Brazil’s presidential battle, which ends on October 30, looks set to determine whether the country moves towards OECD transfer pricing guidelines as planned.
“The elections will have an impact,” says Pedro Lima, senior tax manager at tobacco company JTI in Santa Cruz do Sul. “If the current president [Jair Bolsonaro] is re-elected, there is a great chance that Brazil will adopt the OECD guidelines.
“The tax authorities have mentioned that they want to adopt the rules regardless of elections. They are running against time to have everything ready for next year. It will happen sooner or later, [but] for 2023 – that remains to be seen,” continues Lima, referencing the planned deadline of next year.
Bolsonaro’s rival and former president himself, Luiz Inácio Lula da Silva – known as Lula – has shown little ambition to pursue the country’s alignment with the OECD over the years, according to Lima.
“It’s not one of his priorities,” he says.
The first round of the general elections was held on October 2, with Lula acquiring 48.4% of the vote, narrowly ahead of Bolsonaro, who got 43.3%. The second round will take place on October 30.
Current polls are predicting Lula to remain ahead in the race, but Lima says nothing is certain.
Time for change?
While Lula’s push for Brazil’s adherence to OECD and TP rules remains to be seen, the jurisdiction has certainly shown an increased commitment to align its tax rules with international standards.
Historically, Brazil has strengthened its partnership with the OECD through a range of programmes.
Despite efforts to become a full member, the Brazilian government is still working on joining the OECD, which also means adopting the international standards in its TP regime.
The current TP rules remain unchanged from 1996, when they were created. They do not follow the arm’s-length principle (ALP) but instead rely on strict calculation methods through fixed margins.
Leonardo Meller, head of tax at food manufacturer Puratos in São Paulo, is confident that Brazil’s appetite to join the OECD will be strong, especially under Bolsonaro.
“I believe it will join, but I don’t know when, due to the elections. If Bolsonaro continues, this rule is just a matter of time,” he says.
“Since 2018, when it was presented and Bolsonaro was elected, there has been a movement of no turning back,” adds Meller.
Daniel Cordeiro, tax manager at multinational aerospace manufacturer Embraer in São Paulo, says the election results will determine the timeline of the implementation of OECD TP rules.
“The results of the election will be key as to whether it will come into place next year. It will have to go through both houses of Congress,” he explains.
Some tax directors argue that the implementation of the TP guidelines must remain a key goal for Brazil, especially as its current regime offers little flexibility for taxpayers.
“It’s not a great model. Society wants change,” says Meller.
The OECD standards would allow Brazilian corporations to prioritise comparability analyses by being more flexible and fairer, he adds.
While Brazil’s TP regime is “unique”, as Cordeiro describes, it needs more agility as the rules are too strict given the variety of industries present today.
He says the current standards make it difficult for some industries, despite the tax authority tolerating some deviation in the fixed margin approach. The TP rules in Brazil do not rely on the use of ranges but can tolerate a deviation of 5% for transactions in general and 3% for those with commodities.
“It will be ideal to have more flexibility. If you prove that the [fixed] margins aren’t applicable, then you can have a specific margin allowed. That’s one of the key issues,” says Cordeiro.
“The standard could be that you have a margin or range of margin and if you have your own benchmark, you can show that the range does not apply to your specific case. This would work,” he argues.
Another downside of Brazil’s TP rules is that they focus on mathematical questions in transactions, even with the legroom offered by the deviation. The formulary apportionment system is used to calculate transfer prices.
Cordeiro says the inclusion of the ALP within the law would create a more business-oriented way of looking at TP and bring economic rationale into discussions between taxpayers and authorities.
At odds
Other areas within the regime also require the implementation of international standards.
For example, withholding tax credit rules that Brazil currently has with the US remain a major problem, according to Itamar da Cunha, senior tax planning manager at cereal company Kellogg’s in São Paulo.
Joining the OECD would enable Brazilian taxes to become creditable in the US under the US foreign tax credit regulations.
“They are denying the credit of the income tax. The issue is the standardisation,” says da Cunha.
“Our difference with other countries is creating that type of situation. We should seek these types of benefits,” he adds.
Dante Zanotti, a tax partner at law firm Lefosse in São Paulo, agrees with da Cunha that amending the TP guidelines is essential, as changes in the US foreign tax credit system are already affecting corporations based in the US with Brazilian entities.
“Under these [OECD] regulations, one of the important aspects is to have TP guidelines aligned with the US. Brazil currently does not,” says Zanotti.
The potential implementation of OECD TP guidelines is expected not only to boost the jurisdiction’s tax certainty but also its foreign investment.
As Lima notes, “The biggest difficulty is to explain local rules to foreign investors. We have our set of rules that create additional controls and obligations.”
The misalignment with foreign law means that investors are less eager to invest in Brazil, despite it being a significant market for multinationals. Adhering to OECD rules could turn the country into a more attractive business hub.
It’s therefore important that Brazil adopts the OECD rules as far as possible, says da Cunha.
“However, Brazil has had a different approach to TP for many years, and that is something that must be considered. If Brazil adopts the ALP, it must be done in a gradual way,” he adds.
Tough transition
For small-to-medium-sized enterprises (SMEs) particularly, moving away from the current TP regime would be costly.
SMEs would not have the same resources as multinationals, so tax authorities and the government would have to consider the different types of businesses or revenues when carrying out the transition.
The move towards OECD guidelines would affect all kinds of corporations in Brazil, says Zanotti.
“Changes will affect practically all inter-company transactions currently performed by corporations with Brazilian entities,” he says.
As the current TP guidelines tend to focus on transactions with goods, the biggest impacts could be on inter-company transactions involving services, intangibles and financial transactions.
For these transactions, the adoption of OECD guidelines would result in substantial changes, warns Zanotti.
Lima also says shareholders would have to support the additional cost of implementation, as there would be a risk that Brazil became “more expensive” until the final adoption process was finalised.
“The issue we need to take care of is the transitional rules. Will there be transitional rules or will they [corporations] switch straight away?” questions Lima.
The election results, expected at the end of the month, will shed more light on Brazil’s future tax policy. In the meantime, the 2023 deadline seems a little too ambitious, especially if a transition period is decided.
All in all, it looks like the next president has a lot on his shoulders already. TP directors await the results with intrigue.
