'The Brazilian tax system will get worse before it gets better'

Brazil’s lower house approved key regulations for the tax reform aimed at simplifying the current complex system.

The reform will replace taxes like PIS, Cofins, IPI, ICMS and ISS with the federal and state IBS and CBS levies, equivalent to VAT in other countries.

The regulations must still be approved by the senate, and the new tax regime is expected to be implemented gradually between 2026 and 2033.

Marcel Alcades, a partner and tax specialist at law firm Mattos Filho, talked with BNamericas about the potential impact of the reform.

BNamericas: What is your evaluation of the approved tax reform?

Alcades: What we can say is that this is not the ideal reform but it is the possible reform.

If we were to give a rating on a scale of 0 to 10, this reform would be rated 6, perhaps 6.5.

The most positive aspect of this reform is that we’re moving from a tax system that only exists in Brazil to a model similar to that in OECD member countries, where VAT is in force.

It’s true that in the end, we will continue with a complex system, but simpler than it is today.

BNamericas: Will there be a tax increase?

Alcades: There will be an increase in taxes for several sectors, compared to what is charged currently.

The reform proposes that in general terms VAT will be a maximum of 26.5%. However, if this level is not sufficient to cover the government's needs, then a series of incentives provided for in the regulation may be reviewed.

BNamericas: Which sectors are likely to see tax increases?

Alcades: In general, sectors linked to the provision of services, because these are sectors that take on little credit and end up not generating tax credits.

Segments linked to the digital economy, e-commerce, software and technology companies will tend to see an increase in their tax burden.

What we cannot answer at this moment is whether there will be an increase in taxes for large industries, due to some specific factors.

In general, large industries today pay 18% ICMS tax and 9% PIS tax, which adds up to 27%, while VAT will be a maximum of 26.5%. 

Looking at it quickly, it would be a tax reduction. However, in practice, large industries do not really pay 27%, as many reduce these taxes by having tax incentives, which will not exist, so it’s likely that large industries will have to pay more taxes through VAT.

Meanwhile, small and medium-sized industries, which do not have as many tax incentives, can benefit more.

BNamericas: Which segments do you see with potential for more gains from the reform?

Alcades: Honestly speaking, I think it’s difficult to pinpoint a sector that will see a significant tax reduction, but as I said, companies and sectors that do not currently use tax credits can benefit.

BNamericas: The tax reform regulation brought some relief to the mining and oil and gas sectors, with a lower rate than planned for the so-called selective tax. Is there a chance of this decision being reversed in the senate?

Alcades: I think it’s difficult for the senate to change the reduction from 1% to 0.25% that was approved in the lower house for the selective tax for these segments.

But, despite this reduction being positive, I still consider it a mistake to have this selective tax on mineral extraction, which should not have been imposed.

BNamericas: When do you believe the regulation of this reform will be approved in the senate?

Alcades: In the conversations I had with members of congress there was the expectation that this vote would take place before [October’s municipal] elections, but I consider this deadline difficult. I believe it’s more likely that this vote in the senate will take place in November.

BNamericas: Even with the new tax model being implemented gradually, we have a series of concession contracts in force in Brazil, in the most diverse segments, signed based on the current tax model. What is the effect of the reform on these contracts?

Alcades: There is a specific part of this law dealing with this issue. 

I have no doubt that we will have a series of review requests, requests to rebalance contracts because of the reform.

What the approved rules now provide for is that companies will be able to forward their specific requests with details of the impacts of the tax reform on the contract and the respective regulator will assess the situation.

The deadline stipulated for this review will be 90 days, extendable for another 90 days, but only aspects directly impacted by the effects of the tax reform can be added to this contract review request, nothing more.

In any case, there is no doubt that we will have a series of requests for contract rebalancing in a wide variety of sectors.

BNamericas: In addition to paying taxes, companies in Brazil have always complained that the complex tax system generates additional costs, forcing them to retain many people just to evaluate tax issues. Will simplifying the system reduce such costs for companies?

Alcades: The original promise of the reform was this, to reduce costs, but I have doubts about that and only time will tell.

The transition period of the tax reform will begin in 2026 and it’s expected to come into full effect from 2033. During this transition period we will live with two tax regimes.

What I’ve been telling my clients is that the Brazilian tax system will get worse before it gets better.