In general, businesses adopt a corporate form in Brazil, with the two most common forms being limited liability companies (sociedades limitadas) and corporations (sociedades por ações). In general, the corporate form adopted by the taxpayer is not relevant for tax purposes.

Investors usually choose limited liability companies when the entity in Brazil does not need to access capital markets by attracting new equity investors or issuing bonds. Corporations are often used when access to capital markets is desired.

Limited Liability Company

A limited liability company is formed by one or more individuals or legal entities, called quotaholders, which will be the owners of the quotas of the capital stock of the company. A limited liability company may also issue preferred quotas with restricted voting rights, although this is not common under this corporate form.

The liability of each quotaholder is limited to the investment they made in the company. As a rule, quotaholders will not be liable for the company’s debts once all quotas have been fully paid up, except in certain violations of the law or unless otherwise is stated in the company's articles of association.

Limited liability companies cannot be registered nor have their quotas negotiated in stock exchanges. They can issue very few kinds of securities, which is investors mostly choose corporations if they need access to capital markets. On the other hand, limited liability companies can distribute profits disproportionately to their quotaholders, which is often seen as an advantage of this corporate form.

Corporations

In a corporation, the liability of each shareholder is limited to the value of the shares they subscribe. Its capital stock may be divided into ordinary and preferred shares, which are owned by the shareholders.

This corporate form is usually adopted for large enterprises, since it provides more options for raising funds and the possibility to issue all types of securities. However, a corporation entails higher managing costs and more complex incorporation procedures. Also, they usually need to publish their annual financial statements and other corporate information.

Group Consolidation

As a rule, each legal entity in Brazil is taxed separately.

Brazilian legislation does not recognise the concept of transparent entities; each entity must calculate and pay for its taxes.

Under certain circumstances, it is possible to use investment funds as transparent investment vehicles. Transactions conducted by investment funds are exempt from taxation. Income generated by investment funds is taxed at the time of its distribution to investors. However, in certain circumstances it is possible to distribute earnings to foreign investors without taxation. This is the case for shareholding investment funds (fundo de investimento em participações – FIP), which allow foreign investors (eg, private equity investors) to invest in local entities and obtain earnings without taxation.

In general, companies established or operating in Brazil are considered taxable persons. Therefore, branches, agencies, representatives or de facto businesses established in the Brazilian national territory may be subject to taxation under the same rules as apply to other legal businesses domiciled in Brazil.

Tax treaties in force in Brazil establish the residence of a legal entity to be the place where its income is subject to taxation in view of its place of management. If a company is classed as being resident in both contracting states, then it will be deemed to be resident in the state where its place of effective management is located.

Brazil’s legal system does not recognise the concept of transparent entities and does not set forth any tests for determining the residence of such entities.

Although some treaties signed by Brazil provide rules concerning permanent establishments, Brazilian domestic law does not expressly regulate these situations. However, regulations on branches, agencies or representatives may be used to tax permanent establishments.

Taxation on incorporated businesses varies according to certain criteria, including the business sector, physical location and enterprise size.

There is a significant difference between the taxation levied on ventures carried out through an incorporated company compared to activities carried out by individuals operating on their own behalf, since there are taxes and contributions driven specifically for legal entities, rather than individuals.

The main taxes applicable to legal entities and individuals doing business in Brazil, and their respective rates, are as follows.

• Direct taxes for companies on income:
1. IRPJ (corporate income tax) – 25%; and
2. CSLL (social contribution on net profit) – 9% (general companies) or 15% (financial institutions).
• Indirect taxes for companies:
1. PIS/COFINS (social security contributions on revenues) – 3.65% under a cumulative regime for general business; financial institutions are taxed at 4.65% under a cumulative regime, and at 9.25% under a non-cumulative regime;
2. ICMS (state VAT), levied on sales of goods, on telecoms and on intercity and interstate transport services – 7% to 35%;
3. ISS (municipal tax on services, except those subject to ICMS) – 2% to 5%; and
4. IPI (tax on manufacturing) – 0% to 35%, depending on the tariff code of the manufactured product.
• Payroll taxes:
1. INSS (employer’s contribution to the social security) – 20% on wages paid or credited to employees and independent workers; financial institutions pay an additional contribution of 2.5%. Some sectors may opt to collect INSS based on gross revenues at rates of up to 4.5%;
2. GIL RAT (worker’s compensation insurance) – 1% to 3%; and
3. third party contributions – up to 5.8%, depending on the company’s business activities.
• Taxes paid by individuals:
1. individual income tax (IRPF) – up to 27.5% on earnings and 15% to 22.5% on capital gains; dividends are currently exempt; and
2. ICMS, ISS and payroll taxes may apply, depending on the activities undertaken by the individual.

Taxation on profits comprises two distinct taxes: IRPJ and CSLL. The corresponding taxable basis could be ascertained mainly by means of two tax regimes:

• the Real Profit Regime; and
• the Presumed Profit Regime.

