1 Brazil Business and Taxation Guide. Business and Taxation Guide to. Brazil

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1 1 Brazil Business and Taxation Guide Business and Taxation Guide to Brazil

2 2 Brazil Business and Taxation Guide Preface This guide was prepared in 2012 by Mazars in Brazil. Present in Brazil since 1995, Mazars has almost 500 employees in four offices: São Paulo Rio de Janeiro Campinas Ribeirão Preto. The firm offers a broad range of valued-added services to clients, including: Accounting & Outsourcing Services o Accounting & Financial Outsourcing o Direct & Indirect Tax Outsourcing o HR Outsourcing o Secretarial Services o Accounting Tax Reconciliation Consulting o Strategy o Benchmarking o Marketing & Sales o Operational Excellence o Information Technology o Sustainability & Human Rights o Asset Management o Conduct & Human Resources o Risk Management Audit o Independent Audit of Financial Statements o Audit for Consolidation Purposes of Multinational Groups o Limited Review of Financial Statements o Agreed Upon Procedures o Assurance Services Tax o Transfer Pricing Services o Tax Planning o Accessory Obligation Review o Tax and Labour Due Diligence o Tax Advisory for Expatriates o Tax Review for Direct & Indirect Taxes o Succession & Corporate Planning for Owner Managed Business Financial Advisory Services o Transaction Services (Acquisition & Vendor Due Diligence) o Valuation o Litigation & Arbitration o Project Finance & Modelling. Mazars is an international, integrated and independent organisation specialising on Audit, Consulting, Accountancy, Tax, Legal and Advisory Services. The firm has 13,000 skilled professionals

3 3 Brazil Business and Taxation Guide working in 69 countries, making up an integrated partnership across all continents. Mazars also has correspondents and joint ventures in 15 additional countries. This guide has been prepared to assist people interested in doing business in Brazil. It is intended to answer some of the important broad questions that may arise, but does not cover exhaustively each subject. Seeking appropriate professional advice about the relevant laws and regulations is advisable. The key contacts in Mazars in Brazil are: Eduardo Cabrera Managing Partner Tel: Eder Mutinelli Consulting Tel: Dominique Nezan Audit Tel: Firas Abou Merhi Financial Advisory Services Tel: Uipiquer Dos Santos Tax Tel: Ricardo Aquino Accounting and Outsourcing Services Tel: Praxity 2011 This guide is intended as a general guide and should not be acted upon without further advice.

4 4 Brazil Business and Taxation Guide Contents Page 1. General information Opportunities and possible obstacles for foreign investors 1.2 Area and population 1.3 Government and law 1.4 Currency 1.5 Economy Industry 1.6 Financial stability Interest rates Debt and credit ratings Exchange rates Miscellaneous indicators 2. Regulation of foreign investment Investment requirements and sectors 2.2 FIP and FMIEE 2.3 Anti-trust authorities 2.4 Super CADE 2.5 Regulatory agencies 2.6 Control of international financial operations 3. Government incentives Tax incentives 3.2 Special Economic Zones Free-Trade Zones (FTZ) 3.3 Special customs regimes 3.4 Fostering exports 3.4 R&D and green technologies Information technology 4. Business organisations available to foreigners Legal entities 4.2 Commercial agreements 5. Setting up and running business organisations Accounting and audit standards Brazilian GAAP and IFRS The Equity method 5.2 Audit requirements 5.3 Fiscal reporting obligations 6. Corporate taxes and social charges General principles 6.2 Corporate income tax Actual Profit tax regime Presumed Profit tax regime Arbitrated Profit tax regime SIMPLES (simplified tax regime) 6.3 Federal Social Contributions on gross revenues (PIS /COFINS) 6.4 Other Federal, State and Municipal taxes and contributions Tax on Industrialized Products (IPI)

5 5 Brazil Business and Taxation Guide Contribution for Intervening in the Economic Domain (CIDE) Tax on Financial Operations (IOF) State Tax on Circulation of Goods (ICMS) Municipal Service Tax (ISS) The gross-up taxation system 6.5 Transfer Pricing 6.6 Consolidation or group taxation 6.7 Dividends and interest 6.8 Thin capitalisation 6.9 Interest on net equity 6.10 Other tax considerations Asset deal vs. Share deal Royalties and copyrights Importation of services Controlled Foreign Company (CFC) rules Capital gains tax Declaration of Brazilian Capital abroad for residents (DCBE) 6.11 Labour laws Hiring, dismissal and litigation Health insurance Remuneration and bonuses Pensions and vacations 6.12 Labour unions and collective agreements 6.13 Social Security contributions INSS Employee Contribution (2012) Illustrative examples of employer labour costs 7. Personal taxation Double taxation agreements Sales and use taxes State Tax on Circulation of Goods (ICMS) 10. Portfolio investments for foreigners Trusts Practical information Transportation 12.2 Language 12.3 Time relative to Greenwich Mean Time (GMT) 12.4 Business hours 12.5 Public holidays 13 Appendices Privileged tax regimes 13.2 Tax haven jurisdictions

