How much cheaper are Brazilian imports after the Supreme Court tax ruling

NOTE: You may also want to see How to calculate Brazilian Import Costs

I was about to write a post commenting the recent decision of Brazilian Supreme Court, which altered the calculation of one of the taxes over imports. 

But I have read the article below, written beautifully by Mr. Arnaldo Bleuez, with whom I have been working lately, and decided to post it here unabridged. 

Mr. Bleuez is  British Chartered Accountant and alumnus of PricewaterhouseCoopers, is currently a partner at Bleuez  & Partners consulting, dealing on Finance, Taxes, and Business Opportunities. His accountancy firm is based in Brazil.

You may reach him at arnaud@bleuezconsulting.com.   More detailed contact info at the end of the post. 

I should add that the decision is not valid for everyone (it is not erga omnes). Each importer must look for the courts in order to have the calculation of PIS/COFINS reevaluated for its own imports

The article below focus exclusively on the impact of the elimination of the State Tax (ICMS) from the calculation of PIS COFINS over imports. The total tax reduction would be slightly larger than the one indicated at the end, due to some other adjustments in the calculation that were also included in the ruling.

The impact of the STF decision on excluding ICMS

from the base of calcuation of PIS and COFINS for exports to Brazil

INTRODUCTION

On 20^th March 2013, the STF (Supremo Tribunal Federal) has decided that the inclusion of ICMS within the base of calculation of PIS and COFINS for exports to Brazil is unconstitutional. As a consequence, exporters to Brazil may expect a decrease of the tax burden.

That sounds good, but we still need to know how relevant is this decision for exporters to Brazil?

This demonstration intends to explain to our clients and prospects how this change will impact the overall tax burden.

NUMBERED DEMONSTRATION

Let’s start with a calculation of the overall tax burden for an exporter to Brazil. It’s complex.

Here is an illustration with an example of a pharmaceutical product:

Importation of a laboratory / pharmaceutical product (NCM code: 3926.90.40) into Brazil:

customs value:            100

currency:                     Euro

rate of ICMS:             17%

TEC (or II):                            18%

IPI:                             10%    

PIS:                            1.65%

Cofins:                        7.6%

II (Tax on Imports, ‘Imposto sobre Importaçao’)

IPI (Tax on industrialized products, ‘Imposto so bre Produtos Industrializados’)

PIS & COFINS: social contributions

Result of this simulation in Euros:

The basis for the calculation of the II is the customs value.

II: 18% * 100 = 18

The basis of calculation of the IPI is the customs value, plus the II.

IPI: 10% * (100 +18) = 11.8

PIS and COFINS are calculated based on: VD, ICMS, PIS and COFINS! To calculate PIS and COFINS, it is first necessary to calculate the ICMS.

ICMS is calculated on the basis of VD + II + IPI + ICMS + other (in this example, other = 0):

ICMS = 17% (100 + 18 + 11.8 + ICMS + 0)

ICMS = 17% (129.8 + ICMS)

ICMS = ICMS 21.96 + 0.17

ICMS 0.83 = 21.96

ICMS = 26.46

PIS:                 1.65% * (100 +26.46 + COFINS + PIS) = 2.30

COFINS:        7.6% * (100 +26.46 + COFINS + PIS) = 10.6

List of calculation above

II                     18%

IPI                  11.8%

ICMS              26.46%

PIS                  2.3%

COFINS         10.6%

TOTAL         69.16%

This calculation above does not take into account related expenses (freight, insurance, etc..).

As a consequence of the decision taken by the STF, ICMS (26.46 in our example) must be taken away from the basis of calculation of PIS and COFINS. Let’s see the impact :

PIS:                 1.65% * 26.46            = 0.44% to be taken away from PIS

COFINS:        7.6% * 26.46              = 2.01% to be taken away from COFINS

List of calculation above

II                     18%

IPI                  11.8%

ICMS              26.46%

PIS                  1.86% (2.3 – 0.44)

COFINS         8.59% (10.6-2.01)

TOTAL         66.71%

CONCLUSION

Following the SFT decision, one can expect a decrease of 2.45% on the tax burden (69.16 – 66.71).

This 2.45% result is correct for a 17% ICMS. It will different if your rate of ICMS is different.

This is good news for all companies exporting to Brazil and subject to ICMS.

The Federal Government still needs to comment on this decision and apply this it. There are also some doubts about the possibility of asking for a reimbursement of the excess of PIS and COFINS paid by exporters during the previous years.

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Arnaud BLEUEZ

Chartered Accountant - Partner

11 9 5610 5550

arnaud@bleuezconsulting.com

Skype : arnaud.bleuez

Taxation of software importation by end users in Brazil

UPDATE: A lot has changed since this article has been published. Specially, the more widespread use of SAAS  and simple licensing, instead of tailor made software. 

Please read Reduction in the Brazilian taxation of imported services - if you are from the right country

I have published an article about that at Alternative Latin Investor, an excellent magazine.One of the questions I have been receiving a lot lately is how to sell/import software to Brazil.

I hope it helps you to understand at least part of the regulations. You will find a link to download the article at the end of the post.

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As Brazil watches the growth and professionalization of the retail industry, especially regarding big players such as supermarket chains and drugstores, a second phenomenon can also be noticed. The use of management, ERP, logistics and financial software is also growing.

The reasons are many, but above all the need for gains of scale and efficiency.

