Considering post-pandemic tax policies for Brazil

As the COVID-19 pandemic continued its spread to Europe and the Americas, there have been hundreds of different articles and conjectures about how a post-pandemic world would look like. This includes conversations on how daily behaviours would likely undergo significant changes, and, at a more scaled level, what type of changes could businesses expect for the global economy. 

While there is a significant level of uncertainty to the extension of changes, in many different aspects of society, there is still a substantial divergence on macroeconomic forecasts due to impacts of COVID-19. However, across many articles published by different experts, there is a common understanding that there would be a significant hit on the global economic situation. For instance, the International Monetary Fund (IMF) estimates this to be the biggest hit on the global economy since the Great Depression . 

Furthermore, although it is been said that the pandemic should not lead us back to a model of completely disconnected national markets, another frequent affirmation is that COVID-19 will hinder to some extent the globalisation ramp-up. The business environment will likely change due to several reasons, and because it is also expected that COVID-19 will be most detrimental to developing countries, fiscal measures could be key to create the right conditions for allowing the economic recovery, including the attraction of foreign investments.

Tax policy measures may be designed as behaviour-inducing rules and, as such, they can play a central role in shaping the business environment for economic recovery in Brazil. Up to this point, there have not been any major tax relief measures taken by the Brazilian government (including its different federative levels), rather only the extension of payment or tax filings deadlines. 

The following paragraphs aim at addressing certain issues that should be cause for attention when conceiving fiscal policies to help push forward towards eventual economic recovery.

Long-term financing mechanisms for strategic sectors

Investments in the infrastructure sector are well-known as being crucial to economic development. It should be very much expected to be on the agenda of any developing country, as a mechanism to boost the growth of other sectors. 

The National Congress is discussing Bill No. 2,646, presented on May 14 2020, which has the purpose of passing new tax rules with a clear goal to allow the financing of infrastructure projects in the form of equity or debt instruments. The justification considerations that were presented along with the Bill clearly state that the pandemic has increased the demand for basic infrastructure sectors as the motivation for proposing changes in the law. 

The fiscal measures provided therein involve, for instance, changes the existing rules that provide for long-term financing mechanisms, enhancing certain aspects to broaden the applicability of such rules, and including specific provisions to attract foreign investments. Such provisions involve changes in the tax treatment applicable to the return of invested capital in Brazilian investment funds, as well as debt instruments issued by companies dedicated to the development of infrastructure projects.

Although there are still ongoing discussions for the amendment of the Bill’s wording, it may represent a meaningful change to shape the right incentives for future years.

Avoiding bankruptcy and the recovery of distressed businesses

Brazilian judicial and extrajudicial recovery law does not have a robust set of rules to deal with the taxation of gains arising from debt restructuring carried out by companies in financial distress. Rather, existing rules are not clear on their tax impact, which is the cause for much discussion.

Because corporate taxation on the above-mentioned gains could reach around 40%, gains derived from creditors’ cut upon restructuring of debts, which do not entail any cash payment per se, could be significantly impacted by taxation, thus reducing the ability of the debtor to recover properly.

Changes are necessary to provide clarity on applicable taxation and to create adequate mechanisms to deal with the impact arising from debt restructuring (not simply relieving taxpayers), mainly aiming at the avoidance of bankruptcy. 

Creating a reliable tax environment for foreign investors

Eventhough the Brazilian tax system already comprises a set of rules that aim at providing a more beneficial tax treatment to non-resident investors (when compared to local investors), there is a lack of reliability in the effectiveness of such rules, which is due to several factors, including the fact that Brazil is well-known for the litigiousness of tax matters. 

This must continue to be in the spotlight, as there is a larger need for an environment of trust as it is vital to attracting (and keep existing) investments in strategic sectors. As challenging as it could be to introduce this kind of change, the importance of trust and reliability on the tax system is even more critical in times of economic recovery and, as such, it should represent a non-negotiable issue for years to come. 

Gil F. Mendes

T: +55 11 3147 4632

E: gil.mendes@mattosfilho.com.br