Originally published in the June 19 edition of World Tax Daily (Copyrights Tax Analysts)
A subtle change to the wording of a Brazilian legal provision may have broadened the definition of low-tax jurisdictions with potential adverse consequences to taxpayers conducting transactions in those locations.
Article 29 of Provisional Measure 449/2008 — eventually converted into article 30 of Law No. 11,941/2009 — changed the wording of article 24-A of Law No. 9,430/1996, expanding the definition of low-tax jurisdictions for transfer pricing and withholding tax purposes.
Background
On June 24, 2008, articles 22 and 23 of Law No. 11,727/2008 introduced major changes to provisions dealing with transfer pricing and low-tax jurisdictions.
Article 22 of Law No. 11,727/2008 extended the definition of a low-tax jurisdiction to include countries and locations with legislation that does not provide access to information about the corporate structure of legal entities, their ownership, or the identification of the beneficial owner attributed to a nonresident.
Article 23 of Law 11,727/2008 added article 24-A to Law 9,430/1996 to make the transfer pricing rules applicable to any transaction subject to a special tax regime in the country where the transaction was conducted, even if the parties were unrelated. At the time, the following factors characterized a tax regime as a special tax regime sufficient to trigger the transfer pricing rules:
- it does not tax income, or taxes it at a maximum rate of 20 percent;
- it grants tax breaks to nonresident individuals or companies without requiring substantial economic activity in the country or location at issue, or based on the condition that there is no substantial economic activity in that country or location;
- it does not tax foreign-source income, or taxes it at a maximum rate of 20 percent;
- it does not allow access to information about the corporate structure of legal entities, the ownership of assets or rights, or economic transactions.
At the time Law No. 11,727/2008 was enacted, many tax practitioners argued that the characterization of a place as a low-tax jurisdiction under the aforementioned rule would require the cumulative presence of all four factors because of the absence of the word “or” after the third factor.
If that were the case, it would be very difficult for tax authorities to characterize any place as a low-tax jurisdiction because taxpayers would have to show the absence of only a single factor to exclude a case from the transfer pricing rules and the 25 percent withholding tax generally applicable to transactions involving low-tax jurisdictions. (The normal withholding rate is 15 percent.)
Article 30 of Law No. 11,941/2009 ended the controversy by changing the wording of the law. It now defines a special tax regime as any regime that presents one or more of the four factors listed above.
The change makes Brazilian tax authorities’ work easier because they have to document the presence of only a single factor to subject a transaction to the restrictive transfer pricing rules and the 25 percent withholding tax.
The point now is to determine the effective date for the new definition. When introducing the special tax regime concept, Law No. 11,727/2008 provided that the new concept would apply as of January 1, 2009.
If that position is adopted by the tax authorities, taxpayers could argue that because the new wording creates a new form of taxation, it can be levied only from the calendar year following the year that the relevant legislation is published in the official gazette (in this case, starting in 2010).
David Roberto R. Soares da Silva