Cheap Assets + Strong Dollar + Tax Incentives = Shopping Time?

With Chile still under a severe lockdown due to COVID-19, it is impossible to avoid the topic of what will happen to the economy should sanitary measures continue.

In that context, and trying to fix the world with a group of friends through a Zoom gathering glued together with wine, one of them (an investor from an asset management company) made a comment that stuck to me:

"Locals will always see things with a lot of emotion. If things are good they will buy at a peak price and if things are bad they will sell when values have hit rock bottom. Foreign investors, particularly emerging market investors, will see it differently: they will see undervalued assets, they will see a strong dollar that gives them an improved purchase power and they will see an emerging market government that still has room to maneuver and act from a fiscal perspective".

Since the protests of October 2019, the US Dollar ("USD") has increased its value against the Chilean Peso ("CLP") by about 19% to 20%, mainly driven by local wealth realizing the party is over and thus better to get out before things get out of control (and their money, investments or properties out of their pockets). An emotional reaction one could say, but then again our democratic history has seen a lot of "hiccups" and interludes that well justify getting ahead of events.

Now assuming you are an emerging market investor focused on LatAm and have to choose between Chile and the rest of LatAm (excluding Brazil and Mexico), for instance, Peru, you get to realize we all sort of share the same crazy (or should I say "emotional"?) side to our democratic history. Hence, you look for other things.

States know this and that is when tax policy can help tip the balance one way or another, and the Chilean government is trying something in that line (at least when this piece was written) with a set of measures to attract investments in a post-coronavirus world:

1. An overall tax burden on Chilean source income earned by treaty country investors set at 35%, that until 2026 is set to include the US and UAE unless the tax treaties with said countries are ratified in which case this overall burden will become permanent provided there are no changes on the taxation of foreign investors (which can get up to 44.45% if the investors happen to act from a non-treaty country such as Germany, for example).
2. An instant depreciation of fixed assets associated with new investment projects, for 100% of their value until December 31, 2022. With subtitles: don't pay taxes until you recover your investment.
3. An instant depreciation of newly acquired intangible assets, for 100% value until 2022 of their value until December 31, 2022, such as trademarks, licenses, patents, or new vegetal varieties.Update: on July 7, 2020 this measure was rejected by the Chilean Congress.
4. A temporary waiving of the 1% regional contribution on investments exceeding USD 10 MM, provided they are subject to an environmental approval process before December 31, 2022, and that the project kicks-off within 3 years of having obtained the environmental authorization. Update: on July 7, 2020 this measure was rejected by the Chilean Congress.
5. While not an incentive per se, Chile still gives foreign investors a fair degree of freedom in terms of how to finance their investments in Chile, both in terms of interest deductibility and preferential withholding tax on interest payments (4%) for intra-group treasury entities that can qualify as foreign financial institutions.
6. An improved process on the recovery or waiving of VAT (19% of everything you buy or import) if associated with the acquisition or construction of fixed assets.
7. Last but not least, somewhat unchallenged rules concerning the non-taxation of capital gains arising from publicly traded shares and bonds.

It is worth noting that while the October 2019 social unrest and the COVID-19 crisis will put a significant amount of pressure onto the Chilean treasury, from a fiscal perspective the tax burden on corporate taxpayers is well on par with the OECD and already a significative weight for businesses. For that reason, any future tax increases should, if done seriously, target Chilean resident individuals rather than corporate taxpayers or foreign investors.

Is it a good moment? The tax layout is set. Are the prices right and do they properly reflect the uncertainty of COVID-19 and the Chilean constitutional debate? That, my friends, is the question.