Advisers believe Normative Instruction No 1,397/2013 (NI 1,397) makes changes to how corporate income tax and the social contributions on profits (CSL) and on revenue (PIS/COFINS) are calculated that could result in litigation. A new reporting requirement is also likely to increase the administrative burden and compliance costs for companies.
However, fears that the more controversial changes, such as those relating to the taxation of dividends, might be retroactive may not be realised, after the chief of the Brazilian revenue service was reported in the local press today as saying he intended to propose to the Brazilian Congress that RTT should be abolished.
The RTT (Regime Tributário de Transição) was enacted in 2009 to ensure the tax neutrality of accounting changes relating to income recognition and the computation of costs and expenses as Brazil GAAP (Generally Accepted Accounting Principles) were adapted to IFRS (International Financial Reporting Standards) a year earlier. Under the RTT, taxpayers are required to follow the accounting criteria and methods in effect on December 31 2007.
Under NI 1,397, tax-exempt profits and dividends should be calculated using the accounting criteria in effect on December 31 2007. Any excess dividends/profits, or those dividends/profits that are not calculated based on the accounting standards in effect on that date will be subject to IRPJ (corporate income tax) and CSL as taxable income, if the recipient is a resident corporate entity; and will be subject to a 15% withholding income tax (a 25% rate will apply if the recipient is domiciled in a tax haven), for which the Brazilian payer will be responsible for collecting, if the recipient is a non-resident.
A corporation may calculate and pay interest on net equity (INE) to its shareholders and deduct expenses incurred in making these payments when calculating its income tax liability. This will change under the NI as the net equity to be considered in the INE calculation will be the equity accrued in accordance with the accounting provisions in effect on 31 December 2007.
Impact
“IN 1,397 takes the tax neutrality concept under the RTT to an extreme and causes two main impacts,” said Gustavo Haddad of Lefosse Advogados. “It expresses the understanding of the Revenue Service that there should be two different full set of accounting books – one for corporate law purposes and one for tax purposes. This poses an obvious compliance burden on companies.
The second and most controversial is that IN 1,397 establishes that all the accounting concepts referred to in the tax legislation to define certain tax consequences should be considered in light of the old accounting rules (reflected in the tax set of financial statements).”
Haddad believes that two important consequences arise from this and that these are likely to lead to litigation. One is that NI 1,397 considers that the exemption on dividends paid to shareholders only applies to the amount of profits computed under the old accounting rules.
“This is different from the position that has been taken by most Brazilian taxpayers since 2008 as the view was always that while the RTT provided for neutrality for corporate income tax purposes it never changed concepts of corporate and accounting law used to defined tax consequences,” said Haddad. In other words, the tax law establishes that dividends paid out of profits are exempt from withholding tax. Arguably profits continue to be those computed under the accounting rules in force and the RTT legislation would not have changed that.
“The other is that the tax authorities believe that net equity should be computed based on the old accounting rules, while the market position tends to be that there is only one net equity and that is the one computed under corporate law, which follows the new accounting rules.” Value of net equity for purposes of paying interest on equity describes a deductible hybrid instrument commonly paid by Brazilian companies.
Compliance
The NI also has implications for bookkeeping.
“Fiscal Accounting Bookkeeping (ECF), a new accessory obligation (record keeping and reporting obligation) was created, requiring submission of a new digital version of the financial statements prepared in accordance with the accounting rules in effect before convergence to IFRS, starting in June 2015 in relation to the 2014 calendar year,” said André Oliveira, of Castro Barros Sobral Gomes Advogados.
The ECF will comprise all entries for the applicable year based on the accounting criteria applicable on December 31 2007. This is a fundamental change to the existing system and will require taxpayers to prepare two sets of books: one for statutory purposes and the other for tax purposes. For calendar year 2013, taxpayers still must file the Transition Fiscal Accounting Control (FCONT) with the Brazilian tax authorities.
“The normative instruction introduced the requirement for greater detail in filling out the EFD-IRPJ, whose submission was made mandatory for the 2014 calendar year by RFB Normative Instruction 1m353/2013,” said Oliveira. “The EFD-IRPJ must be delivered in June 2015. In relation to activities in 2013, the accessory obligations are those currently in effect, even for tax returns prepared and delivered in June 2014.”
“Although NI 1,397 is effective as from the date of issuance, since it is the Brazilian tax authorities’ interpretation of the law, the authorities may attempt to apply the provisions retroactively. The legality of certain provisions in the NI (such as any retroactive application and the expansion of the scope of the RTT) is questionable and litigation is likely to ensue,” said a client alert from Deloitte.