Brazilian law also provides for a third simplified regime (Simples Nacional), under which taxpayers must assess their taxable profits by means of presumed rates applied to their revenues. The applicable rates are generally lower than those applicable under the Presumed Profit Regime and the amounts assessed comprise several taxes, including those collected by states and municipalities. However, this simplified regime is only applicable to taxpayers that earn up to BRL4.8 million in annual revenues.

Under both the Real and Presumed Profit Regimes, IRPJ is generally imposed at a rate of 25%, whereas CSLL is imposed at a rate of 9%, leading to a general and aggregate rate of 34%. Financial institutions are subject to CSLL at 15%.

An arbitrated regime may also take place in exceptional cases, generally when a company's accounting books are regarded as unreliable or unsubstantiated.

Real Profit Regime

Corporate income tax (CIT) is imposed on taxable profits calculated with reference to the accounting principles in force in Brazil (IFRS), whereas the taxable basis under such tax regime is generally comprised of the accounting net profits adjusted by the addition of some non-deductible expenses and/or the exclusion of some untaxable amounts. Revenues and expenses are recognised under an accrual basis, although some exceptions may apply as provided by law (such as foreign exchange oscillations).

The Real Profit Regime is mandatory for companies with revenues exceeding BRL78 million in a given year and for companies that are active in specific situations, such as those that derive profits, income or capital gains from abroad or carry out insurance activities.

Presumed Profit Regime

Under this regime, the taxable basis for CIT is ascertained based on a presumed margin applied to a taxpayer's gross revenues, determined according to the business activity of the company.

For service providers, the taxable basis is determined upon the imposition of the pre-defined presumed rate of 32% over a legal entity's gross service revenues (therefore, considering the aggregate CIT rate of 34%, an effective tax rate of 10.88% applies to gross service revenues for companies that opt for the Presumed Profit Regime). Other revenues and capital gains are taxed separately, without the application of the presumed profit rates prior to the application of the tax rates.

The sale of goods is subject to general presumption rates of 8% for IRPJ and 12% for CSLL, both of which are levied on income and comprise what is referred to in this guide as “CIT”.

Under the Presumed Profit Regime, expenses and costs are not considered when determining the taxable basis of the CIT.

The recognition of revenues under this regime follows a cash basis, although the taxpayer may opt to adopt the accrual regime.

Arbitrated Profit Regime

In this regime, the income taxable basis is estimated by the tax authority, based on the admitted methods set forth in the legislation. The most common method is to apply a certain percentage over the company’s gross revenues. The financial movement in bank accounts may also be considered by tax authorities, especially when no accounting records are available.

Brazilian legislation provides many tax incentives for technology manufacturing and R&D investments, as part of a national project to promote the development of a Brazilian technological industry, and to increase its competitiveness.

For R&D investments, legal entities are granted a financial credit to offset federal taxes, as provided by Federal Law No 8,248/91, also known as the IT Law.

Additionally, many Brazilian States grant ICMS incentives for IT industry – for example, the State of São Paulo provides for the deferral of ICMS imposed on the imports of parts, pieces, components and raw material for manufacturing goods for the IT industry.

Moreover, Federal Law No 11,196/05 (Lei do Bem) grants the taxpayer an additional deductibility of between 60% and 80% of R&D expenses for CIT purposes, depending on the taxpayer's compliance with certain conditions.

Each federative entity is competent to rule on tax incentives and/or special taxation regimes relating to the taxes due on their correspondent spheres, and to grant such to taxpayers. At federal and state levels, Brazilian legislation provides many tax incentives that vary according to the market sector, the activities performed and the business location.

For infrastructure investments, federal government provides businesses with the so-called Special Incentive Regime for Infrastructure Development (REIDI) benefit, which grants a 0% PIS and COFINS rate on the domestic or international acquisition of goods or services to be used in the infrastructure project. This is intended to reduce capital expenditure costs and to develop infrastructure investments.

Another key incentive is the Manaus Free Trade Zone (ZFM), which grants a set of benefits for industrial activities installed therein. Taxpayers that meet the program’s conditions may enjoy the following benefits:

• a reduction of up to 75% of the IRPJ relating to profits generated by relevant establishments;
• the suspension of Import Duty, IPI, PIS and COFINS on the import of fixed assets and raw materials (12% of the suspended Import Duty must be collected if the finished product is remitted to outside the ZFM);
• the relief of IPI, PIS and COFINS on the acquisition of fixed assets or raw materials;
• an IPI exemption for the remittance of goods manufactured in the ZFM;
• a 0% rate of PIS and COFINS on sales in the ZFM; and
• reduced PIS and COFINS rates on sales to other locations (3.65% or 7.3%, depending on the purchaser).

The oil and gas sector is also considered to be strategic for Brazilian development and currently benefits from some tax incentives and special regimes, including reductions of the ICMS taxable basis and tax deferrals.

There are also regional incentives for the development of certain projects in the North and Northeast regions of Brazil in sectors that the federal government deems to be relevant. These incentives provide for a reduction of up to 75% of the IRPJ imposed on profits generated by establishments located in those regions.

Under the Real Profit Regime, companies are allowed to offset accrued tax losses from previous fiscal years with profits ascertained in prospective years. Net operating losses (NOL) can be carried forward to offset up to 30% of future taxable profits, each year. There is no carry-back provision.

