16 December 2009 marked the start of thin capitalisation rules in Brazil (Provisional Measure n. 472/09). The thin capitalisation rule is the first step towards future requirements of minimum proportions between debt and equity. Limitations apply on deduction of interest between Brazilian and foreign related legal entities. The new rule will increase the taxable bases of Income Tax (IRPJ) and Social Contribution on Profit (CSLL). Taxand Brazil investigates the key features of the new rules and how they impact multinationals.

The limitation for deduction of interest applies to loans obtained from:

1) related parties that are resident of or domiciled outside Brazil, according to the definition provided for under Brazilian tax law for the purpose of transfer pricing; or
2) an individual or legal entity that is a resident of or domiciled in a tax favourable country or location or that is under a favourable tax regime.

In the first situation, the interest can only be regarded as deductible from the taxable bases of the Income Tax (IRPJ) and Social Contribution on Profit (CSLL) if two conditions are met. The amount of debt should not exceed the following two limits, when applied together:

• two times the value of the equity interest held by the respective related company in the net worth of the Brazilian legal entity, considering each debt separately; and
• the total value of equity interests held by all related companies in the net worth of the Brazilian legal company, considering the sum of the debt transactions.

It is still unclear how these conditions will apply when the related company doesn’t hold equity interest in the Brazilian legal entity. This is likely to occur with companies under common control, which are then considered related companies under Brazilian Law. Provisional Measure No. 472/09 does not currently define how the debt limitation must be calculated in situations where businesses have branches, affiliates, consortium members etc.
 
The second situation refers to loans obtained by a Brazilian legal entity with an individual or legal entity that is a resident of or domiciled in a tax favourable country or location, or that is under a tax favourable regime. Interest can only be regarded as deductible from the taxable bases of the IRPJ and CSLL if the (accrued) interest relates to a certain amount of debt that does not exceed 30% of the net worth of the legal entity, taking into account:

• each debt separately; and
• the sum of debt transactions.

“Debt”, for the purposes of the above, comprises all of the forms and terms of financing, regardless of the registration of the respective agreement with the Brazilian central bank. This includes the transactions in which the related company (or the company that is a resident of or domiciled in a tax favourable country or location, or that is under a favourable tax regime) does not act as creditor, but, instead, as co-signor, guarantor, attorney-in-law, or intervening party.

Transfer pricing rules existing under Brazilian tax law remain applicable, together with the new limitations for the deduction of interest addressed above.

Taxand’s Take
Many multinationals operating in Brazil finance their subsidiaries with debt. From now on some of these finance structures may be affected by thin capitalisation rules and as a result incur additional tax costs. Taxand recommends that multinationals review the financing structures adopted by their Brazilian entities to ensure they maximise tax efficiencies, whilst also taking into account the requirements of their global operation.

Your Taxand contact for further queries is:
Silvania C. Tognetti
T: + 55 11 2179 4542
E. sct@bmatax.com.br

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