El Salvador, one of the few countries in the region that has not only modern but also efficient legislation, which accompanied by its capital market contributes greatly to the development of public and private sectors. Its solid legal framework is supported by a strong regulatory and supervisory regime, mature and technically capable of providing predictability and security in the long term, such as the regulatory role of the Central Reserve Bank, regulatory entity, and the Superintendence of the Financial System, supervisory body, without leaving aside the role played by the Stock Exchange of El Salvador and other entities.
The investment fund law of 2014 was approved, among others, due to the robustness and liquidity of the system, as of 2018, its technical regulations, such as the NDMC-02 Technical Standards for the authorization of incorporation, the start of operations, registration, management of operations of the Investment Funds Managers, and for the case we deal with in this article, the NDMC, 06, 07, 11, 13, 16, NPB4-42 and the NDMC-17 Technical Standards for Real Estate Closed Investment Funds. The Securities Market Law and its Regulations are complementary to all of them.
For general understanding, an Investment Fund is formed by the contributions of several investors, who are called participants; it is managed by a corporation called Manager, on behalf and at the risk of the investors. The value of the unitholders’ contributions, as well as any type of return they receive, is based on the financial performance of the Fund’s assets.
This Fund is the exclusive property of the unitholders, being an independent and different asset from that of the Investment Fund Manager. Each Fund is expressed in participation quotas, in order to determine the share that corresponds to each of the investors in the Fund’s assets.
The Investment Fund Manager must finance this equity in securities and other assets; in addition, it may keep it in bank deposits, all under the provisions of the law, the internal regulations of each Fund, and the specific regulations issued by the Central Reserve Bank of El Salvador.
For purposes of the law, Investment Funds are classified as follows: a) Open Investment Funds: Those that do not have a defined term and the participants may redeem their participation quotas at any time, totally or partially. b) Closed Investment Funds: Those that have a defined term and the participants may only receive what corresponds to them of their participation quotas at the end of the Fund’s term and in the cases established by law, and their participation quotas may be negotiated in the secondary market.
Following the provisions of the Fund Laws, the Managers are constituted as corporations with a fixed initial capital of US$500,000.00, duly subscribed and paid in full. They are authorized by the Superintendence of the Financial System, first, with the incorporation of the corporation, then the operation of its activities, and finally the authorization of the closed-end fund. This process is relatively expeditious, once a dossier of technical and legal requirements has been completed by the investors, together with their experienced advisors. Response times can range from 8 to 10 months, depending on how diligent the applicant is and that the public entity SSF has the empathy and commitment to response times.
According to Art. 45 and 97 of the Investment Funds Law, investors may make contributions in real estate properties built in their entirety, located in El Salvador that generate income from their lease or eventual sale, considering the minimum and maximum limits.
The Real Estate Funds are constituted as Closed Funds with a defined term, the investments in real estate of this type of Funds may only assume the risks inherent to the real estate activity and not the risks of the different activities carried out by the lessees of the real estate. The Real Estate Funds must state their purpose in their internal regulations, as well as in any document sent to the unitholders and in any information concerning the Real Estate Fund disseminated by the Manager. The unitholders of these Funds may only receive what corresponds to them from their participation quotas at the end of the Fund’s term, as established in the Fund Law, and their quotas may be traded in the secondary market.
The Closed-end Real Estate Funds have a minimum net worth of US$350,000.00 and at least ten unitholders, or two unitholders if there is an institutional investor among them; this amount and number must be reached within six months from the date on which the Fund is recorded in the Register. They have a Supervisory Committee made up of three members, elected by the ordinary assembly for a term of one year, remunerated at the Fund’s expense, and eligible for reelection.
The participants encounter ordinary or extraordinary meetings. Ordinary meetings are held once a year, within five months following the closing date of each fiscal year, to decide on matters about these meetings. Extraordinary meetings may be held at any time, when the needs of the Fund so require, to decide on any matter that the law or the internal regulations of the Fund assign to the knowledge of these meetings and provided that such matters are indicated in the notice of the meeting.
The assets in which a Fund invests are not subject to seizure or any type of precautionary or preventive measure by the creditors of the Manager or the unitholders.
Open-Ended and Closed-Ended Mutual Funds are excluded from being taxpayers of the Tax on the Transfer of Movable Goods and the Rendering of Services (VAT), from the payment of Income Tax (ISR), and any other kind of taxes, fees, and special contributions of a fiscal nature.
However, the Real Estate Closed-end Investment Funds have the character of taxpayers for purposes of the Tax Law on the Transfer of Movable Goods and the Rendering of Services. Transfers in favor of Real Estate Closed-end Investment Funds, as contributions and acquisitions made by Real Estate Closed-end Investment Funds, are exempt from the Real Estate Transfer Tax. Transfers of assets to form an Investment Fund, whether movable or real estate, shall be likewise exempt from any tax on assignments, endorsements, registry registrations, and marginalizations.
During the 5 years following the constitution of the first Investment Fund, the natural person participants are exempted from paying Income Tax on the income, revenues, or profits from their participation quotas in Open and Closed Investment Funds. Upon expiration of such term, such income or gains are treated following the Income Tax Law and other applicable laws.
Any income, revenue, or profit from the participation quotas in Open or Closed Investment Funds, obtained by legal entities are subject to the tax treatment established in the Income Tax Law. In the cases in which the income received by the legal entity comes from investments in securities exempted from income tax, such income, revenue or profit will be also exempted.
The industry construction in El Salvador before the pandemic was heading towards a real estate development we’ve never seen before. The construction of shopping malls, apartment towers, office towers, hotels, free trade zones, logistics centers, and others, were generating a high value. As of March of this year, some $1,000 million dollars are being executed in private projects, which are divided in 72% between apartments and housing, 6% in social housing, 16% in commercial and office projects, and the other 6% in warehouses and tourism projects. By March 2021, according to the Salvadoran Chamber of Construction, CASALCO, a recovery in public and private projects is expected in the order of $1.2 billion dollars, seeking an improvement in the deficit due to the effect of the pandemic.
The raising of capital and administration of resources is not exclusive to traditional banking but to the multiplicity of financial vehicles that exist today in the market, as instruments to serve the private or public sectors in their constant and restless desire to grow and to have the necessary capital to achieve those ends. Hence, closed-end real estate investment funds are an excellent option.