Non-operating losses (such as those deriving from the disposal of fixed assets) can only be offset against non-operating profits.

In a merger, the surviving company will not be authorised to use the extinguished company’s losses. In a spin-off, the spun-off entity is only able to offset its own losses in proportion to the remaining percentage of its net worth.

The legal entity may not be able to use its NOL if, after their accrual, the entity changes its ultimate corporate control and its economic activity (cumulative requirements).

The offset of tax losses carried forward is not subject to any statutes of limitation.

Taxpayers that are subject to the Presumed Profit Regime and the simplified regimes (see 2.1 Calculation for Taxable Profits) cannot offset tax losses.

As a rule, an expense is only deductible from the CIT taxable basis if it is deemed to be necessary and usual to company’s trade or business.

Brazil also has specific anti-avoidance rules on the deductibility of interest expenses. Among other specific restrictions, Brazil adopts transfer pricing and thin capitalisation rules for international transactions, and disguised distribution of profits rules, usually for domestic transactions. The latter sets forth a kind of arm’s-length principle for transactions between related parties.

Each legal entity from a corporate group is perceived as an independent business for taxation purposes. The income from each legal entity must be segregated on a standalone basis and taxed separately. There are consolidation rules for overseas investments (see 6.5 Taxation of Income of Non-local Subsidiaries under Controlled Foreign Corporation-Type Rules).

The taxation of capital gains is triggered in the disposal of non-current assets and/or rights in Brazil or abroad.

Capital gains are added to the CIT tax basis and correspond to the positive difference between the value of the disposal and the book value of the asset. If the gains resulted from a transaction involving real estate or fixed assets, the book value is regarded as the acquisition cost minus any accrued depreciation, amortisation or depletion charges.

Unrealised gains arising from the valuation of assets or liabilities at fair value are not taxable, provided the taxpayers comply with certain rules. However, such gains may be taxed in the case of a disposal or realisation of the asset or liability. An equivalent treatment applies to losses arising from a fair value evaluation.

Corporate taxation in Brazil is applied at different levels (federal, state and municipal) and depends on the type of activity carried out by the taxpayer. The other main taxes usually payable by an incorporated business are as follows.

• Taxation on imports of goods:
1. II (import duty) – selective tax at rates varying from 0% to 35%;
2. IPI – selective tax at rates varying from 0% to 35%, according to the product tariff code;
3. ICMS – rates vary from 12% to 20%; and
4. PIS-import and COFINS-import – rates of 2.1% and 9.65%, respectively.
• Taxation on imports of services:
1. PIS-import and COFINS-import – rates of 1.65% and 7.6%, respectively;
2. ISS (tax on service) – municipal tax at rates varying from 2% to 5%;
3. Withholding Tax – federal tax ranging from 15% to 25%; and
4. CIDE – federal contribution imposed on imports of technical services and royalties at a rate of 10%.
• Taxation on manufacturing:
1. IPI – rates vary from 0% to 35%, according to the product tariff code;
2. PIS and COFINS on gross revenue – rates of 3.65% under the cumulative regime and 9.25% under the non-cumulative regime; and
3. ICMS – rates may vary from 7% to 35%, according to the product manufactured.
• Taxation on sales of goods:
1. ICMS – rates may vary from 7% to 35%, according to the product traded; and
2. PIS and COFINS on gross revenue – rates of 3.65% under the cumulative regime and 9.25% under the non-cumulative regime.
• Taxation on services:
1. ISS – rates vary from 2% to 5%;
2. PIS and COFINS on gross revenue – rates of 3.65% under the cumulative regime for general business and 4.65% for financial institutions, and 9.25% under the non-cumulative regime; and
3. ICMS (for telecoms and intercity and interstate transport services) – rates may vary from 7% to 35%.
• Payroll contributions:
1. the employer’s contribution to the INSS is generally imposed at a rate of 20% on wages paid or credited to employees and independent workers; for financial institutions, there is an additional contribution of 2.5%, while some sectors may opt to collect INSS based on gross revenues under rates of up to 4.5%;
2. GIL RAT contribution at the rate of 1% to 3% on the payroll; and
3. contributions collected by the INSS and attributed to other official agencies at aggregate rates up to 5.8%, depending on the company’s business activities.

Legal entities are also subject to taxes on domestic financial credit transactions (IOF) at rates of up to 1.88% if the principal amounts of the transaction are defined. Foreign exchange transactions are also subject to IOF taxation at various rates depending on the specific transaction, with 0.38% being the standard rate. The federal government may increase the IOF rate on foreign exchange transactions to up to 25%.

The ownership of real estate is taxed by IPTU (municipal tax) calculated on the market value of the property.

Real estate transactions are taxed by ITBI (municipal tax), which may be imposed particularly on sales of real estate property. ITBI rates vary depending on the municipality where the real estate property is located. ITBI is not levied over the contribution of real estate to the share capital of legal entities, provided that these legal entities do not develop real estate businesses.

Most closely held local businesses operate in the form of a limited liability company. More complex or larger businesses may choose a corporation form in order to access capital markets.

