Brazilian National Congress approves income tax reform preliminary text

By Carolina Becman, Senior Associate, Gaia Silva Gaede Advogados & Kassia Paulo, Senior Associate, Gaia Silva Gaede Advogados

The Brazilian National Congress approved on September 2 the preliminary text of the income tax reform (bill 2,337), which includes important changes from the original draft presented June 25.

According to the approved text, the corporate income tax (IRPJ) rate will be reduced from 15% to 8%, after the implementation of an additional “financial compensation for mineral exploration” (CFEM) 1.5% tax levied on the extraction of iron, copper, bauxite, gold, manganese, kaolin, nickel, niobium, and lithium.

There was no change to the additional 10% rate of IRPJ (if the net income exceeds BRL 20,000 per month).

The social contribution on net income (CSLL) rate will also be reduced by up to 1%, conditioned on the revocation of some tax incentives, such as the zero-rate applicable to piped natural gas, mineral coal, chemical, pharmaceutical and hospital products and the presumed credit to pharmaceutical products. If this scenario is maintained, banks, financial institutions, and companies, in general, will be subject to rates of 19%, 14% and 8%, respectively.

In addition to corporate income tax rate changes, another tax reform topic subjected to extensive discussion was the taxation of profits and dividends, which are currently exempt from tax.

The initial text established the levy of a 20% withholding income tax rate on profits and dividends paid to residents in the country and abroad and was severely criticized, but the approved text maintained the new levy to offset the reduction in other taxes. However, the applicable rate was reduced to 15%. Likewise, the bill also maintained the elimination of the possibility of deducting interest on equity (JCP) in the calculation of IRPJ and CSLL.

Additionally, the new tax levy will not include investment funds, amounts distributed by small and micro companies and companies taxed on the presumed profit regime with income up to BRL 4,800,000 (approximately USD 920,000), if they do not meet the corporate restrictions for qualifying for the simplified taxation system (Simples Nacional). 

Provisions regarding individual taxation were also altered.

Initially, the bill imposed a limit to the use of the simplified method, which would only apply to taxpayers with taxable income of up to BRL 40,000 (approximately USD 7,670) in the calendar year. Such limit was altered in the new text, and taxpayers who opt for the simplified method will be able to deduct 20% of income tax on the sum of taxable income, up to the limit of BRL 10,563.60 (approximately USD 2,025). The current limit is BRL 16,754 (approximately USD 3,212).

In this sense, although the new text established a higher limit in comparison with the initial text, the income limitation for the simplified method was maintained and the total deduction limitation will be decreased.

It is important to note that the approved text also includes other provisions on corporate and individual taxation, tax treatment of investment funds and tax incentives, but the most relevant changes from the initial proposal are the ones relating to the applicable IRPJ and CSLL rates and taxation of profits and dividends.

The bill will proceed to the Senate and can still be modified. If any changes are proposed by the Senate, the bill will return to the National Congress for analysis and a new voting round will occur. However, if the Senate approves the presented text, the bill will be sent to the President for sanction or veto.

Despite the effort to revise the bill to meet taxpayers’ expectations and complaints, the approved modifications were not sufficient to fully balance the new taxation of profits and dividends.

Therefore, it is safe to say that new changes to the current wording of the bill are probably going to occur and that income tax reform still has a long way to go before Presidential sanction.

—Carolina Becman is a senior lawyer with Gaia Silva Gaede Advogados. She has over seven years of experience working with tax consultancy at the national and international level, including tax planning. Carolina is focused on direct, indirect, and social security taxes and has participated in various tax projects involving financial and commercial transactions, corporate reorganization, transfer pricing, M&A operations and recovery of companies and groups.

—Kassia Paulo is a senior lawyer with Gaia Silva Gaede Advogados. She has over seven years of experience working with general tax consulting and focuses on tax planning, international and customs taxation. Kassia has a strong presence in projects of corporate reorganization, recovery of companies and groups, M&A operations, due diligence, transfer pricing, compliance with inspections by Brazilian tax authorities and assessment of credit recovery opportunities.