Brazil income tax reform: International tax strategies reassessment
Paulo Victor Vieira da Rocha and Custódio Moreira Brasileiro Silva of VRBF Advogados share insights on the impact of income tax reform for international tax planning regarding Brazilian companies' cross-border dividend distribution taxation.
The Brazilian Tax Law is under review. For now, the Brazilian National Congress is discussing some important constitutional amendments and law projects on two fronts:
Unification of the existing consumption related taxes, possibly in the form of a comprehensive and simplified VAT; and
The income tax reform, a set of nuclear legal modifications that can imply some structural changes in the Brazilian tax system.
Local political analysts dare to say that this a rehearsal for a more general and restructuring tax reform to come.
All these changes give rise to multiple discussions from different perspectives. This article will focus on the need to replan international tax structures in view of the possible modifications of income tax legislation in Brazil, come they true.
These legislative projects are under an intense legislative debate and, for this reason, the scope of our analysis is limited to the currently prevailing qualitative trends, as insights for future tax strategies reformulations. Specific focus is given to profits and dividends distributions taxation policy.
Brazilian current dividends distribution policy
Since 1996, Brazil has adopted the position of not taxing dividends paid from resident companies to their shareholders, be them residents in Brazil or not. It is important to remark that dividends received from non-resident companies are taxable in Brazil. This policy represented a two-fold impact. From one side, this has been appointed as a reason to a more elevated tax rate on corporate profits, since the dividends would not be taxed.
From the other, this reduced the importance of double taxation treaties (DTT), at least from the perspective of dividends distributed by Brazilian resident companies. Since there cannot be double taxation on such dividends, if they are not taxed in Brazil.
An important exception could be found in those treaties in which matching credit or tax sparing clauses were available – which granted a tax credit for non-resident shareholders, even if there was no taxation of the dividends in Brazil. This represented a tax benefit, leading to a lesser income tax burden. But those clauses have become rarer in more recent treaties, available only in older ones.
With this policy of taxing predominantly profits in detriment of dividends has made Brazil less susceptible to taxing rights attributions in DTT’s, since profits are in general taxed only at the source, but dividends taxing rights come with limitations. From the taxpayer perspective, the DTTs were less effective or attractive in this regard.
New proposed policy and the impact on tax planning strategies
One of the most important pillars of the current income taxation reform proposal is the return of dividends taxation. The current version of the Legislative Project stipulates a tax withholding of 20% when the dividends are paid to a non-resident, increasing to 30% if paid to a resident of a state deemed to be a tax haven or with a privileged tax regime.
The consequent impact would be the opposite of those of the current policy. Firstly, as for dividends distribution, double tax treaties would become more important for obtaining tax efficiency when receiving dividends from Brazil, probably demanding replanning of ownership structures for Brazilian companies shares and participations.
Secondly, the reduction of corporate income tax on profits, allied with the potential limitation of dividends taxation foreseen by DTTs, may result, depending also on the domestic rate approved for profits taxation, in overall income tax reduction paid in Brazil. However, this result will depend on some strategic tax planning.
It should be highlighted that in view of the new patterns of anti-avoidance rules adopted domestically or in DTTs, this planning needs solid ground. Tax authorities in Brazil are tending ever more, following international trends, to disregard legal structures or transactions for which an economic justification other than the tax reduction is lacking.
This policy appears even on recent DTTs in the form of, for instance, the principal purpose test (PPT). PPT is present in the Brazil–Argentina DTT, after a protocol ratification in 2017, and in more recent DTTs signed by Brazil with Switzerland, Singapore, and United Arab Emirates. The notion of principal purpose or objective, however, is yet to be found in older ones. (Schoueri and Moreira; Abuso dos Acordos de Bitributação e Teste do Objetivo Principal; 2019)
As a result, a robust tax planning cannot be made in the spur of the moment, it must be integrated in the overall business strategy of every company and it should be considered even at the business model conception and subsequent re-adaptations.
Besides that, such re-adaptation and reassessment of the business strategy should be dynamic, continuous and flexible, given the perspective that legislative reforms and policies alterations shall be much more frequent, considering the pace of the own social changes in a digital world.
Paulo Victor Vieira da Rocha
Partner, VRBF Advogados
Custódio Moreira Brasileiro Silva
Associate, VRBF Advogados