At the end of 2019, the OECD and the RFB (Brazilian Tax Authorities) presented a report on their joint work to assess the similarities and differences between the Brazilian and OECD transfer pricing frameworks. The 15-month work program carried out by both organisations included an in-depth analysis of the Brazilian transfer pricing legal and administrative framework.
For greater detail regarding the report, please access our article, “Transfer pricing in Brazil: Towards convergence with the OECD standard”, describing the results of the joint study.
To understand the significance of the OECD/RFB report, it is important to describe the context and origins of the Brazilian transfer pricing legislation that was enacted in 1996. During the 1990s, the Brazilian Government broke from decades of protectionism and began to open the economy to imports and free trade. Following this decision, foreign investment inflow increased significantly. The Brazilian Government and Tax Authorities (RFB) concluded, aiming for simple and objective rules, that adoption of transfer pricing legislation would be necessary. This resulted in the well-known fixed margin approach.
The rules were created in relation to transfer pricing on goods, the most prevalent type of transaction that occurred after the Brazilian economy was opened. Local rules determine the maximum tax-deductible price for imports and the minimum taxable price for exports. In general, the same set of rules is also applied for services and intangible rights, which results in a distortion of the transfer pricing analysis for these types of transactions.
The transfer pricing legislation has been amended several times since 1996, with relevant changes in 2012 and in 2019. Throughout all these updates, the original concept of ignoring the arm’s length principle was maintained, with the use of fixed profit margins, and with no provision for the use of non-transactional methods, the best method approach, or other aspects of the OECD Guidelines. According to the RFB, the Brazilian legislation was created to: (i) protect the tax base; (ii) ensure predictability; (iii) respect strict legality; and, (iv) be practical (for both the Tax Administration and taxpayers).
Any professional that works with transfer pricing as well as with MNEs with business in Brazil will have noticed that, unfortunately, these aims were not completely achieved. Over time, the existing rules very often created double taxation, did not effectively protect the tax base from relevant BEPS risks (mainly in high value-added services and intangibles), and were not always very practical, depending on the industry and method chosen by the taxpayer. As transfer pricing calculations must be prepared on a product-by-product basis, the higher the volume of items imported/exported into/from Brazil, the greater the compliance burden is for taxpayers.
As part of the implementation process of updated, OECD-compliant guidelines in Brazil, the OECD and RFB released, in July 2020, a public collaboration request to provide input into the work relating to the development of safe harbors and other simplification measures that may contribute to increasing certainty in transfer pricing matters.
Input was requested to be provided by October 30, 2020 on 17 questions contemplating the following issues: (i) identify situations in which a specific safe harbor could be necessary; (ii) use of available comparable information; (iii) considerations regarding the use of APAs; and, (iv) other simplification methods.
The results of this research will assist RFB in designing and creating the safe harbor approach in the new transfer pricing legislation. This is one of the first times that taxpayers have an opportunity to have this type of dialogue with the Tax Authorities, prior to the introduction of new legislation.
The alignment of the Brazil tax law with the OECD guidelines will need to be designed and conducted very carefully by the RFB, as it is not only the transfer pricing legislation that has to be changed, but a large section of legislation such as Income Tax regulation, CFC rules, Tax Treaties, dispute resolutions, and other related provisions. Furthermore, changes to the tax administration and its human resources will be required and will be very challenging.
It is important to note that there is also an ongoing discussion of tax reform in Brazil that includes changes or unification of the different levels and types of VATs, as well as relevant changes in the corporate income tax calculation and tax rates, taxation of dividends, and other measures that are expected to be in the spotlight in 2021.
There is no defined date for draft legislation yet, but considering the great impact of transfer pricing legislation in the Brazilian tax system as well as the tax reform itself, even optimists suggest that Brazil is not expected to have new legislation for another two to three years at the earliest.
The good news is that the alignment will occur - there is no way back. The ninth largest economy of the world cannot remain outside internationally accepted practices, and alignment with the OECD Guidelines will certainly contribute to attracting new investments and businesses to Brazil. The question is not IF, but WHEN.