6 6 Brazil Business and Taxation Guide 1. General information 1.1 Opportunities and possible obstacles for foreign investors At the end of December 2011, Brazil overtook the United Kingdom as the 6th largest economy in the world. Since 1994, Brazil has succeeded in reducing inflation and progressively initiated a steady growth that had been anticipated for many years but always postponed due to a lack of economic and political stability. After the 1997/1998 Asian crisis, Brazil entered a new era of economic development and has multiplied its Gross Domestic Product (GDP) by five since Brazil s economy is now largely based on services (67%) and industry (27%), while agriculture remains one of the most productive in the world. The country is a top producer, manufacturer and exporter of aircrafts, automobiles, electronics, textiles, footwear, ethanol, steel, sugar, coffee, orange juice, soybeans and corned beef, among others. Abundant natural resources are also a key to Brazil s economic success. Brazil s land area ranks 5th in the world and its soil is rich in bauxite, iron ore, timber, tin, manganese, natural gas, aluminium, nickel, gold and petroleum. In addition, more than 85% of its electricity production comes from renewable sources (hydropower, biomass, wind, solar). Brazil has a large and young population (5th largest in the world with million individuals 1, 26% are under 15 years old) and a fast growing middle-class. Despite all these positive aspects, Brazil also faces challenges in its development momentum. Informal activities are still apparent, bureaucracy slows down administrative processes and the tax environment is unstable and complex (for example, federal, state and municipal levels). There is a large social gap between the affluent and the poor and the geographical imbalance between the North and South still exists. Indeed, Southern states of São Paulo, Rio de Janeiro and Minas Gerais represent more than 50% of Brazilian GDP. Nonetheless, Brazil s economy offers far more opportunities than threats. Incoming events (World Cup 2014, Olympic Games 2016), good macro-economic conditions and forecasts, strong domestic market and investments in infrastructure and skilled people, as well as the political stability, should be a source of confidence and interest for potential investors. 1.2 Area and population Brazil s population is culturally diverse, built over the centuries through various waves of voluntary or forced immigration (mainly Portuguese, but also Italian, Spaniards, German, Japanese, Middle- Eastern and African slaves), mixing with indigenous populations. Brazilian life expectancy is the highest among the BRICS (Brazil, Russia, India, China and South Africa). It is still currently behind Western standards, although the evolution of its Human Development Index shows that the country benefits from one of the highest development trends. 1 Source: Brazilian Geography and Statistics Institute (IBGE), 2011

7 7 Brazil Business and Taxation Guide The country counts on a young and relatively employable population ready to take on the future challenges that a fast developing country, such as Brazil, inevitably faces. Brazil Life expectancy 73.5 Literacy rate (15 years and above 90% Median age 29.3 Urban population 84% Human Development Index (HDI) HDI evolution since 1995 (%) 13% Unemployment rate (%) 6.0% Age structure 0-14 years of age 26% % 65+ 7% 2 Brazilian society is moving fast. From 2010 to 2020, 8.8 million people are expected to migrate from the low-income brackets, classes E and D, to the middle class (class C). Brazil s social classes, 2003 to 2014 (% of the population) Classes and monthly revenues Class A & B (>R$4,635) 8% 11% 16% Class C (R$1,159 to R$4,635 37% 50% 56% Class D (R$701 to R$1,159 27% 24% 20% Class E (<R$701) 28% 15% 8% Government and law After a century of military domination over Brazilian politics and periods of dictatorship, civilian return to power in the mid-1980s paved the way to political stability and economic success with the implementation of the Plano Real in This set of measures was designed to control inflation and equalise the balance of payments. Brazil is a federal republic. The country s political system is based on the union of three independent political entities (the Federation, the States and the Municipalities) and three government branches (executive, legislative and judicial). The President, elected for four years, is both the head of state and head of government. Dilma Rousseff was elected at the end of Currency The monetary unit used in Brazil is the Real. The international abbreviation is R$ and its International Standards Organization code s BRL. The Real is subdivided into 100 centavos, represented by. 2 Source UNDP, CIA, IMF, World Bank, CCFB 3 Source FGV, IBGE, LCA, Bradesco

8 8 Brazil Business and Taxation Guide 1.5 Economy While the USA, China and Japan continue to dominate GDP ranking, Brazil became the 6th largest economy in 2011, ahead of UK. Brazil s GDP growth slowed to 2.7% in 2011, compared to 7.5% in Behind China, but ahead of Russia and India, Brazil has become one of the most successful places to invest in. Inbound investments have virtually doubled since Brazil GDP Growth rate % Per Capita GDP 2011 (US$) 12,789 Inflation (consumer prices 2011) 6.6% FDI Net Inflows 2011 (US$ billion) 66,7 Stock of FDI 2011 At Home (US$ billion) 426 World rank for FDI stock #13 4 Geographical disparities are still strong among the 26 states and the Federal district; Southern states remain the most populated and the drivers of an economy now led by services. States of São Paulo, Rio de Janeiro and Minas Gerais represent more than 40% of the population and 50% of the GDP Industry Brazil has recently become an important oil producer, as a result of recent offshore crude oil reserves. The country is also a leader in renewable energy, as hydropower and biomass account for more than 85% of total electricity output. Brazil s main export partners are: China 17% USA 10% Argentina 9% The Netherlands 5% Japan 4% Germany 3% Italy 2% Chile 2% UK 2% South Korea 2% The country s main import partners are: USA 15% China 15% Argentina 7% Germany 7% South Korea 4% Japan 4% Nigeria 3% Italy 3% 4 World Bank, CIA, CEBR, IMF, UNCTAD

