a secondary market for liquidity.

There are, however, some road blocks for foreign firms operating in Colombia. “Colombia continues to combat a number of obstacles, including the perception of corruption and the weakness of the local judicial system. Exits also remain difficult due to capital market restrictions in size and liquidity,” says Ambrose.

Regulatory reform efforts in Peru include laws governing fund formation and operation, minority shareholder rights and its tax laws.

The country also continues to fight the perception of corruption and improve the strength of its judicial system. “Peru has done a huge amount to simplify structures and promote foreign investment coming in in recent years,” says Ambrose.

“However, a significant challenge is that they don’t have a dedicated agency in place.”

Peru’s regulatory framework remains incomplete, and capital market reform projects to improve private equity have been stalled for a number of years, said the lawyer in Miami.

There are often conflicts regarding how to handle these issues among the banking superintendency, securities commission, and the ministry of the economy. The securities commission is criticized for having a conservative attitude toward the entry of new players into the private equity market.

“Fondos de inversion continue to be the only legally established framework, and tend to be more suited to private equity,” says the Miami-based lawyer. “It is not a perfect system but it is moving in the right direction.”

The tax environment in Peru is complex and expensive.

Each investor is required to take into account its distributive share of all items of the fund’s income, gain, loss, deduction and credit. Capital gains from the stock market were tax-exempt through December 2008, while those from outside the exchange were exempt only for individual investors.

Tax rates have fluctuated for several years. From 1 January 2009 there is a 5 percent tax on share transactions, which was approved in March 2007. A 5 percent capital gains tax, first adopted in March 2007 but suspended in December 2008 for a year amid the global recession, applies from 1 January 2010. A 4.1 percent tax is levied on resident shareholders, and non-resident shareholders have the 30 percent corporate tax withheld at the source.

Out of the group, Argentina presents the most obstacles to foreign firms. The country continues to be hindered by its legal framework for fund formation, and that local pension funds were nationalized in 2008, barring investors from participating in private equity.

The perceptions of corruption along with the lack of a strong policy framework are also major hurdles for the country in regards to attracting investment.

Argentina also has a complex and high-tax environment.

“Two elements that impact the private equity industry include an increased capital gains tax and an extended stamp tax that was passed in January 2009 by the City of Buenos Aires,” says Ambrose.

The lack of a specific regulatory framework for private equity is still a major constraint in Argentina. The Funds Law makes general provisions for funds of various types, some of which can be used to operate private equity funds. However, most funds, including those managed by

Argentine firms, continue to be incorporated abroad.

The tax environment in Argentina has become increasingly costly. Argentine funds and companies are subject to capital gains at normal tax rates, which are set at 35 percent, up from 33 percent as of December 2008. The transfer of shares by a foreign, non-resident company or fund is exempt from income tax.

“The region is evolving and learning from mistakes,” says the New York-based tax attorney.

“[Latin America] remains hungry for capital and firms are interested. A lot of it is trial and error which is not ideal, naturally, but it’s an exciting time with a lot of potential. They’re figuring it out.