Why Brazil’s tax reform is bittersweet for the ICT industry

Although the Brazilian ICT industry is relatively pleased with the final version of the tax reform approved by the lower house of congress, there are some important points it is not happy with.

This is especially true for parts of the sector that are more focused on value-added services and which operate at the end of the chain, in the B2C area serving the end-customer, which will probably see an overall increase in taxes.

However, the unification of five federal, state and municipal taxes, and the end of cumulative levies – that is, taxes being charged on top of other taxes – is something the industry has rallied behind and is generally a cause for celebration.

“The positive thing about the reform for the industry is the simplification of the whole system. That's the main point. The second point is a reduction in litigation for the sector as a whole,” Marcus Vinicius Gonçalves, head of tax practice and a partner at KPMG Brasil, told BNamericas.

Gonçalves referred to the current classification of an added-value service (such as internet), and what telephony and telecom services are. At present, each of them are subject to specific rules and different taxes, paying differing rates.

The problem is that the line between what is internet and what is telecom is increasingly blurred, which has led to litigation over the taxes applied.

Thus, with the simplification under the reform, this distinction will end for good, at least in theory, all becoming one area, with the same tax rates.

Meanwhile, the IT segment and added-value services, such as streaming, which are not subject to much tax, are almost certain to face an overall increase in tax as a consequence of the changes. 

“They [streaming services] will likely go up to a 25% rate. Although they may obtain tax credits, it won't be enough to make up the difference,” said the KMPG analyst.

“Like all reforms, there are positives and negatives. I still have doubts about how we're going to be able to pass on a greater burden to customers. On the other hand, I will gain management efficiency. It will improve the tax operation, it will become simpler,” Gustavo Britto, global head of digital industry at Brazilian IT multinational Stefanini and managing partner of the IHM Stefanini unit, told BNamericas.

WORKFORCE

By focusing on the taxes levied on goods and consumption, this first part of the tax reform is expected to affect labor-intensive sectors, such as technology and software development companies. 

In addition to this, these sectors, like others that employ a large workforce, do not generate tax credits that can be used to offset payments.

For the telecom industry, there are still question marks over how much the operators will pay following the unification of the five taxes.

“Looking solely at telecom, it's difficult to say now whether there will be an increase in the tax burden. We still need the details, regulations and reference rates, which will come later. At present, the telecom sector is already heavily burdened with the ICMS [state tax], which will cease to exist,” said Gonçalves.

“We don't know if the overall tax burden will go up, remain neutral or decrease, but I don't think it's going to decrease," he added.

SOFTWARE

The software industry sees a greater risk of legal conflicts with the reform, mainly regarding the future differentiated rates and the norms regarding credits – that is, who can and who cannot make use of them.

ABES, the biggest association in the sector, claims that micro and small companies in the sector will not be able to use tax credits and there could be job losses.

“Our biggest concern is the risk of suffocating the micro and small entrepreneur, because they're in the Simples category [a simplified tax regime for SMEs]. The proposal will suffocate Simples and this segment, which is essential for the sector,” Rodolfo Fücher, president of ABES, told BNamericas.

ABES represents over 2,000 companies, of which 77% are micro and small companies, which account for approximately 85% of revenues in the software and services sector in Brazil and generate more than 232,000 direct jobs and annual revenues of 92bn reais (US$19bn), according to the association.

Fücher said that there will be a significant increase in operating costs for software developers since they do not have 'inputs' that entail tax credits, the biggest being workforce and payroll for firms in the sector.

“We want to draw attention to the challenge this proposal brings when we're discussing a digital revolution. Software, services and equipment are the foundation of this revolution. Will Brazil want to remain behind and make processes for this sector more costly?,” he added.

According to the executive, end-users, individuals, and the financial and government sectors, as well as agencies like NGOs, will all see an increase in the cost of acquiring and contracting technology. They will also not be able to pass on the cost increases as they are at the end of the chain.

These additional IT costs due to the higher tax will affect all sectors of the economy, undermining Brazil's competitiveness, he claimed, pointing out that nobody lives or works without technology, as it is as essential as water and electricity.

"There will be an increase, there will be inflation and that must be clear. The government says that the reform is not intended to raise taxes. But there will be an increase. Our message: is 'Be careful. Do you want to add to the burden of a sector that is essential for the transformation of society?'”

Fücher also complained that the sector has practically no access to the content of the reform and the last-minute changes made to it, saying he opposed the notion of specifying essential sectors that are subject to lower taxes in the constitution, arguing that society and the economy change over time and making alterations down the line would be complicated.

However, since this has been done, ABES and the other industry associations will now work to ensure that ICT is included on the list of these sectors when the senate debates the changes.

MAJOR OPERATORS

While defending the reform and praising the simplification of the tax regime, the big telcos failed to be included on the list of special sectors that could have lower tax rates.

"We recognize the complexity of promoting a broad tax reform that leads to effective simplification and reduction of the tax burden. The sector, however, believes that the text approved by the chamber of deputies did not recognize the essential nature of telecommunications services and connectivity for the economy and for more than 200 million users, who pay one of the highest tax burdens in the world,” telco association Conexis, whose members include the largest operators in the country, said in a statement.

Speaking recently to local media, Conexis head Marcos Ferrari said that the industry had expected a reduction of up to 50% in the total tax burden on telecom services.

The operators wanted the rate of the new unified service tax (CBS) to be 7.5% for telecoms, he underlined.

Another criticism is that the fees that telcos have to pay into sectoral development funds were not included in the reform.

Operators will now try to have the reform blocked in the senate, seeking to have the sector listed as an essential activity and thus achieve lower tax rates. The senate is expected to vote on the reform in October.

As the reform is an amendment to the constitution, if the operators fail to achieve their goals now, it will be very difficult to obtain the changes they want in the future.

“Conexis will continue working with parliament and now in the senate, so that the telecom sector has due recognition of its essential role for Brazilians and has a differentiated tax rate, which enables services to reach more and more people," said Conexis.