Brazil produces a good part of the software consumed here. But the importation of computed programs or managerial systems is also common. This article will describe how those imports are taxed in Brazil. This article aims at the importation by the end users, and will not detail taxation over distributor or master licensees.

1.        IMPORTATION OF TAILOR MADE SOFTWARE X OFF THE SHELF SOFTWARE

1.1         General thoughts

In what comes to software importation, the taxation will depend on the nature of the software. As in the rest of world, software in Brazil can be classified either as an off the shelf program, that is, a software which is not specifically designed for a customer’s requirements, or as a custom made software, designed for a specific client, according to its needs.

Off the shelf software is classified as regular merchandise, and is subject to the same import taxes as any other product: Import Tax, IPI (industrialized products tax), PIS Importação, COFINS Importação and ICMS (state VAT). All duties shall be collected when the product is cleared at the customs.

After some debate, nowadays both courts and the Federal Revenue Service understand that off the shelf software shall be treated as if medium and program were a single unit.  This means the duties will be assessed over the aggregate value of the software plus the value of its medium. That is, the price of the software and the price of the DVD or pen drive which contains it.

The treatment of off the shelf software as a regular merchandise is valid even for software imported through download, without any material medium. This situation stirred debate a few years ago, but is now pacified.

On the other hand, tailor made software has been understood by Brazilin courts as a special kind of service. Thus, it is taxed as services are. Instead of collecting Import Tax and IPI, it is taxed by the Federal Income Tax.  Instead of paying State VAT, it is taxed by the City tax on services (ISSQN, or simply ISS). Both social contributions (Pis-Importação and Cofins-Importação) are still applicable. Finally, technical services are subject to a special contribution called CIDE, which is very similar to the Income Tax.

Another difference is that taxes must be collected when the payment is made to the service provider. There is no need for customs clearance.

One should also notice that, if the service provider (the software developer or seller) is located in a country with which Brazil maintains a non double taxation agreement, the payment of the income tax in Brazil may be eliminated. More on that later.

1.1.1   Actual taxation of off the shelf software.

Off the shelf programs shall be taxes as any other commodity. As a general rule, this kind of product is classified under subchapter 85.23 or 85.24 (media for recording) of the Harmonized System, even if the importation is made via download, without the actual physical media.

Since this article is too short to cover the taxation in detail, it suffices to say that the final price in Brazil, after applying all import duties, could easily reach about 1.85 to 1.93 times the FOB price, considering importation through a hard medium.

If importation is made through download, the lack of international freight, insurance and customs brokerage costs might reduce this ratio to 1.80 times the FOB price.

1.1.2   Custom made software

Tailor made software is regarded as a special kind of service. Its taxation is outlined below:

IRRF (Income Tax)	15%*
CIDE	10%
PIS/Importação	1,65%**
Cofins/Importação	7,6%**
ISSQn  (Service Tax)	5%***
IOF (Tax on the exchange of foreign currency)	0,38%

*In case of payments made to Tax Havens, taxation will be 25%.

**Both Pis-Importação and Cofins-Importação are calculated over the software value, plus the ISS, plus the value of PIS and Cofins themselves (calculation on the inside). In consequence of this, the final value due is superior to the percentage indicated here. The Brazilian Revenue service has published a mathematical formula that defines the right way to calculate them.

***Service tax varies according to each city. It may be anywhere between 2% and 5%.

After due calculation, taxes above will amount to about 42% of the software value. That is, the final cost for the end user would be about 1.42 times the original price.

Please notice that the purchase of software developed in Brazil are subject to a taxation of about 8% (factor of 1.08 the original price). This reflects the Brazilian policy of favoring foreign direct investment instead of importation.

It is important to highlight that, if the custom made software is imported through a physical medium, such as a CD, then it must be subject to clearance at the customs. Also, the physical medium will be subject to import duties, calculated solely on the value of such medium (e.g. a 2 dollar CD-ROM).

Although the taxation of the physical medium is neglectable, the procedures to obtain clearance are troublesome and demand specialized help. Therefore, the use of download is recommended.

If the end user gets access to the source code, and not only acquire a license to use the software, the operation may be considered as transference of technology that must be filed before the Brazilian Institute of Intellectual Property (INPI).

Federal courts have recently decided that payments remitted abroad for the payment of services rendered by foreigners shall be exempted from Income Tax, as long as the supplier is located in a country that keeps tax treaties with Brazil, and provided that the foreign supplier does not keep any permanent business establishment in Brazil.

Unfortunately, the Federal Revenue Service has not updated its policies to reflect the Federal rulings. This means that, more often than not, the importer will have to collect the Income Tax and request a refund later, either before the Revenue Service or before a Federal Court.

In spite of the trouble, the economy of 15% usually makes it worthwhile pursuing the lawsuit.

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Adler Martins has teamed up with Alternative Latin Investor (ALI) to contribute to their cutting edge coverage of Latin America .  ALI’s newest issue, August/ September 2012, takes a look at the retail sector in Latin America.

Click here to read Adler’s article “Software Importation by End Users in Brasil” in Alternative Latin Investor:  

About Alternative Latin Investor: ALI is the first digital and print publication to offer highly coveted information and actionable analysis regarding alternative investments in Latin America. Topics include Wealth Advisory, Commodities, Forex, Private Equity, Wine, Art, Regulation, Philanthropy, Hedge Funds, Agribusiness, Renewable Energy, Emerging Markets and Real Estate.

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