Brazil does not prevent individual professionals from incorporating a legal entity and rendering services through this entity. In fact, there is a legal provision ensuring that legal entities incorporated by individual professionals are regarded as legal entities (including for tax purposes). The Brazilian Supreme Court recently considered this provision to be constitutional.

Nevertheless, tax authorities may disregard the existence of a legal entity if they identify any sham, fraud or simulation carried out by the taxpayer. In this case, taxpayers are subject to taxation at the individual level, as well as to the imposition of penalties (at a rate of 75% or 150%) and interest.

There are no rules in Brazilian legislation preventing closely held corporations (or any other incorporated businesses, for that matter) accumulating and holding earnings for the purpose of applying them in their business investments, to the extent that all shareholders approve this procedure. If the approval is not unanimous, corporate laws determine a minimum amount of distribution of profits (typically 25%).

Payments of dividends by a Brazilian company to individuals, companies or non-resident investors are currently exempt from taxation. However, the company paying the dividends cannot deduct these amounts from its CIT taxable basis.

Another option for distributions of profits by companies is the payment of interest on net equity (Juros sobre Capital Próprio, or JCP – a form of notional interest). Companies may pay JCP to their shareholders up to certain limits assessed on their net equity and on the application of a long-term interest rate (TJLP). The deduction of JCP provides savings of 34% to the payor while their beneficiaries are subject to rates of 15% or 25% if they are located in a low-tax jurisdiction.

Capital gains earned by individuals or non-residents (individuals or legal entities) are taxed at progressive rates ranging from 15% for gains under BRL5 million, to 22.5% for gains over BRL30 million. If the non-resident is located in a low-tax jurisdiction, their capital gains are subject to a flat 25% rate.

Companies must add capital gains to their CIT taxable basis.

Payments of dividends by a Brazilian company to individuals, companies or non-resident investors are exempt from taxation. However, the company paying the dividends cannot deduct these amounts from its CIT taxable basis. Publicly traded corporations may also pay JCP (see 3.4 Sales of Shares by Individuals in Closely Held Corporations).

Gains derived from the sale of shares of publicly traded corporations by Brazilian individuals are subject to a 15% income tax regarding regulated market transactions (Brazilian stock exchanges). Day-trade transactions are subject to a 20% rate.

The taxation of non-residents will depend on whether or not the investments are made under the rules of Brazilian Central Bank Resolution 4,373 (applicable to investments in stock exchanges).

4,373 investors that are not located in low-tax jurisdictions are subject to a 0% rate on capital gains earned in stock exchanges. Non-4,373 investors under the same conditions are taxed at a 15% rate.

Non-4,373 investors that are located in low-tax jurisdictions are taxed at a 25% rate on capital gains in stock exchanges. If the 4,373 investor is resident or domiciled in a low-tax jurisdiction, there is a controversy regarding whether their income should be subject to a 15% rate or to rates ranging from 15% to 22.5%.

The payment of dividends is tax exempt, regardless of the qualification and jurisdiction of residence of the beneficiary.

In the absence of income tax treaties, the payment or credit of interest and royalties from a Brazilian source to a beneficiary resident abroad is subject to the imposition of withholding income tax, usually at a 15% rate or at a 25% rate if the beneficiary is in a low-tax jurisdiction. Debentures, real estate certificates and fund interests paid from a Brazilian source may also be tax exempt if certain conditions are met.

Treaties signed by Brazil are very similar in general terms, so no one state is used more than any other when it comes to investments to be made in Brazil.

However, investments made by companies located in the Netherlands, Luxembourg, Austria and Spain are often found. This is mostly due to benefits deriving from the domestic law of these countries and is not linked to any treaty specifics.

As far as is known, there have been no cases where the tax authorities have challenged the use of treaty country entities by non-treaty country residents.

Please note that some tax treaties signed by Brazil have “limitation on benefits” or “principal purpose test” clauses aimed at preventing treaty shopping. Therefore, when deciding the country from which to make investments in Brazil, it is important to check whether this kind of clause exists.

As Brazilian transfer pricing rules do not follow the Organisation for Economic Co-operation and Development (OECD) Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, inbound investors may face some challenges in the calculation and allocation of local costs, and special attention must sometimes be paid to both standards (Brazilian and OECD).

In addition, Brazilian transfer pricing rules do not provide any guidance concerning secondary adjustments. Taxpayers dealing with related parties in countries that demand or allow these adjustments may face difficulties, since payments received may be considered taxable or expenses made may not be deductible.

As Brazil does not follow the OECD standards, the level of risk in business operations should not be relevant for Brazilian companies to comply with statutory margins.

