Brazil: Provisional Measure No 627 converted into Law

Durval Portela		Gustavo Carmona

On May 14 2014, Provisional Measure No 627/2013 (MP 627) was converted into Law No 12,973/2014. As previously reported, the MP introduced significant changes to the Brazilian tax system, with the aim to regulate the tax effects of the new Brazilian GAAP (IFRS), by revoking the Transitional Tax Regime (RTT) and providing new rules regarding the payment of dividends, interest on net equity (INE), goodwill amortisation, as well as amending the rules on taxation of controlled foreign companies (CFC), among others. While the bulk of changes introduced by the original MP remained, the extensive legislative approval process resulted in several amendments to the original text until its conversion into law.

With regards to distribution of profits, a waiver has been granted on the taxation of dividends derived from the portion of profits generated between January 1 2008 and December 31 2013 at an amount higher than that calculated based on the tax balance sheet, as required according to the previous rules under Normative Instruction (IN) 1,397. In the original version of PM 627, the waiver only applied to dividends effectively paid until November 12 2013 and where the taxpayer elects to apply the new rules from January 1 2014.

In view of the above, it is possible to conclude that IN 1,397 will still need to be considered for dividends based on profits accruing between January 1 2014 and December 31 2014, where the taxpayer has not made an election to adopt the new law from January 1 2014. Thus, the debate on the legality of IN 1.397 remains with respect to the 2014 calendar year.

A waiver has also been granted for any portion of INE paid exceeding the amount calculated in accordance with the tax balance sheet, as the new law regulated that the taxpayer has the option to use from 2008 onward the net equity determined based on the new accounting principles for INE purposes. In PM 627, the waiver was only available for taxpayers that elected to apply the new law from January 1 2014.

As for goodwill, previous rules allowed the amortisation of the full difference between acquisition cost and net equity value as goodwill (subject to certain requirements). Under the new law, which is consistent with the current Brazilian accounting standards, the acquisition cost of investments must be segregated into:

1. the net equity of the acquired company;
2. the fair market value of the net assets; and
3. the goodwill deriving from future profitability, which corresponds to the remaining balance from items (i) and (ii).

Similar to the previous rules, upon a merger between buyer and acquired company (downstream or upstream), the amount of goodwill can be amortised for tax purposes over a period of not less than five years provided certain conditions are complied with, such as the preparation of an independent appraisal report. Taxpayers may apply previous rules for goodwill amortisation in case of mergers carried out until December 31 2017, for acquisitions made on or before December 31 2014.

New CFC rules suffered only minor alterations in the final text, with consolidation being allowed until 2022, subject to certain requirements, while the original text allowed consolidation until 2017. If the taxpayer chooses not to consolidate, losses may now be offset (against the entity's own future profits) indefinitely, no longer being restricted to five years as proposed in the original MP text. Further, the original version of PM 627 introduced provisions for CFC rules applicable to individuals, but such provisions were removed from the final text of the law.

The new law will be effective as of January 1 2015, although taxpayers may elect, irrevocably, to apply the new law from 2014. Please note that taxpayers may elect the early adoption of the new law only in relation to the CFC rules, in which case the taxpayers would apply the remainder of the measures from January 1 2015 and vice versa.

Durval Portela (durval.portela@br.pwc.com) and Gustavo Carmona (gustavo.carmona@br.pwc.com), São Paulo
PwC
Website: www.pwc.com

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