Brazil’s tax system is notoriously difficult. According to the World Economic Forum’s 2012-13 Global Competitiveness Report (PDF 7.5 MB), tax regulations are the number one problematic factor for doing business in the country, with tax rates and inefficient government bureaucracy also ranking in the top five. In fact, the country ranked worst out of the 144 countries included in the report in terms of both the burden of government regulation and the extent and effect of taxation.
Why is the country’s tax system so complex, and what strategies can companies adopt to
manage their Brazilian tax disputes and tax authority relations?
Marcos Matsunaga explains.
Each of Brazil’s federal, state and municipal governments has constitutional authority to levy certain types of taxes, which has resulted in a bewildering range of direct and indirect taxes. Between 1998 and 2012, Brazil’s three levels of government issued more than 300,000 tax rules, with complex wording and little effort to harmonize rules underlying similar regimes. For example, Brazil’s 27 states share the same general state value-added tax (ICMS) framework, but each state has the ability to set its own tax rates, exemptions and base adjustments. And with about 5,000 municipalities legislating their own services taxes, we have about 5,000 variations of the tax as a result.
For businesses, this means the same taxable event can give rise to multiple taxation. Depending on the jurisdiction, sales of goods can attract up to four value-added taxes, and imported goods could attract up to five different customs and indirect tax charges. Indirect tax obligations can also arise on transferring goods from state to state.
To increase collections, federal, state and municipal tax authorities are stepping up their enforcement efforts. As audit activity escalates, the lack of certainty over how many of Brazil’s complex tax laws are interpreted is creating ever more occasions for potential disputes. And because Brazil’s tax system lacks any form of binding advance administrative tax ruling mechanism, companies cannot gain assurance over whether their tax filing positions will be accepted until after their transactions are completed and examined.
Fortunately, there are a couple of routes. Firstly, Brazil’s constitution addresses taxation broadly, and its superior courts have made many decisions that set guidelines that cover some of the most contentious issues. Secondly, taxpayers with operations in Brazil can request an administrative ruling on how the tax law applies to specific facts. These rulings are only binding on the taxpayer and they cannot be appealed unless a different ruling has been made in a situation with identical facts. Finally, taxpayers can begin a court proceeding to gain an advance protective ruling on a controversial tax matter through a judicial review.
Brazil’s tax authorities conduct two types of audit. The first type is the traditional procedure in which the auditor visits the company’s premises to review the tax and accounting data. The second type entails an online examination of the company’s books and records via Brazil’s Public Digital Bookkeeping System (SPED), which electronically unifies taxpayers’ financial data, and opens it for remote examination and analysis by the tax authority.
With SPED, Electronic Fiscal Invoice (NF-e) and Electronic Tax Returns, taxpayers are required to prepare and electronically file tax returns, accounting information and supporting documentation, monthly and/or annually, depending on the particular tax. This system not only increases the compliance burden on businesses, it also provides the tax authorities with more information to cross-check taxpayer data and compliance. Recently, tax authorities are employing a hybrid approach that involves a combination of traditional and electronic tax compliance verification techniques.
Government statistics suggest that online tax audit capabilities are improving the efficiency and effectiveness of Brazilian tax authorities’ enforcement activities. Since 2011, the number of traditional audits has declined while the number of online audits has increased. And while the total number of audits has dropped, amounts of tax assessed and success rates have increased.
For example, in 2011, Brazil’s federal tax authority assessed USD 55 billion in taxes; in the same period in 2012, that number climbed to USD 58 billion. In terms of success, the percentage of tax audits closed with government favorable adjustments rose from 85 percent in 2009 to 89 percent in the first half of 2011. Brazil’s tax authorities are becoming more adept at their use of electronic audit techniques and analysis of taxpayer data.
In general, the first step is to appeal the issue before the Administrative Tax Appeals Board. There are three levels of administrative revision, although the third is reserved for cases where conflicting decisions have been rendered at the second level. Administrative revision panels are highly specialized in tax matters and appeals can take three to five years to conclude.
However, at this level, the odds of success are not in the taxpayer’s favor: 85 percent of tax assessments are upheld, and 75 percent of the tax assessed is maintained. Further, decisions are non-binding, so even if you succeed in reversing an assessment, you could end up being challenged a second time on the same issue. Nevertheless, this route is strongly recommended for disputes involving tax planning and factual or evidence-based issues.
At the judicial litigation level, there are two levels of estate/federal courts and a superior courts level. When deciding whether to pursue appeals this far up the line, it’s important to bear in mind that the judges have no specialized knowledge of tax law and you will be required to post a guarantee in order to litigate the tax debt. It could take up anywhere from three to ten years for the courts to settle the matters.
That’s right, especially since Brazil’s civic interest rate—currently 7.5 percent—is one of the highest in the world. Taxpayers can protect themselves by making a judicial deposit of the amount in dispute. That way, they will not only stop interest from accruing on the unpaid amount, they will actually earn interest on the deposit throughout the duration of the appeal.
Regarding federal taxes, Brazil’s tax authority is putting priority on four key areas:
- Tax planning – Brazilian tax auditors have become aggressive in clamping down on inappropriate tax planning, but many of their challenges are countered at the administrative review level with rulings that call for stronger evidence of improper taxpayer behavior.
- Goodwill amortization – Brazilian tax auditors continue to scrutinize tax deductions for the amortization of goodwill of acquired companies, even though the Administrative Tax Appeals Board’s second level has ruled that such deductions are permissible. The Brazilian government is expected to change the existing rules to reduce the amount of the tax benefit.
- Banks and financial institutions – Brazilian tax auditors are zeroing on whether conditions for deductions for bad debts have been satisfied by companies in this sector. Again, rulings have been issued to overturn some of these challenges.
- Tax credits (PIS and Confins) – Credits for Brazil’s gross revenues taxes are being denied on the basis of strict interpretations regarding the eligibility of goods and services as expenses to offset the taxes. The Administrative Tax Appeals Board has reversed many but not all of the tax authorities’ decisions in this area.
As you can see, even though administrative revisions generally tend to go against the taxpayer, in many controversial areas, the tax authority does not prevail. So administrative review is definitely worth consideration depending on the circumstances.
Even though Brazil’s tax system is widely perceived as one of the world’s most difficult, foreign investors should not let the complexity of Brazil’s tax system scare them away from participating in the country’s rapidly growing economy. Companies doing business in or based in the country need to approach their tax obligations and planning with a comprehensive strategy, supported by strong processes and effective local advice. When dealing with tax authorities, you need to be well prepared, well organized and in complete control of your facts and issues.
As in any jurisdiction, taking a comprehensive, proactive approach will ensure you are well equipped to face any tax dispute scenario and help improve your chance of a favorable outcome.
Marcos has been a partner of KPMG Brazil’s Legal Services (Ferraz de Camargo, Azevedo e Matsunaga Advogados) since 2008. Marcos’ background includes a broad level of experience in tax law and different industry sectors, with focus on advisory for prevention and resolution of tax disputes, advisory in direct taxes, due diligence and tax planning. Marcos regularly participates as an instructor in an annual seminar series organized by KPMG’s Professional Development Program, as well as a range of external seminars coordinated by KPMG in Brazil.
Marcos is a member of the Brazilian Bar Association and holds a bachelor’s degree in law from Pontifícia Universidade Católica de São Paulo – PUC/SP and a specialization degree in tax law from Fundação Getúlio Vargas – GVLaw.
Back to top