In February 2018, the OECD and Brazil launched a joint project to examine the similarities and divergences between the Brazilian and OECD transfer pricing approaches to valuing cross-border transactions between associated enterprises for tax purposes. Based on the joint report, the main gaps and issues in the Brazilian transfer pricing rules and administrative practices using the OECD transfer pricing guidelines as a benchmark are as follows:

• deviations from the arm’s-length principle, including the use of a fixed margins approach;
• the absence of the most appropriate method criterion or a hierarchy of methods (allowing taxpayers to apply the method that results in the lowest tax burden in Brazil);
• limited comparability adjustment and strict use of comparables;
• no rules to prevent or eliminate double taxation;
• apart from the equivalents of the comparable uncontrolled price method, the standard of comparability is limited to a calculation of the average sales price of comparable goods, rights or services (or of the costs incurred) to which a specific fixed margin is applied;
• no special rules for transactions with intangibles;
• no specific guidance to address the issues of providing intragroup services; and
• there are safe harbour rules only for export transactions.

As a result, the divergences between the Brazilian transfer pricing rules and the OECD standards may present challenges for taxpayers in OECD member countries that engage in transactions with Brazilian related parties.

There is no mechanism in Brazilian domestic law to settle cases of double taxation resulting from transfer pricing adjustments.

In the past, tax authorities have confirmed that Brazil is engaged in certain MAPs that discuss transfer pricing disputes. However, as documents and information concerning MAPs are not publicly available, it is not possible to know the tax authorities’ position on this matter.

Please note that tax treaties executed by Brazil do not contain Article 9(2) of the OECD model, indicating that Brazil would not accept a relief on double taxation by means of corresponding adjustments.

Brazilian domestic law does not provide for any mechanism to resolve cases of double taxation resulting from transfer pricing adjustments.

In practice, any adjustments involving subsidiaries or controlled foreign entities should be made on the overall tax basis and on the level of the Brazilian controlling company, and should not be related exclusively to transfer pricing adjustments.

For instance, if the average price practised by the Brazilian company in export transactions exceeds the average price obtained through the available transfer pricing methods, no adjustment is required. Conversely, if the average price practiced by the Brazilian company is lower than the price obtained in accordance with the transfer pricing methods, an adjustment is required and, consequently, the existing difference shall be added to the taxable basis of the CIT.

On imports, if the average price practised by the Brazilian company in its transactions exceeds the average price obtained through the application of available methods, no adjustment is required. If the average price practised by the Brazilian company is lower than the price obtained in accordance with the applicable methods, an adjustment is required and, consequently, the existing difference shall be added to the taxable basis of the CIT.

The same taxation rules apply for local branches and subsidiaries of non-local corporations.

Taxation of Capital Gains – General Rules

Capital gains of non-residents are taxed at rates ranging from 15% for gains below BRL5 million to 22.5% for any portion of the gains above BRL30 million. These taxation rules apply to the sale of any asset located in Brazil (not just stock). The capital gain is the positive difference between the sales price of the asset or right and its acquisition cost.

There is a controversy regarding whether taxpayers should determine the acquisition cost in BRL or in the currency originally used to perform the transaction, translated into BRL (such as USD). The difference between these two positions is that foreign exchange variations would be considered in the capital gains calculation if the acquisition cost is determined in BRL. Tax authorities sustain that the acquisition cost should be determined in BRL.

Capital gains earned from the sale of stock in Brazilian companies traded in local stock exchanges may be exempt if certain rules are complied with. If the non-resident seller is located in a low-tax jurisdiction, the applicable rate will be 25%.

Indirect Capital Gains

Brazil does not have rules on the taxation of gains arising from sales of assets held by non-residents outside of Brazil, such as the shares of a non-local holding that owns stock of a local corporation directly. However, the tax authorities may challenge the validity of this kind of transaction if they understand it involves a case of sham, fraud or simulation. If such a challenge is successful, the transaction is deemed a sale of a Brazilian asset and becomes subject to capital gains taxation in Brazil.

Tax Treaties

Tax treaties executed by Brazil generally allow the taxation of capital gains in both contracting states. Specific relief provisions must be assessed on a case-by-case basis.

Brazilian tax law does not have any change of control provisions, so no taxation should be imposed if the transaction does not result in a direct change of control of a Brazilian entity. Nevertheless, the tax authorities may challenge transactions that are deemed to involve sham, fraud or simulation.

Brazilian tax law does not provide for formulary apportionment approaches when assessing the income of foreign-owned local affiliates. The profits of local affiliates will be determined pursuant to the same standards as domestic-owned entities. Intragroup transactions, however, may be subject to transfer pricing rules.

Payments by a local affiliate to a non-local affiliate for management and administrative services will be deductible if the local affiliate is able to evidence that these services are necessary, usual and normal to its activities. Most likely, those payments will be subject to transfer pricing rules. However, certain types of payments (such as royalties) have their deductibility restrained by specific legislation, as they are not subject to the provisions of transfer pricing rules.

The local affiliate must maintain the appropriate documentation that proves the nature of the payments.

Although they can be deductible in general, such payments may be subject to burdensome taxation in terms of PIS, COFINS, CIDE, ISS and other Brazilian taxes typically imposed on the import of services.

Brazilian law does not impose constraints on borrowing by resident persons from non-local affiliates. However, thin capitalisation rules will prevent the deductibility of interest paid in connection with the following:

• the portion of the debt that exceeds 200% of the direct participation held by the lender in the net equity of the borrower, if there is such a participation;
• the portion of the debt that exceeds 200% of the total net equity of the borrower, if the lender is a related party that does not hold any direct participation in the borrower; and
• the portion of the total debt towards related parties that exceeds 200% of the participation of these related parties in the net equity of the borrower.