9 9 Brazil Business and Taxation Guide 5 France 3% India 2% 1.6 Financial stability Interest rates The Brazilian Central Bank has taken measures to reduce interest rates, lowering them several times in 2011 and High rates have attracted substantial foreign capital flows leading to an overvalued currency unfavourable to exportations. The interest rates have also generated a higher risk of non-payment from borrowers to banks and limited the level of lending to customers Debt and credit ratings Brazilian public gross debt only represented 54.3% of GDP in 2011 (compared to more than 100% in many developed countries). Brazil s public gross debt is projected to drop to 40.4% by This improvement is supported by the continuous increase in the country s international credit ratings, which is currently positive (Moody s) and stable (Fitch and Standard & Poors) Exchange rates Exchange rate fluctuation remains a major issue for both local companies in their import and export operations and for foreign investors in their long term cash management strategies Miscellaneous indicators Transportation infrastructure is still in its early development stage compared to mature economies. Access to new technologies is widespread but still at a prohibitive cost. There are 251 million mobile phone lines in Brazil. Just over one third of the population (39%) use the Internet. 6 More than 70 million vehicles operate in Brazil. Local production amounted to 3.4 million units in 2011 (+0.7% compared to 2010) whereas imports represented approximately 20.0% of total licensing in the last two years 5 Source: Ministério das Relações Exteriores (MRE) 6 Source: CIA, CCFB, ANATEL

10 10 Brazil Business and Taxation Guide 2. Regulation of foreign investment 2.1 Investment requirements and sectors No nationality or minimum capital investments are required in order to start a business in Brazil. However, there are some exceptions, such as: 1. Respecting some liquidity and solvency ratios for public tender or 2. Appointing a foreign individual as a Brazilian entity s manager, administrator or executive director. In case 2, following the Normative Resolution n 95 released on 10 August 2011, a minimum capital investment is required, for both Sociedade Anônima (SAs) and Limitadas (Limited Liability Companies). The requirements are: Investment in foreign currency of an amount equal or higher than R$ 600,000 per foreign worker, or R$ 150,000 per foreign worker, along with the commitment that at least 10 new jobs (per foreign worker) will be created in the following two years. Foreign investments are authorised in many activities. These include: Mining, oil and gas Agriculture and forestry Light manufacturing Telecommunications Electricity Banking and financial institutions (with prior authorisation from the Brazilian government) Insurance (limited) Tourism Retail. Foreign equity ownership is limited to 20% in air transportation and 30% in media industries (TV broadcasting and newspapers). Some foreign investment sectors are prohibited. These include: Nuclear energy Mail and telegraph services Public health services Aerospace industry Sanitation. However, such sectors may remain accessible, in some cases, through local investment vehicles. 2.2 FIP AND FMIEE

11 11 Brazil Business and Taxation Guide Both regulated by the Securities and Exchange Commission (CVM), the Fundo de Investimento em Participações (Private Equity Fund or FIP) and the Fundo Mútuo de Investimento em Empresas Emergentes (Emerging Companies Investment Fund or FMIEE) are not legal entities but funds held by financial investors. They have rapidly become attractive venture capital and private equity investment vehicles, as they are not subject to corporate and gross revenue taxes (IRPJ, CSLL, PIS/COFINS). Some terms and conditions must be respected. Any participant cannot hold 40% or more of the fund s quotas and income. Furthermore, the portfolio must not comprise debt securities exceeding 5% of the fund s net equity. If a foreign investor resides in a low tax jurisdiction, he or she will not benefit from any exemption. 2.3 Anti-trust authorities If any participant of a M&A contract presents an annual gross revenue higher than R$ 750 million in Brazil, and another participant an annual gross revenue above R$ 75 million in Brazil, then the whole case must be presented for approval or rejection to the Federal Antitrust Agency (Conselho Administrativo de Defesa Econômica or CADE). This authority s investigation can take a maximum of 240 days. On request of the participants, the duration of the investigation can be extended to 300 days, or up to 330 days by the CADE. 2.4 Super CADE Up until the end of 2011, contracts could be presented within 15 days after completion. However, after the law change in 2012, all projects signed after 31 May 2012 must now be submitted prior to their execution (Lei no /11). This Super CADE law presents some uncertainties to the business community regarding potential delays and the operational implication of this on-hold period. For example, communication of the transaction, management during the interim period, business implications. However, according to the CADE, non-complex operations are expected to be cleared within 60 days maximum. Furthermore, authorities diminished the constraints on M&A deals by raising the thresholds for prior analysis. These were increased from R$ 400 million and R$ 30 million initially, to R$ 750 million and R$ 75 million respectively (Interministerial Ordinance n 994 of 30 May 2012). This is anticipated to reduce the number of cases to be studied and should hopefully accelerate processes. 2.5 Regulatory agencies In order to control the potential transfer of public entities to the private sector, and to keep regulating and supervising the economy, the Brazilian State created various regulatory agencies for each branch. Banking and insurance sectors are regulated by the Brazilian Central Bank (BACEN - Banco Central do Brasil) and the SUSEP (Superintedência de Seguros Privados) respectively, while Brazilian Stock Exchange is under the authority of the CVM (Securities and Exchange Commission - Comissão de Valores Mobiliários). The IBAMA was created to deal with environmental issues, such as elaborating standards to limit pollution, making decisions on the localisation of industries and authorising various types of projects (hydroelectric dams for instance). The other main agencies in Brazil are: o ANEEL (Electricity)

