São Paulo – Provisional Measure 627, from 2013, which alters the taxation regime for foreign subsidiaries of Brazilian enterprises, renders international agreements for preventing double taxation of investment void. So says the tax attorney Luiz Felipe Ferraz, who gave a lecture on the matter alongside his colleague Flávio Mifano at the Arab Brazilian Chamber of Commerce this Tuesday (15th), the same day the measure was passed by the Federal Senate. Both work for the law firm Mattos Filho, which specialises in business law.
“The provisional measure has rendered the agreements extinct,” said Ferraz. Although it does not openly revoke the treaties, in practice, the ruling “invalidates what Brazil had agreed upon with other countries.” The reason is that the measure allows the Federal Revenue to levy tax on profit by Brazilian companies with foreign subsidiaries even if the funds do not undergo nationalization.
The measure alters the tax mechanism, which is no longer levied on the profits remitted to the headquarters in Brazil or the earnings distributed to shareholders in the country, but rather is based on “equity equivalence.” As per this model, increased equity of the subsidiary represented by return on capital is deemed taxable. In other words, if the subsidiary is worth US$ 100 and had US$ 40 in profit, the Federal Revenue considers that equity has increased from US$ 100 to US$ 140, and the tax is levied on the difference, prior to any remittance or distribution of earnings.
Anti-double taxation agreements allow companies to pay income tax only in one of the countries it operates in, either that of the headquarters or that of the subsidiary. The situation remains the same, in practice, regarding countries with which Brazil sustains no treaties, but otherwise, the Brazilian Federal Revenue will be able to monitor equity gains in foreign countries and tax them, even if the company has already paid taxes in the country where the subsidiary is based.
The provisional measure does not change how operations by foreign companies in Brazil or remittances by natural persons are treated, but the attorney believes it gets in the way of a relatively recent process of internationalization of Brazilian companies. “The measure pulls the rug from under Brazilian companies operating abroad, as concerns competitiveness. “The ‘Brazil cost’ [cost of doing business in Brazil] is now being exported,” he said. “It will lead to a deterioration of the scenario for Brazilian investment abroad,” he added.
Ferraz noted that the measure goes against the grain of other countries. European countries, for instance, do not levy tax on earnings obtained by their companies overseas, and the United States only charge whenever the profit is actually distributed, but not when the company reinvests the earnings.
The Arab Brazilian Chamber president, Marcelo Sallum, said he has recently attended events in Jordan and the United Arab Emirates and noted that these countries boast a “rather fabourable scenario” as pertains to preventing double taxation of international businesses. “We are seeing the exact opposite take place here,” he said.
To the Arab Brazilian Chamber CEO, Michel Alaby, Brazil is “moving away from the route of emerging countries” with regard to foreign investment. “It is worrisome, because the government is only thinking in terms of tax collection, and failing to consider business internationalization,” he said. Ferraz believes the “true foundation” of the measure is indeed “collection-oriented.”
Few agreements
Sallum added that Brazil sustains only 25 international agreements for prevention of double taxation. The country does not possess a tradition of seeking out treaties of this kind, but this is a very important issue for Arab countries, on the other hand, especially the Gulf ones, because they are heavy foreign investors, and are not interested in seeing their gains dwindle down as a result of tax payments.
“We can see that those countries are interested [in investing in Brazil], but the opportunities are passing us by. It is somewhat frustrating,” said Sallum.
The provisional measure had already been passed by the House of Representatives, and now is only pending approval from president Dilma Rousseff before it becomes a law.
*Translated by Gabriel Pomerancblum
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