If the lender is located in a low-tax jurisdiction or is subject to a privileged tax regime, interest paid in connection with debts toward parties that fit these categories will not be deductible in relation to the portion of the debt that exceeds 30% of the total net equity of the borrower.

Transfer pricing rules will also apply in this case and limit the deduction of interest expenses for income tax purposes. The deduction limit will vary according to certain features of the loan transaction, such as interest rates and the currency involved.

The foreign income of local corporations is subject to corporate tax as the local income of these entities. As a rule, income must be recognised under the accrual regime, regardless of where it is earned (locally or abroad).

Brazilian domestic law allows for taxpayers to take credits related to income taxes imposed on the foreign income subject to tax in Brazil.

Since foreign income is subject to income tax in Brazil, there is no restriction on the deductibility of local expenses.

Profits earned by controlled foreign entities are included in the local corporation’s income tax basis automatically, regardless of any decision to pay dividends by the subsidiary or their effective distribution. Therefore, under the assumption that the underlying profits have already been taxed under the accrual regime, the dividends of foreign subsidiaries are not subject to tax in Brazil.

Intangibles developed by local corporations can be used by non-local subsidiaries in their business without incurring local corporate tax. Nevertheless, transfer pricing rules may require the local corporation to recognise taxable revenues for income tax purposes in connection with the use of these intangibles. Also, the amortisation of intangibles shall not be deductible for CIT if the intangibles are not used by the local subsidiary and are not subject to transfer pricing charges.

The profits of directly or indirectly controlled foreign entities are computed in the income tax basis of the Brazilian entity on a yearly basis. The profits and losses of controlled foreign entities can be consolidated until the end of 2022, except for the profits and losses of the following entities:

• those located in jurisdictions with which Brazil has not executed a treaty for the exchange of information for tax purposes;
• those located in or controlled by a company located in a low-tax jurisdiction or subject to a privileged tax regime;
• those that have passive income that exceeds 20% of their total income.

The profits of the non-local branches of Brazilian entities are taxed automatically in Brazil in December of every year.

In the above cases, the Brazilian entity may deduct from income tax payable in Brazil credits related to the income tax paid abroad over the profits added to the Brazilian tax basis, provided certain limits are complied with.

Concerning the taxation of foreign income earned by local corporations, there are no rules related to the substance of non-local affiliates. This does not mean that tax authorities cannot make claims based on the absence of substance of such non-local affiliates. However, this may be a controversial issue, since, objectively speaking, there are no rules on the matter.

The gain on the sale of shares in non-local affiliates is taxed according to the same rules as apply to other capital gains assessed by Brazilian entities; please see 2.7 Capital Gains Taxation.

Controversy regarding Overarching Anti-avoidance Provisions in Brazil

Section 116 of the National Tax Code was enacted in 2001 and allows tax authorities to disregard simulated transactions carried out by taxpayers, pursuant to procedures to be provided for in a specific legal statute. Despite attempts by the federal government, this statute has never been enacted by the Brazilian Congress.

Since the publication of Section 116, there has been controversy in Brazil as to whether or not the country’s tax system has an overarching anti-avoidance provision. Renowned scholars claim that such provisions do not exist in the Brazilian tax system and that the Sole paragraph of Section 116 is currently not effective, since it is still awaiting regulation. However, this is a controversial matter, since most of the administrative precedents tend to adopt the tax authorities’ view that transactions carried out by taxpayers may be disregarded based on arguments such as the “lack of business purpose”, “economic substance”, “abuse of rights” and others. It is not yet clear whether assessments made on these grounds will prevail in judicial courts.

Specific Provisions Dealing with Cases of Fraud, Sham or Simulation

Notwithstanding the above, Section 149 of the National Tax Code allows tax authorities to perform the (re)assessment of taxpayers’ taxes if a fraud, sham or simulation is identified.

Brazilian tax rules do not provide for a regular routine audit cycle; the tax authorities may randomly choose taxpayers to undergo an inspection.

Nevertheless, major taxpayers are subject to closer monitoring by the tax authorities, which may demand clarifications on the assessments made by taxpayers from time to time, especially when there is an increase or decrease in the collection of taxes.

Moreover, the tax authorities publish an annual document disclosing their main target topics of inspection for that year.

In recent regulations published by the Brazilian Federal Revenue (RFB), the tax authorities formalised their initiative to adapt domestic legislation to BEPS recommendations, especially those related to Action 5 (Harmful Tax Practices), Action 13 (CbC – Domestic Law and Information Exchange Network) and Action 14 (Effective Dispute Resolution), including those described in annual reports issued by the OECD with respect to each BEPS action.

Currently, Action 5 is aligned with Brazilian laws, as substance and transparency are two pillars of Brazil's tax policy. Influenced by the OECD's recommendation, the RFB amended some provisions of Normative Ruling No 1,037/2010 to include specifications on preferential tax regimes.