12 12 Brazil Business and Taxation Guide o o o o o o o o ANATEL (telecommunications) ANP (oil and natural gas) ANTT (transport) ANAC (civil aviation) ANVISA (sanitation) ANS (health) ANA (water resources) ANCINE (cinema industry). 2.6 Control of international financial operations The Brazilian Central Bank (BACEN) is responsible for controlling financial relations with other countries. Any inbound or outbound financial operation must be registered in the dedicated Electronic Declaratory Registry (Registro Declaratório Eletrônico or RDE): Foreign Direct Investments in the RDE-IED (Investimentos Estrangeiros Diretos) Foreign investments in capital and financial markets in the RDE-Portfolio Debtor financial operations towards other countries in the RDE-ROF (Operações Financeiras). Debtor financial operations include financial loans, rent of equipment, chartering of vessels, etc. Individuals and legal entities intending to perform such operations must be personally registered at the Brazilian Central Bank (BACEN), in the Cademp (Cadastro de Pessoa Física/Jurídica, Residente/não Residente no País).

13 13 Brazil Business and Taxation Guide 3. Government incentives 3.1 Tax incentives Foreign investors may benefit from all tax incentives in Brazil, as there is no nationality restriction. Tax benefits may be granted by the States (a total of 26 plus the Federal District of Brasília), the Municipalities or by Federal organisations specific to each specific sector. It is important to note that it is mandatory to be established as a registered company in order to benefit from any kind of tax benefit. Tax Authorities usually grant the tax benefit to the main Federal Tax Number (CNPJ), i.e. the parent company. 3.2 Special Economic Zones Free-Trade Zones (FTZ) Investments may be performed in Free-Trade Zones, for example Manaus FTZ, North and Northeast regions, among others. Dependent on fulfilling certain conditions in relation to localised economic activities, production and/or consumption, foreign and residential investors may benefit from exemption or reduction of: Corporate income tax (IRPJ) Import duties Excise tax (IPI) Sales tax (ICMS) and Taxes on gross revenues (PIS/COFINS). Many government incentive programmes also offer low cost financing, which has been very important in relation to Brazil s high inflation and high bank interest rates. The main government financing entity is the BNDES (Banco Nacional de Desenvolvimento Econômico e Social). Manaus Free-Trade Zone (MFTZ) o 75% of reduction of IRPJ for 10 years (currently limited until 2023) o reduction of up to 88% of Import Tax (II) o exemption of IPI if locally consumed and/or produced o reduced ICMS tax rate o exemption of PIS/COFINS when importing in MFTZ o no PIS/COFINS on raw, intermediate and packing materials when buyer and supplier are located in MFTZ and acquired materials are used in a local manufacturing process o limited PIS/COFINS (mostly 3.65%) on sales of locally produced goods. Superintendence for the Development of Amazônia (SUDAM) & Northeast (SUDENE) o Independent agencies affiliated to the Federal government and providing reduction or exemption of income taxes, depending on their appreciation of projects in the North and Northeast regions Special customs regimes A few examples of special customs regimes in Brazil include:

14 14 Brazil Business and Taxation Guide Temporary Admission programme allows some imported goods to stay for a determined time and purpose in the territory without paying import taxes (mainly beneficial for exhibitions, commercial, cultural and sports events and rental transactions). Drawback regime involves various benefits. For instance, payment of import taxes such as II, IPI, ICMS, and AFRMM (Merchant Marine Renewal Tax) can be partially or totally suspended on goods which will be re-exported after being transformed, repaired or manufactured locally. The amount of exemption depends on the level of local manufacturing. Instead of being suspended, taxes may alternatively be paid first and then restituted after reexportation. Imported items must be limited to 40% of exported goods. Raw materials and components (mainly parts for aircrafts, vehicles and electronics),. If products are to be exported or sold to the domestic market, importation may be exempt from Federal (II, IPI and PIS/COFINS) and State taxes (ICMS) through the RECOF programme. Specifically for vehicles, the RECOM regime allows importation without IPI and foreign exchange. This covers materials and components destined for custom industrialisation of products ranked from 8701 to 8705 in the IPI rating Table (TIPI), for instance chassis, car body, spare parts and sub-assemblies, such as motors, components and accessories. Exploration of oil and natural gas - REPETRO is a special custom regime dedicated to the import and export of goods involved in the prospection and exploration of oil and natural gas deposits. It allows importation without incurring IPI, PIS and COFINS on raw materials, parts and pieces used in the production of such goods which are to be re-exported (drawback),or presumed so. Another benefit is exemption from IPI, PIS and COFINS on importation of foreign equipment for a temporary stay. Companies holding permits and authorisation for exploring oil and natural gas deposits may benefit from REPETRO. REPEX is another regime suspending the payment of taxes, allowing the import of crude oil and its derivatives when they are exported or re-exported. This programme is solely available to firms authorised by the National Petroleum Agency (ANP Agência Nacional do Petróleo) to import and export oil products. REIDI is a special tax regime relating to the Growth Acceleration Programme (PAC Programa de Aceleração do Crescimento). It is aimed at fostering Tax Environment investments and developing infrastructures by exempting the purchase of goods and services from PIS and COFINS. Entities involved in such projects must first be legally approved as part of the PAC (transports, harbours, energy, sanitation and irrigation sectors). 3.3 Fostering exports The import of goods that are not available in the Brazilian market may be subject to reduced import duties. Exports are encouraged through limited taxation on sales and, upon request and depending on the activity, exemption, deferment or suspension of taxes paid on purchases. Export sales may be further supported by utilising specific credit lines at beneficial rates. 3.4 R&D and green technologies Activities relating to Research & Development (R&D) may lead to several incentives, such as: Reduced IPI Accelerated depreciation for new equipment destined to R&D Accelerated amortization for capitalised R&D expenses and some intangibles.

