Brazil Tax Reform: Congress Wants More

Government’s tax reform doesn’t go far enough, lawmakers say.

BY LATIN AMERICA ADVISOR
Inter-American Dialogue

Brazilian Economy Minister Paulo Guedes last month unveiled to congressional leaders the first part of the government’s tax reform proposals, a plan he said will be simpler, cheaper and more efficient for companies to comply with, in addition to more transparent for consumers. What are the benefits and drawbacks of the proposed tax changes? To what extent is it likely to pass Congress as drafted, and how long might that process take? What other measures should the government include in its broader reform of Brazil’s tax system, which the ministry said would be announced in the period ahead?

Gabrielle Trebat, managing director at McLarty Associates: Abolishing the federal PIS and Cofins taxes in favor of a 12 percent federal value-added tax has the potential to reduce the costs of compliance and increase judicial security for corporations. It could also decrease tax evasion and boost public revenues without raising overall tax rates. However, the new tax would disproportionately affect the services sector, which on average pays taxes of between 3.5 percent and 4.5 percent, and it would be subject to the new 12 percent standard. This is the most controversial provision in the package, and industry associations are mounting a vigorous defense against it. An important complementary measure to offset the increased costs would be to reduce payroll taxes. Economy Minister Paulo Guedes has said this reduction could be made possible by the introduction of a new tax on digital transactions—the ‘new CPMF.’ This proposal is proving highly controversial as it would hold online platforms responsible for the collection of taxes for any goods bought and sold on their sites by third parties. Former central bank president Ilan Goldfajn cautions that this ‘new CPMF’ could undermine the central bank’s effort to promote digital payments. There are indications that Brazil’s Congress wants to tackle a more comprehensive reform that encompasses municipal and state-level taxation. It is very likely that this proposed bill could be altered or merged with other bills. The timeline for approving any tax changes could also be delayed due to the local government elections scheduled for November, given the diverging interests of municipalities, states and the federal government in tax revenue allocation.

Silvio Cascione, director for Brazil at Eurasia Group: Tax reform has been an issue for decades in Brazil, but this time is different. And not because of Guedes’ proposal, but first and foremost because of unprecedented consensus in Congress and among state governors, who are pushing for a much more ambitious overhaul. While Guedes has proposed merging just two federal taxes, most party leaders and governors are calling for the unification of five taxes, federal and local, into a single national value-added tax. That would be a revolution for Brazilian companies, as it would drastically reduce compliance and litigation costs and, above all, would encourage firms to invest where they can be more productive—and not where they can get more generous tax incentives. There are many reasons for such a consensus, but years of economic crises have certainly played a role. Few are taking advantage of the status quo, and most political actors and companies are interested in a structural reform. One important obstacle is that services companies would pay more taxes under the proposed VAT system, but lawmakers and Guedes are negotiating payroll tax cuts to offset that. And some other changes are likely to come in the package, such as taxation on dividends, for example. Given the stronger political support for an ambitious reform, Guedes’ draft is very unlikely to be voted as it is; instead, Congress will probably blend it into a broader constitutional amendment that has been under discussion since last year. Approval is likely in 2021, but implementation of the new system will take much longer, so companies can adapt to the new system; under the current draft, the full transition into the new VAT would take 10 years.

Beatrice Rangel, member of the Advisor board and director of AMLA Consulting in Miami Beach: As it stands now, the Brazilian tax system is set up for evasion. Arcane and opaque regulations cheapen the cost of evasion, but if you want people to pay their taxes, the cost of evasion must be very high. According to the Financial Times, it takes a typical U.S. company 100 work hours to file a tax return, while it takes a typical Brazilian company 2,000 work hours. In Brazil, the tax space is cluttered with laws, provisional measures, decrees, ordinances and other forms of regulation. This makes financial planning quite difficult for businesses. This tax labyrinth was created by the 1988 Constitution, which aimed to secure financial independence for municipalities and states. Instead, it has created powerful incentives for evasion as it is easier and cheaper to evade taxes than to comply with this regulatory kaleidoscope. More than three decades later, we have tax wars among states, excessive ancillary tax legislation and tax litigation, as well as sparse and subjective tax legislation. Minister Paulo Guedes’ proposal is to simplify taxation through merging several sales taxes into a single indirect tax at the federal level. Five indirect taxes on consumption (ICMS, IPI, ISS, PIS and Cofins) would be consolidated into a new tax on goods and services, or IBS. This is the first, correct and fitting step toward introducing simplicity and clarity into Brazil’s tax system. There is still much to do at the state and municipal levels, but every journey begins with the first step.

Republished with permission from the Inter-American Dialogue's daily Latin America Advisor

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