With respect to Action 13, the RFB enacted Normative Ruling No 1,681/2016, which regulated the form of filling out and submitting the CbC report.

The outcome of the OECD's Stage 1 review process was that Brazil met most of the elements of the minimum standard for Action 14. In October 2021, the OECD published the Stage 2 review report analysing developments in relation to the implementation of the MAP agreements, and making additional recommendations for the implementation thereof.

Brazil has been strengthening its relationship with the OECD since the 1990s and is now considered a “key partner” by the OECD. Brazil was one of the non-member countries that most contributed to the BEPS Project, and already adopts several of the tax policies recommended by the OECD.

In 2017, Brazil submitted its application for OECD membership, which is currently under consideration by the OECD council. However, Brazil's participation in OECD forums and relevant discussions predates its request and was reinforced by the current government, which considers Brazil's accession to the OECD to be a top priority.

In 2018, the OECD and the RFB launched a joint project to examine the similarities and gaps between the OECD Transfer Pricing Guidelines and the Brazilian international transfer pricing rules, culminating in a report containing a robust and important analysis of Brazil's transfer pricing framework compared to OECD guidance, as well as the major challenges for its alignment (see 4.6 Comparing Local Transfer Pricing Rules and/or Enforcement and OECD Standards). Additionally, in the middle of 2020, the RFB and OECD launched a public consultation on their ongoing research towards the convergence of standards. This consultation presented 17 questions that touched on matters such as the identification of situations that could require specific safe harbours, the use of comparable data by Brazilian companies, the possibility of using advance pricing agreements and other simplification measures.

Since 2019, the Brazilian government has announced the creation of a taskforce, such as the Special Secretariat in the Presidency for External Relations, to support Brazil's alignment with OECD standards and best practices. In addition, Brazil and OECD have established a co-operation in the context of the G20, aiming to strengthen and develop the global economy.

Brazil is currently actively involved in OECD work on tax matters, focusing on the area of tax transparency in the context of the G20/BEPS project, and is a member of the Inclusive Framework on BEPS to collaborate on strategies for discussing and combating tax avoidance.

In October 2021, Brazil joined the Two-Pillar plan, which entails a reform of international tax rules in light of the current globalised and digitalised scenario, and the Brazilian government committed to ensuring that multinational enterprises pay taxes where they operate and make profits, as a measure to provide greater stability to the international tax framework and legal certainty. According to the current projection of the Brazilian government, the measures and tax reform necessary to achieve Pillar Two will be implemented in 2023.

International tax does not have a high public profile in Brazil, especially because international tax policy is mainly oriented towards domestic tax rules. In fact, most of Brazil's international tax policy focuses on specific topics, such as the taxation of imports of services, outbound payments of interest and royalties.

Even though Brazil is not an OECD member, the implementation of BEPS recommendations influences its international tax policy and tax treaties. The recent regulations enacted by the RFB to implement BEPS actions reinforces this influence in Brazil's international tax policy.

Moreover, international tax policies that are different from international practices, such as the Brazilian CFC and transfer pricing rules, as well as the lack of a proper general anti-avoidance rule (GAAR), are challenges that must be solved by Brazil before its accession to the OECD.

Although tax policy issues are not directly part of the Brazilian government's agenda, the current government is prioritising the Brazilian tax reform and OECD accession as necessary measures to implement a modern and competitive tax system.

The challenges and gaps in the Brazilian tax rules compared to international practices cannot be settled with unilateral or bilateral actions; the efforts to align Brazil with international practices are a result of domestic and international pressures. With regard to transfer pricing rules and the taxation of profits earned by controlled foreign companies, on the other hand, pressure from BEPS actions was essential for these key issues to be properly analysed by the Brazilian government.

Brazil does not currently have any key features or instruments aimed at strengthening its competitiveness in the international scenario.

In fact, one of the main gaps between Brazilian rules and international practices is related to CFC rules: while countries apply CFC rules as anti-tax avoidance measures, Brazil has adopted them as a general taxation rule. As a result, Brazilian multinationals are less competitive in their global operations and with their peers due to Brazilian taxation on profits earned abroad.

There are two instruments in the Brazilian tax framework that have been highlighted by international practices as possible hybrid instruments:

• the deductibility of JCP; and
• dividends payment exemption.

Under the latest tax reform proposal, the use of such instruments would no longer be allowed. This measure aims both to increase tax collection and to respond to the OECD recommendations on hybrid mismatches in light of BEPS Action 2 (Neutralising the Effects of Hybrid Mismatch Arrangements).

Currently, there is no public information on initiatives related to changes in the domestic legislation to deal with hybrid instruments.

Brazil does not have a territorial tax regime. Under the current tax law, Brazilian individual and legal entities are taxed on their worldwide income, so all foreign income is taxed in Brazil, regardless of its nature (passive or active) or whether or not it originated in a low-tax jurisdiction.

The Brazilian worldwide tax system discourages companies from repatriating foreign earnings and, in some cases, incentives companies to avoid domestic tax on their foreign profit by moving their affiliates to other countries.