15 15 Brazil Business and Taxation Guide Companies investing in green technologies may benefit from tax exemptions or reductions (PIS/COFINS, IPI, ICMS) on industries, operations or processes involving biodiesel, ethanol, solar and wind energy. Land can be obtained as capital grants from local governments Information technology According to the Laws n 8.248, and (Lei de Informática), legal entities involved in the production of computer hardware may benefit from a tax incentive reducing IPI on some goods by 80% or 95%, depending on where the company is located. The North, Northeast and Central-West regions typically offer higher reductions. To retain this benefit, firms must invest between 4.00% and 4.35% of annual revenues generated by the eligible products in R&D.

16 16 Brazil Business and Taxation Guide 4. Business organisations available to foreigners 4.1 Legal entities The incorporation of a subsidiary is the most common way for foreign investors to enter the Brazilian market. Registration with the Social Security System and the Federal, State and Municipal Tax authorities is compulsory and all types of legal entities may be adopted. The two most common legal structures used in Brazil are the LLC (Limitada) and Corporation (Sociedade Anônima). The main characteristics are briefly presented below: Corporate capital Partners Management Dividends Limitadas (Ltda) Sociedades Anônimas (SA) Limited Liability Company Corporation No minimum capital requirement.* Original full subscription and paying-up of 10% or more in cash. Full paying-up within 5 years or sooner in case of capital increase. Divided into quotas with fixed Divided into negotiable shares. price or different unit prices. At least two original quota/share-holders (resident or nonresident individual or entity), but the second can hold a minimal interest. Liability limited to contributions after full paying-up of the capital. Liability limited to contributions. Investors must empower a resident legal representative and get a taxpayer registration number (CPF for individuals and CNPJ for entities). Supervisory Board ( Conselho Fiscal ) is optional. Board of Directors (Conselho de Administração) is optional. Board of Directors (Conselho de Administração, three members at least, resident individuals and shareholders) is mandatory for publicly held corporations only. Management Board (Diretoria) with two members at least (resident individuals, not necessarily shareholders). Under the Brazilian Civil Code, non-proportional distribution of profits is authorised According to specific disclosure in the bylaws, shareholders have the right to receive a compulsory minimum amount of dividends. Common choice for firms with May be privately or publicly

17 17 Brazil Business and Taxation Guide Others few owners and no intention to raise public funds. Fewer administrative processes are required than for a corporation. held. Supervised by the CVM (Securities and Exchange Commission) in case of a SA publicly held. SA is necessary for financial institutions. * Except for specific sectors (financial sector) or situations (obtaining a permanent visa for an entity managed by a non-resident person). These legal structures give a foreign investor the opportunity to maintain more control on its activities in comparison to commercial agreements (see section 4.2). They also assist in limiting shareholders responsibilities for Brazilian operations (which is not the case for a branch establishment, considered as a dependent entity from the foreign parent company). Furthermore, to establish a branch of a foreign entity in Brazil requires special authorisation from the Ministry of Development, Industry and Commerce (MDIC). As a result of the many administrative processes, few companies select this route. 4.2 Commercial agreements Aside from legal structures, commercial agreement options, such as distribution or sales representation, offer many benefits. These include saving time and reducing initial investments, especially when compared to creating or acquiring a legal structure. For legal purposes, distribution agreements, in which the distributor takes possession of the products, should disclose: A precise definition of the products The delimitated area and exclusivity conditions The duration of the commercial relationship and Any advertising and trademark license issues. According to the Brazilian Civil Code, if no term has been agreed and disclosed at the outset, the agreement is considered to have an indefinite duration and can only be terminated by giving 90-days prior notice. In sales representation agreements (without transfer of ownership), foreign companies should protect any know-how, patent or trademark at the National Institute of Industrial Property (INPI). In both situations, these agreements may present legal risks. Both parties should address these at the beginning of the commercial relationship. This is equally true for operational issues, as the foreign entity may not have efficient control on the distribution policies locally applied by its distributor.

