Brazil’s tax reform clears the senate – what now?

Brazil’s senate approved the tax reform, which now returns to the lower house, where the changes made by senators will be analyzed.

The lower house previously approved the reform before it was sent to the senate, and experts anticipate quick approval with few changes in a second vote.

Most tax experts BNamericas talked to welcomed the approval, mainly because the reform simplifies taxes and potentially lowers the likelihood of disputes, while also ending a decade-long debate on the matter.

At the same time, the experts highlighted worrying aspects like the expansion of tax exemptions and benefits included by senators, which tend to increase the overall single rate, and the uncertainties regarding the series of complementary laws that will still have to be approved once the reform passes.

THE GOOD, THE BAD AND THE UGLY

The good

A central point in the reform was the combination of the ISS, ICMS, PIS, Cofins and IPI taxes with the federal CBS tax, goods and services tax IBS, collected by states and municipalities, and selective tax IS, imposed on goods and services harmful to health and environment.

“We need to understand the premises of all this. What makes us want so badly a tax reform? It is basically the simplification of the system. Not necessarily reducing the tax burden. This would be a consequence,” Douglas Mota, tax partner at law firm Demarest Advogados, told BNamericas.

According to Mota, the reform is expected to reduce litigation in the federal and dispersed tax payment system and bring more clarity to companies, especially multinationals, by centralizing tax collection.

One of the main problems highlighted by experts in the current model is the different legislation adopted by states for taxes, as well as the overlapping and duplication of taxes.

“We will continue to have [tax] exemptions, but they will be smaller and will be centralized. This will help companies’ compliance,” Carolina Romanini Miguel, tax partner at Cescon Barrieu law office, told BNamericas.

The senate also added a prohibition to raise taxes above the average of the last decade.

The text established a ceiling calculated based on the average revenue from taxes to be eliminated (ICMS, ISS, IPI, PIS and Cofins) between 2012 and 2021, measured as a proportion of GDP. The reference rate of new taxes that will replace the old ones will be reduced if it exceeds the reference ceiling.

Other positive points highlighted by experts include greater detailing of points that generated uncertainty in the lower house's version.

Romanini Miguel cites, for example, a new detail that the selective IS tax will not be cumulative throughout the chain.

Leonardo Roesler, specialist in tax and business law and partner at RMS Advogados law firm, said in a release that until the final text of the reform is signed into law and integrated into the legal system, any analysis of impacts on companies is conjectural.

The bad and the ugly

With the expansion of exemptions and the creation of new specific tax regimes by senators, the general rate tends to increase. Both Mota and Miguel are very critical of the widening of exemptions in the senate text. But this development was expected. 

But both highlight that there was little clarity in the criteria as to why some sectors obtained a differentiated rate and others not. They said that from a political point of view, it would be difficult to approve a reform without maintaining some benefits. 

Cescon’s Romanini Miguel said that the country grants benefits and sectoral tax exemptions as part of its economic culture.

Another challenge is that companies will still have a long transition period in the reform, which could generate tax compliance costs, as they will have to operate with two regimes in parallel for a few years, according to some experts.

As per sectors, among those that tend to be most affected by a higher tax burden after the unification of taxes is services. “The services sector will certainly see a brutal tax increase. And this will lead to a price increase,” said Demarest’s Mota.

Among the sectors most relieved by the senate text is telecommunications. The water and highway sectors would also be eligible for tax reductions.

Vivien Mello Suruagy, head of call centers and telecom infrastructure companies federation Feninfra, said in a statement that the senate text represented "an important advance" for the sector by explicating that selective tax IS will not be levied on telecommunications.

The mining industry, however, complains about the effects of the selective tax on extraction, something that is also expected to impact the oil and gas sector.

LOOKING AHEAD

After the final approval of the reform, a long period of transition and rule definition begins. These new rules need to be defined within the next two years – that is, during the current legislative term. Mota sees this situation as potentially positive.

“The same congressional lawmakers who voted on the reform will discuss and vote on the complementary laws. We need to pay attention to this,” he said.

"We'll now need to carefully monitor the complementary laws. It will be a delicate process," added Romanini Miguel.

Even though there is a long transition ahead, and despite the numerous exemptions, the final balance is positive, according to most experts.