Brazilian transfer pricing legislation, in force since January 1997, has been changed to help businesses reduce the risk of tax contingencies; improve the management of its rules; reduce duplicate taxation; and optimise tax impacts through mechanisms of control of the strengths and weaknesses of the risks and opportunities related to it.
This legislation stipulates that all companies shall provide evidence of the adequacy of prices paid or charged in connection with import or export operations involving goods, services, rights as well as loan operations not registered with the Central Bank of Brazil (Bacen) performed between parties deemed as related or resident in countries that do not impose tax on income, have income tax lower than 20 percent or, finally, impose secrecy over the corporate structure, referred to as ‘tax havens’.
Although it also impacts other areas, the rules set forth in legislation for the computation of transfer prices are strictly of a tax nature, and define the maximum deductible costs/expenses allowed and the minimum revenue required to be recognised in purchases and sales with related parties, respectively. It also determines that the transfer pricing analysis shall be conducted by comparing the amounts disclosed in import and export operations’ documentation, referred to as prices actually paid/charged in import/export operations, with the so-called parameter prices, which are the costs/expenses or revenues determined by reference to one of the methods set forth in transfer pricing legislation and considered as fair market values. These analyses must be performed on a case-by-case basis, which means that every single product, service or right shall be analysed by itself.
Thus, when the price paid for a given product imported from a related party is higher than its parameter price, or the sale price charged for a given good exported to a related party is lower than its parameter price, the corresponding difference shall be added to the company’s Corporate Income Tax (IRPJ) and Social Contribution on Net Income (CSLL) bases.
The Brazilian law is not aimed at establishing the values that shall be disclosed in documents supporting purchase and sales operations performed between related parties; its purpose is to establish the maximum deductible costs, expenses and charges relating to related-party imports, as well as the minimum taxable revenues to be recognised by a Brazilian company in relation to related-party exports. In this matter, it is extremely relevant to stress the unpredictability to which Brazilian transfer pricing legislation is subject. In recent years, several amendments have been enacted by Brazilian authorities, ranging from minor changes to completely new calculation methods. Considering this changing scenario, every serious Brazilian company must constantly consult transfer pricing legislation and its amendments.
In global terms, the main differences between the guidelines from the Organisation for Economic Cooperation and Development (OECD) and Brazilian transfer pricing legislation are related to the demanded profit margins and the aggregate products’ strategy scenario. In Brazil, tax legislation stipulates pre-determined profit margins which, for many industries, have brought enormous extra tax burdens.
Another important difference is that Brazilian legislation stipulates that the minimum profit margin shall be reached by each product, good, service or right, and different profit margins shall not offset each other. Therefore, if a company reaches the minimum profit demanded for global operations, but fails to reach it for one specific product, there can be no equivalence between the margins and, consequently, the transfer pricing adjustment for this specific product must be added to the income tax base despite the company’s global profit margin. This scenario, for itself, should bring managers’ attention to the transfer pricing issue, in order to foresee and avoid massive tax impacts on their operations.
As a matter of fact, considering that Brazilian transfer pricing legislation is relatively new, tax inspection procedures have been substantially upgraded over the past years. Initially, it was a dilatory process, in which tax authorities were not certain about the documentation needed, or how to intersect the companies’ transfer pricing data with other taxes’ data.
More recently, the Internal Revenue Service has developed several instruments in order to modernise tax inspections, converting them into nimble processes, with the possibility of multiple intersections between all of the company’s data, using a vast range of apparatuses, like the SPED system, through which companies are obliged to make their fiscal information available on electronic means to tax authorities. It is important to stress the extension of the authorities’ inspection tools, of which the SPED system is only an example. Therefore, the documentation and strictness demanded by tax authorities have significantly increased nowadays.
Bearing in mind that global transfer pricing is designed to intercompany transactions’ values within the limits determined by local legislation as fair market boundaries, the effect of foreign exchange on these operations is extremely relevant, for it could over increase acquisition costs or over decrease sales revenues. This scenario is utterly applicable to countries like Brazil, which have experienced significant currency exchange variations over the past decade. For this matter, it is needless to reaffirm the companies’ transfer pricing strategies’ sensitivity to exchange variations, which demands an extra effort from these companies to promptly react to these variations.
However, some ambiguity remains regarding several aspects of the legislation. Therefore, competent tax authorities have, over the years, complemented the Brazilian transfer pricing legislation, by providing some Normative Instructions (IN) which describe the Internal Revenue Service’s interpretation of the law. These ambiguities are extremely relevant when analysing sundry adjustment possibilities, which could result in brutal divergences in the transfer pricing due tax value.
Under this scenario, it is particularly imperative for companies resident in Brazil to adopt proactive measures in order to predict and attenuate these effects. For that matter, a responsible measure must be aided by specialised transfer pricing professionals, in some level an independent review would add value and reduce or anticipate tax exposure, all together which ought to study its business and global operational structure, being able to analyse a considerable amount of complex information, indicating a solid path.
Brazilian transfer pricing legislation, by imposing high profit margins, generates even higher adjustments to the companies’ tax bases, adjustments which, if overlooked, will certainly represent a gigantic tax sanction during a tax inspection. This demands responsible forecasting and constant professional monitoring. Managing utterly means being always one step ahead.
Fernando Matos and Carlos Eduardo Ayub are tax partners at Deloitte, Brazil