Brazil's tax system is unstable and ripe for reform. Simplification and transparency are at the top of the list for taxpayers to change the tax system for the better.
The push for Brazilian tax reform makes ITR's Global Tax 50 because it has the potential to eliminate some of the tax wars between the country's states, as well as between the federal and state governments and taxpayers. State governments fighting over each other's tax benefits and competing over indirect tax regimes has overcomplicated the entire tax system.
Reform is necessary to simplify Brazil's multi-tiered VAT regime, which includes state-level ICMS tax on goods and services that led to earlier 'tax wars'. President Jair Bolsonaro has made tax reform his new focus after he won his battle to overhaul the country's pension system.
Companies developing manufacturing and distribution centres in Brazil are traditionally granted benefits in those states where the operations exist. However, this is usually applied without the consent of other state governments.
These state governments also provide benefits under the ICMS regime such as extra tax credits when goods and services are sold in their jurisdictions. The surplus of tax benefits started the Brazilian tax wars, where states competed in a tax race to the bottom to attract corporate investments.
Most ICMS benefits such as discounts, reduced calculation basis, exemptions, presumed tax credits and deferrals were declared unconstitutional in 2017 if they were not agreed among all the Brazilian state representatives.
However, taxpayers benefitted from earlier validation efforts in 2017 and 2018 across Brazilian states ready to end the race to the bottom, and again hope for more reforms to simplify the indirect tax system to promote more corporate investment.
In terms of tax reform, the Constitutional Amendment Bill No. 45/2019, which intends to simplify and combine all consumption taxes into a single tax, has advanced further than any other proposal so far. The tax reform aims to increase tax certainty and transparency for tax stakeholders, including consumers.
"The likelihood of any initiatives [for reform] succeeding is greater than ever before," says Victor Borges Polizelli, partner at KLA. However, there is still pushback in the form of debates from companies in certain sectors that want to preserve their tax benefits under the existing system.
There are five different indirect taxes in Brazil: ICMS (state tax), ISS (municipal tax), IPI (tax on industrial goods), PIS (employee tax), and COFINS (federal tax). This has developed overly complex tax compliance obligations, including reporting, and exacerbated jurisdictional conflicts. It also is a key hurdle in attracting foreign capital investment and economic growth.
Consensus across the many parties, including federal and state government, is needed to advance any of the tax reform proposals, which also require a super-majority vote of three fifths in Congress. Tax professionals welcomed progress on the discussion of tax reforms so far, but still do not have a timeline for when to expect changes and predict discussions on the advancement of tax reform proposals to continue in 2020.
The Constitutional Amendment Bill No. 45/2019 to combine consumption taxes into either one or two taxes instead of five has already been presented to Congress and if passed will create a new consumption tax system following international VAT standards for all parties at state and federal level in Brazil.
The final tax burden under the consolidated VAT system is expected to reach a rate of 25% after a 10-year term of transition.
The extra benefits under the proposed tax reform to consolidate taxes is implementing the tax where the consumer is located, so the potentially simplified system develops a single destination-based tax.
Tax professionals expect that such a measure will put an end to more tax wars between states that utilise benefits such as tax incentives to attract foreign capital investments at the detriment of other Brazilian states. Progress on the reform is expected throughout 2020.
