USA changes credit rules and companies in Brazil fear double taxation

By Mariana Ribas

RIO DE JANEIRO, BRAZIL – A change in U.S. credit rules has led U.S. companies operating in Brazil to fear double taxation. In response, sources interviewed by JOTA claim that multinationals may choose to establish a business in another country with a favorable treaty to avoid the impact of the change. Experts believe the impact will be felt by the middle of this year.

The new rule, which has been in effect since last December, changed the eligibility requirements for the offset and stipulated that only countries with tax laws similar to the U.S. are eligible for the credit.

The change was introduced by the U.S. Treasury through TD 9969 and affected the use of credits that existed between withholding tax (IRRF) – levied on remittances from Brazil to foreign countries – and U.S. income tax. The rates are 15% and 21%, respectively.

The big problem is that the concept of source is different in Brazil than in the US. “Brazil considers the source of payment as the valid criterion for levying withholding tax. So any payment that leaves Brazil is subject to the tax. On the other hand, in the United States, a different concept applies, based on the source of income generation. Only if the source of the income is in Brazil and the recipient of the income is outside Brazil should a withholding tax be imposed on it,” explains Francisco Lisboa Moreira, partner at Bocater Advogados.

Before the change, U.S. multinationals operating in Brazil could offset amounts collected through the IRRF against U.S. income tax. Since the tax payment in Brazil is not recognized by the United States, this offset cannot occur and the U.S. multinationals may be taxed in both countries, i.e., double taxation occurs.

In light of this, a source who did not want to be named stated that “many U.S. companies that have a direct interest in Brazil involve a company in another country with a favorable treaty to hold the interest in the Brazilian company.” The double tax treaty is a treaty between two countries to avoid double taxation.

Tax expert Lisa Worcman, partner at Mattos Filho Advogados, confirms that there are companies that see a solution in establishing companies in countries with a double taxation treaty with Brazil.

However, she warns that it cannot be applied uniformly in every case because each company has its peculiarities and could face different problems as a result. “This could lead to an artificial structure that the tax authorities of each country can challenge,” she says.

IMPACT

To JOTA, the lawyers explain that one of the biggest impacts on the Brazilian economy from the change in tax rules in the United States will be the increase in prices of imported products or products that are in some way related to the U.S. market. However, the impact is likely to be visible from the second half of this year or only in 2023.

For Romero Tavares, a tax expert and partner at PwC Brazil, “the practical impact of the change is catastrophic,” both for U.S. companies that invest in Brazil and for U.S. exporters that do not have a direct presence in the country.

He explains that the double taxation of companies will drive up prices in the Brazilian market, affecting not only products but imports in general. In other words, even technological services that are essential to Brazilian businesses and consumers will become more expensive. After all, many services are imported from the United States.

However, Tavares explains that the impact should be visible starting in 2023. The “rollover” of these new costs is not easy, especially in an already inflationary scenario, and the ultimate decision to “divest” requires many actions and decisions that take time – so divestment should not happen in 2022.

“Therefore, I believe that in the vast majority of cases, the cost will be incurred in late 2022, leading to serious impacts in Brazil [inflation and divestment] starting in 2023,” he says.

Lisa Worcman, partner at Mattos Filho Advogados, believes that “as soon as companies realize that they are actually being taxed twice, they will pass it on.” For them, the impact is likely to be felt in the second half of this year, starting in August. “The only reason they haven’t started passing it on yet is that there is a dialogue between the multinationals and the U.S. authorities to try to postpone the impact,” she adds.

WHAT CAN BRAZIL DO?

One of the solutions to the income tax conflict between Brazil and the United States would be a double taxation agreement, says Francisco Lisboa. However, he points out that Brazil has few agreements to avoid double taxation, exactly 36 agreements. In addition, he explains that it is a lengthy process that involves political and diplomatic issues, which would not improve the impact in the short term.

“Under a double tax treaty, especially with the possible change in source qualification rules being discussed, the United States would more easily allow the credit,” he says.

“It could be an opportune moment for the Brazilian government to take some initiatives to move closer to the OECD model, so that Brazilian tax parameters are more in line with these consolidated jurisdictions from an international perspective,” says Leonardo Briganti, founder of Briganti Advogados. For him, new transfer pricing rules based on international models could be a good solution.

Tax expert Paulo Vieira da Rocha of VRMA Advogados, on the other hand, is pessimistic about possible solutions. “The OECD has proven in recent years that it cannot firmly defend its standards on this point. As a solution, should Brazil try to adapt to a model whose great preacher has given signs that not even she knows if the model is the right one?” he says.

With information from JOTA