18 18 Brazil Business and Taxation Guide 5. Setting up and running business organisations Foreign investors must comply with the same tax, legal, labour, environmental and other regulations set for companies or individuals conducting business in Brazil. See the table in section 4.1, which outlines the legal formalities for establishing a Limited Liability Company and a Corporation. 5.1 Accounting and audit standards Brazilian GAAP and IFRS Brazilian accounting and audit standards have progressively been converging with the International Financial Reporting Standards (IAS/IFRS) for the last half-decade, although a few differences remain, including disclosure requirements and options allowed. The Brazilian Committee of Accounting Pronouncements (CPC), in charge of the conversion plan, translated almost integrally the international standards to create the new Brazilian standards (Brazilian GAAP or CPCs). To be granted legal effects, these standards are presented for approval or rejection to the Federal Board of Accountancy (CFC) and the regulation main agencies (CVM, SUSEP, ANEEL). Depending on the decision of these entities, rules are applied by each sector accordingly. In addition, standards cannot be contradict the Corporate Law. For example, in order to converge respectively with IAS 16 and 38, CPC 27 and CPC4 allowed the revaluation of fixed assets to fair value to the extent permitted by law, whereas the Brazilian Corporate Law no , amended by Law no , excluded the revaluation from its context, thereby leaving room for interpretation and consideration of the accounting principles. It s essential to note that the conversion plan is still in progress and that further evolutions will occur. For instance CPC 19 recently changed in order to adapt to IAS 31, by allowing both the proportionate consolidation and the equity method in Joint Ventures consolidation. Before that, only the proportionate option was permitted in Brazil. However IFRS 11 intends to replace IAS 31 from January 2013 and would only recognise the equity method. As a result, Brazilian standards will also evolve. All Brazilian financial statements must be prepared in compliance with Brazilian GAAP whatever the company s size, providing a true representation of the Company s performance. More specifically, listed companies, financial institutions and insurance companies must prepare their consolidated financial statements in full compliance with IFRS and their statutory reports in accordance with Brazilian GAAP The Equity method

19 19 Brazil Business and Taxation Guide Equity method should be used in individual financial statements, and not only as a consolidation method, when the investor has a significant influence on the management of the investment and the investment is relevant. 5.2 Audit requirements Financial statements for small and medium-sized enterprises (SMEs) are not required to be audited by an independent auditor, providing the SME is not a listed company, insurance company, investment fund or financial institution over the jurisdiction of the Central Bank. A SME is a legal entity or a group of entities under common control, whose total assets are below R$ 240 million or presenting an annual revenue below R$ 300 million. Annual financial statements of large companies must be audited by an independent auditor. A large company is a legal entity or a group of entities under common control, whose total assets are over R$ 240 million or presenting an annual gross revenue over R$ 300 million. Publication is only mandatory for corporations (SA), not limitadas (Ltda). Audit and publication requirements are compulsory for all listed companies, insurance companies, investment funds and financial institutions over the jurisdiction of the Central Bank. Quarterly financial reports are required for listed companies, financial institutions and insurance companies, and biannual audit reports are compulsory for financial institutions and insurance companies. SMEs whose annual revenue is below R$ 48 million can opt for a simplified corporate income tax regime, the Presumed Profit Regime. Under this regime, income tax is calculated on the basis of the gross revenue. To this extent, the quality and updating of the profit and loss below gross revenue is not a major stake for the income tax declaration. It is important to note that Brazilian tax authorities do not require audited financial statements, but some fiscal obligations must of course be respected, as covered in section Fiscal reporting obligations Brazilian companies are subject to multiple electronic and paper filings: SPED: public system of digital bookkeeping, which aims to replace paper copies of invoices and tax records with electronic files. SPED can be defined as an instrument that unifies reception, validation, storage and legalisation of records and documents that are part of the accounting and tax bookkeeping of companies, through a single computerised flow of data. Such documentation can comprise several accounting and tax books, such as the general ledger, the general journal, balances and trial balances, inflow and outflow books, inventory book, ICMS and IPI calculation registers, DIPJ, DACON, GIA, etc. The general ledger, the general journal, balances and trial balances must be annually transmitted by taxpayers to the SPED system by means of Digital Bookkeeping (ECD). Brazilian legal entities must file an annual corporate income tax return (DIPJ) generally by 30 June of the following calendar year. This filing includes information about the IRPJ, CSLL and IPI. When the IRPJ and the CSLL are calculated monthly, prepayments must be paid by the last working day of the following month. Any amounts of IRPJ and CSLL due for the year (exceeding the prepayments performed) must be paid by the last working day of January of the following year.

20 20 Brazil Business and Taxation Guide GIA (ICMS Calculation Information Form) and SINTEGRA (Integrated Goods and Services Interstate Operations Information System) must be filed monthly by the taxpayer. In the State of São Paulo, the GIA is due from the 16th up to the 19th day of the following month, depending on the final number of state registration ( inscrição estadual ). The SINTEGRA must be remitted to the State tax authorities before the 15th day of the following month. DACON (Demonstrative of Calculation of Social Contributions PIS/COFINS) must be filed monthly or twice a year by the taxpayer. The monthly DACON is due by the fifth day of the second month following the month of reference. The DACON must be delivered twice a year; once in October (in relation to the first business semester), and once in April of the following year (in relation to the second business semester). The DIRF (Declaration of Withholding Income Tax - Declaração do Imposto de Renda Retido na Fonte) must be filed by the taxpayer annually. For the 2011 calendar year, the DIRF had to be submitted by the 29 February Failure to comply with these fiscal reporting obligations could incur financial penalties.

