Brazil Introduces Tax Changes, Creates Special Tax Regime

Originally published in the July 30 edition of World Tax Daily (Copyrights Tax Analysts)

Brazil’s official gazette of July 28 published Provisional Measure 497/2010, which introduces a series of tax changes, including a special tax regime for construction of stadiums for FIFA’s 2013 and 2014 soccer cups and changes to customs drawback regimes. This article will discuss the most important changes introduced.

  • Tax Treatment of Subventions for Research and Innovation

Provisional Measure 497/2010 provides that governmental subventions (financial aid) to corporate taxpayers for research, development, and innovation projects may be excluded from the tax basis when determining corporate income tax, the 9 percent social contribution on net income (CSL), the Program for Social Integration contribution (P.I.S.) and the Contribution for the Financing of Social Security (COFINS).

The tax exclusion applies to subventions made under Law 10,973/2004 and Law 11,196/2005, as long as the taxpayer fulfills all legal requirements established by those laws.

Provisional Measure 497/2010 clarifies that expenses the taxpayer paid in association with the subventions do not qualify as deductible expenses for tax purposes or generate P.I.S. and COFINS tax credits. Provisional Measure 497/2010 requires that any expenses incurred and deducted before a subvention is received be reverted (that is, added back to the income tax and CSL tax basis). Likewise, P.I.S. and COFINS credits taken before the subvention is received (when it works as a cost reimbursement) must be canceled.

  • Special Regime for Stadium Construction

In line with other tax incentives already announced for the FIFA 2013 Confederations Cup and 2014 World Cup, Provisional Measure 497/2010 creates the Special Tax Regime for Stadium Construction, Expansion, Remodeling, or Modernization (RECOM).

RECOM was originally contemplated in Law Project 7422/2010, but because of concerns that the October 3 general elections could cause Congress to delay its approval, the executive branch decided to create RECOM via a provisional measure. It benefits companies working on stadium construction, expansion, remodeling, or modernization projects approved by the Ministry of Sports by December 31, 2012.

Local sales to RECOM companies and imports of new machinery, instruments, equipment, and construction materials by RECOM companies are eligible for suspensions of:

  • P.I.S., including that on imports;
  • COFINS, including that on imports;;
  • IPI, including that on imports; and
  • import tax (this suspension applies only when no similar good is produced locally).

The suspensions will be converted into exemptions after the asset or material is used in the approved stadium project. Failure to comply with the RECOM requirements would trigger the restoration of the taxes, along with interest and penalties.

The P.I.S. and COFINS suspensions also apply to imports and local acquisitions of services to be used under the RECOM regime and to rental and lease payments made to Brazilian companies for machinery and equipment.

RECOM tax benefits apply to local acquisitions and imports carried out between the date of publication of Provisional Measure 497/2010 and June 30, 2014. Under Law Project 7422/2010, the tax incentives would not have applied until January 1, 2011.

  • Exemption Drawback

Provisional Measure 497/2010 recreates the so-called exemption drawback customs regime,1 under which eligible importers may benefit from import tax exemption and zero rate IPI, P.I.S., and COFINS on imports and domestic purchases of goods equivalent to those used or consumed in the manufacture of products already exported.

Exemption drawback requires that the taxpayer has already exported the final product using materials that did not enjoy any drawback benefits. In other words, it requires a previously taxed import or local acquisition of materials by the taxpayer. After proving that it used taxed materials to produce an exported product, the taxpayer may be authorized to import the same material, at the same quantity, free of federal import taxes.

The nature and quality of the material must be also the same. The exemption drawback works as a reposition of inventory.

The executive branch will soon issue additional regulations, limits, and conditions for exemption drawback.

  • Reduction of Import Tax for Auto Parts

Before Provisional Measure 497/2010, imports of auto parts, including tires, could benefit from a 40 percent reduction of the applicable tax rate. For example, a taxpayer importing a spare part subject to a 10 percent import tax — according to its tariff code under the harmonized-system-based Mercosur common tariff (NCM) — ended up paying tax at 6 percent.
Provisional Measure 497/2010 establishes a schedule to phase out this benefit by applying the following rate reductions:

  • 40 percent until July 31, 2010;
  • 30 percent until October 30, 2010;
  • 20 percent until April 30, 2011; and
  • 0 percent as of May 1, 2011.

Thus, as of May 1, 2011, imported auto parts will be subject to the full import tax rate as established in the NCM.

  • Criminal Prosecution for Social Security Tax Crimes

Article 11 of Provisional Measure 497/2010 amends article 83 of Law 9,430/1996, which regulates criminal prosecution for tax crimes.

The original version of article 83 provided that a tax agent would forward the fiscal representation for criminal purposes 2 to the local or federal public attorney only after an administrative tax court delivered a final decision on an assessed item. (In other words, a criminal investigation of a tax crime could only start after the civil tax case ended, regardless of how long it took.)

Article 83 of Law 9,430/1996, however, did not address crimes connected to social security taxes, making it possible to infer that a criminal investigation concerning social security taxes could be initiated before the civil case ended. Article 11 of Provisional Measure 497/2010 adds wording to provide that crimes associated with social security taxes — as established in the Criminal Code — are also subject to the same restrictions concerning the fiscal representation for criminal purposes.

  • Other Issues

Provisional Measure 497/2010 has several other provisions dealing with many different tax and customs matters:

  • jurisdiction of the Federal Revenue Department to regulate technical and operational requirements within customs zones;
  • taxpayer obligation to follow the revenue department’s technical and operational requirements for customs zones;
  • customs clearance procedures;
  • customs penalties;
  • tax treatment of income from work, and pensions and retirements paid by social security, received in one year but related to previous years;
  • new definition of day trade transaction in stock, merchandise, futures, and similar exchanges;
  • new P.I.S. and COFINS rules for wholesalers that acquire products from related parties;
  • social security contribution for public servants;
  • P.I.S. and COFINS tax credits for the beef industry;
  • P.I.S. and COFINS zero rates for transportation services with high-speed trains; and
  • revocation of the tax credit (to the local taxpayer) for the withholding tax levied on some royalty payments abroad.

Footnotes

1 Generally, the drawback regime is a customs special regime created in 1966 to promote Brazilian exports of products that use imported components. Under the regime, eligible companies can import raw material, parts, components, packaging material, etc., from abroad free of import duties, provided that after a local manufacturing process they export the final product. Because exports are not subject to any of those taxes, the use of a drawback regime virtually eliminates Brazilian tax costs for imports of materials used in final products ultimately destined to export, making them more competitive in international markets. Drawback includes three basic categories of tax relief that differ from each other based on how taxes are minimized to the taxpayer (importer): suspension, exemption, and refund.

2 A fiscal representation for criminal purposes is a notice prepared by a tax agent to a public attorney (federal or state) reporting a taxpayer’s action or omission that in theory might be characterized as a tax crime. Based on the fiscal representation, the public attorney may start a criminal investigation or prosecution.

David Roberto R. Soares da Silva, tax partner, Azevedo Sette

Azevedo Sette Advogados