Capital Gains Tax on the Transfer of Shares in Panama

By Liz A. Prestan O.

General regime, grounds for non-taxability, corporate reorganization, advance payment refund, and valuation in sales with underlying assets

General tax framework

The sale or transfer of shares, equity interests, bonds, and other securities issued by Panamanian legal entities is subject, as a general rule, to a specific tax treatment separate from the ordinary Income Tax regime: the capital gains regime. This regime is based on Article 701, paragraph e), of the Tax Code, and its implementing regulations are found in Articles 117-A through 117-E of Executive Decree No. 170 of October 27, 1993, subsequently amended and supplemented by Executive Decrees No. 135 of 2012 and No. 62 of 2018.

The trigger for this regime is the existence of “values ​​economically invested within the national territory,” a concept that the regulations define broadly: it encompasses all values ​​invested, directly or indirectly, in the liabilities or equity of legal entities that receive taxable income in the Republic of Panama. Indirect investment is also covered: this includes any security issued by individuals or legal entities not domiciled in Panama that, in turn, directly or indirectly own securities issued by Panamanian legal entities that generate taxable income. This broad definition aims to prevent the use of foreign companies in the ownership chain to evade taxes.

The element that triggers the application of this regime is the existence of “assets invested economically within the national territory,” a concept that the regulations define broadly: it encompasses all assets invested, directly or indirectly, in the liabilities or equity of legal entities that receive taxable income in the Republic of Panama. Indirect investment is also covered: this includes all securities issued by individuals or legal entities not domiciled in Panama that, in turn, directly or indirectly own securities issued by Panamanian legal entities that generate taxable income. This broad definition seeks to prevent the use of foreign companies in the ownership chain to evade the tax.

Article 117-A of Executive Decree No. 170 of 1993 establishes three basic rules of taxation, applicable to Income Tax, Dividend Tax, and Complementary Tax:

Gains derived from the sale or transfer of bonds, shares, and other securities issued or guaranteed by the Panamanian State are not considered taxable, nor are losses deductible.

Gains obtained from the sale or transfer for consideration of bonds, shares, equity interests, and other securities issued by private legal entities are considered taxable.

Taxable income rules: which gains are taxable and which are not

Article 117-A of Executive Decree No. 170 of 1993 establishes three basic rules of liability, applicable to Income Tax, Dividend Tax, and Complementary Tax:

• Article 117-A of Executive Decree No. 170 of 1993 establishes three basic rules of liability, applicable to Income Tax, Dividend Tax, and Complementary Tax:
• Gains derived from the sale or transfer of bonds, shares and other securities issued or guaranteed by the Panamanian State are not considered taxable, nor are losses deductible.
• Gains derived from the sale of securities as a result of accepting a public tender offer (PTO) are also considered taxable, in accordance with the provisions of Decree Law 1 of July 8, 1999.

Tax Mechanics: Fixed Rate and Advance Withholding

Once it has been determined that the transaction is taxable, Article 117-B of Executive Decree No. 170 of 1993 establishes that capital gains treatment will be applied, calculating the final tax payable on the gain obtained at a fixed rate of ten percent (10%).

The law, however, does not leave the collection of this tax solely to the seller’s subsequent declaration. It imposes on the buyer or acquirer the obligation to withhold, at the time of payment, a sum equivalent to five percent (5%) of the total value of the sale or transfer, as an advance payment of Income Tax, and to remit said sum to the Tax Authority within ten (10) business days following the date of payment. The seller then has the option of considering this withheld amount as the final tax payable on the capital gain, without the need for additional settlement.

It is important to note that the withholding tax base (5% on the total value of the transfer) and the final tax base (10% on the net gain obtained) are conceptually distinct. When the sale price is substantially higher than the acquisition cost, both figures tend to converge; However, when the profit margin is small relative to the total value of the transaction, the 5% withholding tax on the total price can significantly exceed the 10% payable on the actual profit, resulting in an overpayment to the seller. This situation is precisely what gives rise to the refund mechanism explained in section 6.

Reasons in which withholding tax does not apply

Article 117-D of Executive Decree No. 170 of 1993, as amended by Executive Decree No. 62 of 2018, recognizes that there are sales or transfers of shares or securities that, by their very nature, do not generate capital gains. In these cases, the 5% withholding tax does not apply. The grounds recognized by the regulation are the following:

• Transfers or alienations in favor of the State, its autonomous institutions, municipalities, and associations of municipalities.
• Transfers or alienations between relatives within the first degree of consanguinity and between spouses.
• Transfers or alienations of shares through appropriation, sale, or judicial or extrajudicial liquidation of securities, as a result of the execution of a guarantee established through a guarantee trust or pledge to secure financing.
• Transfers or alienations of securities free of charge between persons not included in the above cases, when it can be determined, in the opinion of the Directorate General of Revenue (DGI), that no capital gain was generated.
• Sales or transfers of securities for valuable consideration in which, also in the opinion of the DGI, it can be determined that no capital gain was generated.