21 21 Brazil Business and Taxation Guide 6. Corporate taxes and social charges The Federal Tax Code of 1966 and the Federal Constitution of 1988 define the main principles of the Brazilian tax system, whereby taxes are levied on taxpayers at federal, state and municipal level. The Brazilian Federal Revenue Bureau (RFB) is an entity of the Ministry of Economy (Ministério da Fazenda) and supervises the federal tax system. Smaller, similar agencies monitor the tax system in all of the states and main municipalities. Brazilian tax legislation can be viewed as quite complex. In addition to various collection levels, the many rules change frequently and taxation is relatively high. Accurate information, advisory and planning are essential in order to benefit from investment opportunities. 6.1 General principles The fiscal year always corresponds to the calendar year (1 January to 31 December). It is enforced by Brazilian tax law, regardless of the corporate year chosen by the company for reporting purposes. Apart from instances of fraud, where it does not apply, the statute of limitation for most taxes and social charges in Brazil is five years. Federal, state and municipal tax authorities may perform inspections, regardless of whether certain taxes or periods were already inspected. Tax legislation and jurisprudence gives the owner of the operating assets responsibility to pay current and previous taxes, as long as he/she retains the capacity to generate earnings from these assets. This means that entities resulting from transformation, merger and spin-off or exploiting a continuing business (despite being under a different name or proprietorship) will be liable for past tax obligations of the original entity or business. The tax clearance concept does not exist in Brazil. This means that the risk only ends when the statute of the 5-year limitation period has passed. Responsibility is generally transferred with the transfer of activity, irrespective of the legal form of an investment (asset deal vs. share deal). Unpaid tax liabilities, especially for Federal taxes are subject to interest generally based on the SELIC rate (Special System for Settlement and Custody) defined by the Central Bank of Brazil (as of May 2012 this was approximately 8.5% annually in May 2012). For State and Municipal tax liabilities, interest is usually based on the IPCA rate (Amplified Consumer Price Index) defined by the IBGE (Instituto Brasileiro de Geografia e Estatística). In May 2012, this was approximately 5% annually. Legal entities are also subject to penalties, which can range from between 20% (voluntary payment before tax inspection) up to 150% (in fraud cases), with an intermediary rate of 75% in cases of an assessment in the absence of fraud. The 75% and 150% rates can be halved if the taxpayer pays without any challenge and within a 30 days period following the assessment notification. 6.2 Corporate income tax Brazilian legal entities operating for profit are subject to corporate income taxes. These are divided into corporate income tax (IRPJ), and the social contribution on net profit (CSLL), at following rates:

22 22 Brazil Business and Taxation Guide Income tax rates IRPJ CSLL Total Applies to the whole 15% taxable income 9% 24% Applies to taxable 10% income above KR$ 240 / 10% Total 25% 9% 34% There are four taxation systems that can be applied to net income: Actual Profit tax regime (annually or quarterly based) Presumed Profit tax regime (quarterly based) Arbitrated Profit tax regime (quarterly based) SIMPLES Simplified tax regime (monthly based) Actual Profit tax regime The Actual Profit system is the general rule of profit taxation. It corresponds to the taxation of the accounting net profit after adjustments defined by the tax legislation (elimination of non-taxable revenues and reintegration of non-deductible expenses). In corporate regulation in Brazil, expenses must be necessary and relate to the company s operations in order to be deductible expenses. Most provisions for expenses or losses are not deductible upon booking, with the exception of provisions for vacation pay or 13th salary. All accounting records and details of the tax calculation must be kept in the Taxable Income Control Register (LALUR). Estimate payments to the annual regime should be made on a monthly basis (estimate), except if accumulated payments until the month previous exceeds the amount due in the current year. The Actual Profit tax regime allows tax losses to be carried forward. There are no time restrictions, but a carry forward is limited to 30% of the taxable income in that year. Carry backs are not permitted by Brazilian tax legislation Presumed Profit tax regime Companies with annual gross revenues below R$ 48 million (among other terms and conditions) can opt to tax a presumed net profit. This is determined as a percentage of the gross revenue earned. The actual percentage applied depends on the nature of the activity performed by the company, independent of whether the company has registered a net profit or net loss in the financial statements. Presumed Profit as a percentage of revenues Revenues Presumed profit for IRPJ Presumed profit for CSLL Sales of goods 8% 12% Services rendered 32% 32% Other revenues 100% 100% After application of the above percentages on revenues, the corporate income tax rates are applied to the presumed profit amount (25% for IRPJ and 9% for CSLL) Arbitrated Profit tax regime

23 23 Brazil Business and Taxation Guide If the accounting registers are not reliable, the tax authorities may arbitrate the taxable income applying the revenue percentages. These are similar to the Presumed Profit method, increased by 20% for IRPJ, resulting in: Arbitrated Profit as a percentage of revenues Revenues Arbitrated profit for IRPJ Arbitrated profit for CSLL Sales of goods 9.6% 12% Services rendered 38.4% 32% Other revenues 100% 100% After application of the above percentages on revenues, the corporate income tax rates are applied to the arbitrated profit amount (25% for IRPJ and 9% for CSLL) SIMPLES (simplified tax regime) The SIMPLES is a unified regime for the payment of Federal, State and Municipal tax and labour taxes. When utilised, this regime replaces all other payment regimes, except taxes on imports and financial operations. The tax rate applied varies from 4.0% to 22.9%, depending on the entity s activity and revenues. Only companies with annual gross revenues below R$ 3.6 million and operating in specific industry sectors, such as small businesses, small service providers, small industries and family companies may opt for this simplified tax system. Export companies that opt for SIMPLES may report up to R$ 7.2 million of gross revenues, providing the domestic revenues fall under the R$ 3.6 million limit Goodwill Amortization For Corporate Income Tax purposes, under certain terms and conditions, goodwill generated by an acquisition and relating to expected future profitability can be amortized over five years (or more) after the merger or reverse merger between the acquirer and acquired company. Before the merger, the goodwill is non-deductible. Intangible assets are not subject to amortization for tax purposes and are only tax deductible upon the sale of the respective asset or return to the shareholder. 6.3 Federal Social Contributions on gross revenues (PIS /COFINS) The PIS and COFINS are federal social contributions due on the monthly gross revenues, except export revenues, and are among other benefits provided for by Brazilian Corporate Income Tax law). Determining the rates and systems of PIS/COFINS varies according to: The regime adopted by the company for corporate income taxes, including Actual Profit, Presumed Profit, Arbitrated Profit and SIMPLES The nature of goods, trading operation or business performed by the company - the PIS/COFINS system can be cumulative or non-cumulative The cumulative system, generally applicable to companies that opted for the Presumed/ Arbitrated Profit, is based on a default tax rate of 3.65% (0.65% for PIS and 3.00% for COFINS), without the possibility of credits on purchases. The non-cumulative system, generally applicable to companies that adopt the Actual Profit regime, is based on a default tax rate of 9.25% (1.65% for PIS and 7.60% for COFINS), with