Brazil does not have a territorial tax regime nor CFC proposals.

Currently, the Brazilian CFC rules apply to corporate taxpayers only and not to individuals in the context of their “worldwide tax system”.

There is currently no statutory provision in Brazilian tax law that allows a disregarding approach based on an alleged “substance over form interpretation” (such as a GAAR). Under currently applicable legal statutes, however, the only situations that could justify the adoption of a disregarding approach by Brazilian tax authorities as to a given formal structure adopted by a taxpayer are those where unlawful acts involve legal defects of will (sham) or vices of act (opposition to the law or fraud). This approach is based on the interpretation of Section 116 of the Brazilian Tax Code, introduced by Complementary Law No 104/2001, which is intended to rule on the unlawfulness of sham transactions.

Based on the position of the Supreme Federal Court of Brazil on the Direct Action of Unconstitutionality No 2,446 (ADI 2,446), taxpayers can manage their business at their own discretion, including via the adoption of structures that result in an optimisation of profits and are less burdensome for tax purposes, provided that the legal statutes are observed – ie, that transactions are enacted by means of legal, valid and effective acts, motivated by a coherent legal cause, with no sham characteristics.

The change in Section 116 lacks effectiveness as it is not yet regulated. Despite some failed attempts by the executive branch, the federal government has not yet published legislation dealing with the procedures through which tax authorities may disregard taxpayers’ transactions. Despite this, the tax authorities have been using the rationale of Section 116, despite not citing it, as grounds for the issuance of tax assessments challenging tax planning structures.

The settlement of the above discussion will be key to many disputes and shall be a guidance on the assessment of tax planning limits in the Brazilian tax arena, which is why the ADI 2,446 trial is highly expected to conclude soon.

In 2018, the OECD and the RFB issued an official joint report (“Transfer Pricing in Brazil: Towards Convergence with the OECD Standard”) as an outcome of the project launched to examine the similarities and divergences between the Brazilian and OECD transfer pricing approaches.

Although there are some convergences between the Brazilian legislation on international transfer pricing rules and the OECD Transfer Pricing Guidelines, in practice, the Brazilian government has not yet introduced transfer pricing changes in the Brazilian legal framework.

Transfer pricing might not be the only tax issue to be solved by Brazil’s accession to the OECD. There may be other issues to address, such as having a proper GAAR in place, an increase in the country’s treaty network (this issue may gain more relevance if the dividends exemption is repealed), the alignment of the RFB's interpretation of the tax treaties, and issues regarding taxation on the digital economy.

With respect to intellectual property, Law No 9,430 of 1996 establishes that royalty payments and outbound payments for technical, scientific, administrative or similar assistance services are excluded from the scope of transfer pricing rules in Brazil. Such payments are subject to special rules related to deductibility limits for CIT purposes.

Tax avoidance and evasion have been a constant concern in Brazil. As a G20 member, Brazil has been engaged in the BEPS process to collaborate on strategies to tackle tax avoidance. The Brazilian tax authorities' implementation of the CbC Reporting based on BEPS Action 13 is essential to provide quality data on corporate taxation related to multinational enterprise group transactions. However, one of the main concerns related to CbC Reporting is that it gives the Brazilian tax authorities visibility over revenues, income, tax income paid abroad and other relevant information of multinational enterprise groups. There is no legal certainty that the tax authorities will be prevented from using CbC Reporting information in planning a tax audit as evidence or preliminary information regarding multinational enterprise groups.

Currently, Brazil has no legislation on digital economy businesses operating outside Brazil.

In 2020, the Brazilian government proposed bills aiming to impose a digital service tax in specific services, such as the availability of digital platforms or interfaces for the sale of goods and services or the transfer of data, digital services for advertising purposes, the streaming and downloading of digital content, online games, apps and software, payment platforms, etc.

The proposed bills are pending evaluation by the Brazilian Congress, and have become a major trading topic in recent years. Although the challenges of the digital economy go beyond the introduction of a service tax in Brazil, it may still result in a relevant and important legal certainty for Brazilian taxpayers and decrease the number of current disputes involving the matter.

According to Brazilian tax legislation, outbound payments for royalties from the use, fruition or exploitation of intellectual property rights in Brazil are subject to withholding income tax at a general rate of 15%, which is increased to 25% on payments to non-residents domiciled in low-tax jurisdictions.

Payments for technical, scientific, administrative or similar assistance are treated, for tax purposes, as payments for services in which the transfer of technology is implied (ie, know-how).

In general, the tax treaties signed by Brazil state a maximum 15% rate of withholding tax on royalties from the use of or the right to use trade marks, paid by a resident of one state to a beneficiary domiciled in another state. In some tax treaties, the applicable withholding tax rate is 10%.

It is important to mention that the Brazilian transfer pricing rules are not specifically applicable in respect of outbound payments of royalties, as such payments are subject to specific rules related to the deductibility limits for CIT purposes in Brazil. According to the current legislation, the deductible amount for royalties related to trade marks is 1% of the net sales, provided that the respective intellectual property is duly registered before the National Industry Property Institute (INPI) and the Brazilian Central Bank (BACEN).