For the last two grounds—gratuitous transfers and onerous transfers without profit—the law does not rely solely on the parties’ assertions: it requires that both the buyer or acquirer and the seller or transferor document the reasons why withholding is not applicable. This documentation must be attached to the Capital Gains Tax Return and consists, at a minimum, of a notarized sworn statement signed by the parties attesting to the gratuitous nature of the transfer (or the absence of profit, as the case may be), accompanied by a sworn certification before a notary public, issued by a Certified Public Accountant, also confirming this circumstance.

Article 117-A of Executive Decree No. 170 of 1993 establishes three basic rules of liability, applicable to Income Tax, Dividend Tax, and Complementary Tax:

The special regime for securities registered with the Superintendency of the Securities Market

Article 117-E of Executive Decree No. 170 of 1993, as amended by Executive Decree No. 62 of 2018, excludes from tax—for purposes of Income Tax, Dividend Tax, and Complementary Tax—the gains derived from the sale or transfer of three categories of securities:

• Securities issued or guaranteed by the State.
• Article 117-A of Executive Decree No. 170 of 1993 establishes three basic rules of liability, applicable to Income Tax, Dividend Tax, and Complementary Tax:
• Securities of registered issuers—as well as their subsidiaries or affiliates—when the transfer results from a merger, consolidation, or corporate reorganization pursuant to paragraph 2 of Article 334 of the Consolidated Text of Decree Law 1 of 1999, provided that in exchange for the transferred shares, only other shares of the surviving or reorganized entity, or of a subsidiary or affiliate thereof, are received.

This last exclusion allows for a degree of operational flexibility: the surviving or reorganized entity may pay its shareholders or participants up to one percent (1%) of the value of the shares received in cash or other assets, for the sole purpose of preventing the splitting of shares, without such payment altering the non-taxable nature of the transaction.

The Mechanism for Refunding the Withheld Advance

When the amount withheld by the buyer (5% of the total sale value) exceeds the final tax payable (10% of the net profit), Article 117-C of Executive Decree No. 170 of 1993 grants the seller the right to request a refund of this difference from the General Directorate of Revenue.

The request must be accompanied by a sworn statement detailing, at a minimum: the sale price of the securities; the acquisition cost of said securities; the amount of expenses necessary to carry out the transaction (commissions, legal fees, notary fees, among others); the resulting profit or loss; the amount of tax calculated at the rate of 10% on that profit; and the amount actually withheld by the buyer. and the total amount requested as a refund.

The DGI (General Directorate of Taxation) resolves this request by means of a reasoned resolution, and the refund may be granted, at the seller’s option, in cash, as a tax credit applicable to the payment of other taxes administered by the DGI itself, or as a credit transferable to other taxpayers.

An illustrative case

The following example, with figures and structure taken from a real case (identities omitted for confidentiality reasons), illustrates the mechanics of the return. A foreign company, holding one hundred percent (100%) of the shares of a Panamanian company, sold that shareholding in its entirety through a share purchase agreement, for a sale price of US$353,279.03. Pursuant to Article 701, paragraph e), of the Tax Code, the buyer withheld 5% of the total sale price from the seller—that is, US$17,663.95—and remitted it to the Tax Authority within the legal deadline of ten business days, by submitting Form No. 108.

The seller’s acquisition cost of the shares was US$300,000.00, resulting in a net profit of US$53,279.03. Applying the 10% tax rate to this profit, the final tax due amounted to only US$5,327.90, a figure substantially lower than the US$17,663.95 already withheld and paid to the Tax Authority, thus generating a difference in favor of the seller of US$12,336.05.

Based on this difference, and having demonstrated compliance with each of the requirements of Article 117-C, the seller is in a position to formally request a refund of the overpaid amount from the DGI (General Directorate of Taxation). This case illustrates a pattern that frequently recurs in transactions involving the purchase and sale of company shares: when the profit margin on the sale price is proportionally small, the 5% withholding tax on the total value almost always exceeds the final 10% tax on net profit, resulting in a recoverable credit that, in practice, many sellers fail to claim due to a lack of understanding of the mechanism.

Corporate Reorganization as a Cause of Non-Taxability

A scenario of particular practical relevance, distinct from the special regime for securities described in section 5, is that of corporate reorganizations within the same economic group. These are governed by subparagraph d) of Article 117-D of Executive Decree No. 170 of 1993, which exempts gratuitous transfers of securities from withholding tax when it can be demonstrated that no capital gain was generated.

The Directorate General of Revenue has confirmed this criterion through legal opinions issued regarding corporate reorganizations: as long as there is no actual gain for the new acquirers as a result of the transfer of shares, the event that triggers the capital gain tax obligation simply does not occur. The legal basis for this position is precisely the aforementioned Article 117-D, which does not exempt parties from the obligation of providing supporting documentation, but rather reformulates it: instead of calculating and withholding the tax, the parties must adequately substantiate why the transaction did not generate any profit.