24 24 Brazil Business and Taxation Guide the possibility of credits at the same rate on purchases, services acquired and some expenses, as defined by legislation. In addition, there are some increased tax rates for certain industry sectors and reduced tax rates to incentivise other sectors defined by the Brazilian government. PIS/COFINS are also due on the import of goods and services, applying a tax rate of 9.25%, which is independent of the regime of taxation of income adopted by the company. With the exception of sectors granted specific treatment, the application of PIS/COFINS to gross revenues by the Corporate Income Tax option can be summarised as: Regime of taxation on income Actual Profit (PIS/COFINS noncumulative Presumed/Arbitrated Profit (PIS/COFINS cumulative) Domestic gross revenues 9.25% 3.65% Export gross revenues 0% 0% Financial revenues 0% 0% Interests on net equity 9.25% 0% Other revenues (nonoperational 9.25% 0% revenues) Sale of fixed assets 0% 0% Calculation of credits on acquisition of goods for resale or inputs Allowed Forbidden Illustrative impact of the tax regime on IRPJ/CSLL & PIS/COFINS P&L (services company) KR$ Actual Profit Presumed Profit Gross Sales (A) 1,000 1,000 Rates 9.25% 3.65% 3.65% (93) (37) Operating costs (700) (700) PIS/COFINS credits 42 Forbidden EBIT Financial Income Income Tax Rates 34.00% 24%x32%x(A) IRPJ/CSLL (92) (109) Net Income Tax Charge Regardless of gross sales thresholds or tax exemptions, the choice of the optimised tax regime should only be made while considering both PIS/COFINS and IRPJ/CSLL differentiated rates in each scenario. Indeed, higher PIS/COFINS rates in the Actual Profit tax regime may be counterbalanced by tax credits and a more beneficial income tax exposure, depending on profitability perspectives. Such an option can be updated in the beginning of each fiscal year, basing decisions on assessing the sales and profitability levels and depending on the company s activity. 6.4 Other Federal, State and Municipal taxes and contributions Tax on Industrialized Products (IPI)

25 25 Brazil Business and Taxation Guide The Federal tax on industrialized products (IPI) is levied on the sales of industrial products in the country, or on the importation of raw material, semi-finished or finished goods for production or resale. All types of products are classified in the IPI tax rates table (TIPI). Rates applied on the IPI tax base range from 0 to 300% (tobacco for example). Considering that this tax has a regulatory characteristic, the rates can be reduced by the government (by Decree) offering greater flexibility to incentivise determined industries. The IPI taxpayer can usually calculate IPI credits on expenses relating to production costs (for example, raw material, intermediate material and packaging material) Contribution for Intervening in the Economic Domain (CIDE) The CIDE is a Federal contribution levied on the importation of services in relation to technology transfers or specialist technical or administrative services. Usually, CIDE is due by Brazilian entities that hold a license of use or entities that have acquired technological knowledge (including agreements relating to exploitation of patents, brands use and technology supply and technical assistance services). The regular CIDE tax rate is 10% on the amounts paid or credited to beneficiaries abroad and the tax liability is due by the Brazilian entity Tax on Financial Operations (IOF) This Federal tax applies to: Credit and securities transactions (0 to 1.5% a day) Exchange and insurance transactions (0 to 25%, but 7.38% for the majority of insurance operations) Gold transactions (1%) performed trough financial institutions. Intercompany loans are subject to IOF as well (up to 1.5 % of the nominal amount) State Tax on Circulation of Goods (ICMS) The ICMS is a State tax levied on the importation of products and circulation of goods, interstate and inter-municipal transportation and communication services. As a State tax, the rates and its rules may vary in each State of the Federation (26 States and the Federal District of Brasilia). See section 9 for details) Municipal Service Tax (ISS) The tax on services of any nature (services tax ISS) is a Municipal and cumulative non-deductible tax which is levied on gross revenues of services rendered (except for communication services and intermunicipal transportation). The tax rates range from 2% to 5%, depending on the Municipality in which the company is established and on the type of services rendered. Under certain conditions, ISS may be due to the Municipality where the service is effectively performed (for example, on site works). Cities decide to apply a rate depending on services, but the rate is always between 2% and 5%. In the Municipalities of São Paulo and Rio de Janeiro, for example, ISS is calculated at a standard rate of 5% for the majority of services subject to ISS.