The gratuitous transfer of shares within an economic group: typical clauses

In practice, agreements for the gratuitous transfer of shares used to implement corporate reorganizations within the same economic group usually incorporate, at a minimum, two specific stipulations aimed at supporting the tax treatment of the transaction:

A clause that expressly states the gratuitous nature of the transfer—that is, that no consideration was exchanged between the parties—and that bases it on Article 701, paragraph e), of the Tax Code, and on Article 117-D, paragraph d), of Executive Decree No. 170 of 1993, added by Executive Decree No. 135 of 2012 and modified by Executive Decree No. 62 of 2018, specifying that, since no capital gain is generated for the acquirers, the transaction is not subject to withholding tax.

A second clause that translates the documentary standard required by the regulations into concrete obligations for the parties, committing them to:

• Document the reasons why withholding tax does not apply to the transfer of shares.
• Attach to the Capital Gains Tax Return a duly notarized sworn statement, signed by all parties, attesting to the gratuitous nature of the transfer.
• Submit a sworn certification before a notary public, issued by a Certified Public Accountant, confirming that the transfer is made gratuitously and does not generate a capital gain.
• Sign the necessary supplementary documents, including submitting Form 108 (Sworn Statement of 5% Withholding as an Advance Payment of Income Tax on Capital Gains), within the legal deadline of ten business days from the closing date of the transaction.

Securities of issuers registered with the Superintendency of the Securities Market of Panama, provided that their sale is carried out through a stock exchange or other organized market.

The sale of a company with underlying real estate: how to determine the true sale value

A common conceptual error in share transactions of companies whose main or only asset is real estate—the typical case of holding companies—is assuming that the sale value of the shares is equivalent to the nominal value of the company’s paid-in share capital. This is not the correct approach from either a commercial or a tax perspective.

The true economic value of the shares of a company holding real estate is determined by its net worth, according to the basic accounting identity: assets minus liabilities equals net worth. Consequently, it is this net worth, and not the nominal share capital registered in the articles of incorporation, that must be used as the reference for setting the sale price of the shares. The taxable capital gain, in accordance with Articles 117-A to 117-C already explained, will be calculated on the difference between this sale price and the acquisition cost of the shares.

Ignoring this distinction has significant practical consequences: setting the sale price based on the nominal share capital, when the actual value of the underlying property net of any associated liabilities is substantially higher, can subject the transaction to scrutiny by the tax authorities for undervaluation, in addition to generating an artificially reduced capital gain tax base that does not reflect the economic reality of the transaction.

The seller’s representations and warranties as a mechanism for protecting the buyer

Precisely because of the importance of the underlying asset in determining the price, preliminary purchase agreements for shares of real estate holding companies almost always include a set of representations and warranties that the prospective seller grants to the prospective buyer, among which the following stand out:

• That the company is valid and duly constituted, and is in force in accordance with the laws of the Republic of Panama.
• That the prospective seller is the sole and legitimate owner of the shares being sold, which are free of any encumbrance, lien, attachment, purchase option, or any other restriction that affects their free disposal and transfer, unless the parties expressly declare otherwise in writing before signing the final agreement.
• That the company is valid and duly constituted, and is in force in accordance with the laws of the Republic of Panama.
• That, except as expressly stated in writing, there are no pending lawsuits, claims, debts, or obligations, nor any encumbrances other than those registered in the Public Registry, affecting the company or the real estate.
• The commitment to keep the shares and the real estate free of any new liens, encumbrances, or attachments from the signing of the preliminary agreement until the execution of the final agreement.
• That all the information provided to the prospective buyer regarding the company and the real estate is true, accurate, and correct.

These representations and warranties serve a dual purpose. From a strictly contractual perspective, they protect the buyer against hidden contingencies that could affect the true value of the assets they are indirectly acquiring through the shares. From a tax perspective, they reinforce the traceability and reliability of the valuation used to set the sale price, which is especially relevant if, in the future, the transaction is reviewed by the tax authorities regarding the reasonableness of the agreed price and, by extension, the declared capital gain.

Conclusion

The capital gains tax regime applicable to the transfer of shares in Panama combines a relatively low final rate—10% on net gain—with an advance collection mechanism—5% on the total value of the transaction—that does not always reflect the actual tax owed. This makes the refund mechanism under Article 117-C a frequently used tool, often underutilized due to a lack of awareness. At the same time, the regime recognizes legitimate exceptions—transfers to the State, transfers between close relatives, transfers for the enforcement of guarantees, and, particularly relevant to corporate practice, reorganizations within the same economic group—provided that the parties comply with specific and verifiable documentation requirements. Finally, in transactions involving real estate holding companies, the correct determination of the sale price based on actual net worth, rather than nominal share capital, is essential both for the soundness of the contract and for protecting the parties’ tax position in the event of a tax audit.

Official Sources Consulted

• Directorate General of Revenue, Form 108 and withholding tax on the sale of securities. ↗
• Executive Decree 62 of May 28, 2018. ↗
• Superintendency of the Securities Market, tax incentives applicable to traded securities. ↗

This article is for informational and general legal analysis purposes; it does not constitute legal advice for a specific case. Administrative requirements may vary and should be verified at the time of each procedure.