Brazilian revenue service published rule on taxation of cross-border transactions.

Dear Clients,

Please be informed that the Interpretative Declaratory Act No. 05/2014 (“ADI 05/2014”), published by the Brazilian Federal Revenue Service (“RFB”), on 06/20/2014, revoked the Declaratory Act COSIT No. 01/2000, which determined, indistinctly, the taxation of cross-border remittances in connection with technical services and technical assistance agreements by the Withholding Income Tax (“WHT”).

The ADI 05/2014 reflects a change in the RFB understanding about the tax treatment applicable to income paid, credited, delivered, employed or remitted by Brazilian sources to non-resident individuals or legal entities in consideration for technical services and technical assistance with or without transfer of know-how, considering the application of the Double Tax Treaties (“DTT”) executed by Brazil.

According to the new rules, the taxation (or non-taxation) of the outflows of resources related to service agreements should be determined by applicable rules of relevant DTT,  as follows:

(i) the payment will be subject to WHT whenever the respective DTT’s protocol treats the technical services and technical assistance as royalties, under the provisions of Article 12 of the DTT;
(ii) the payment will also be subject to WHT whenever the execution of the services is related to the technical qualification of a person or a group of persons, under the provisions of Article 14 of the DTT; or
(iii) the payment will not be subject to WHT when it is not possible to qualify the income neither as royalties or of independent professional or personal services, under the provisions of Article 7 of the DTT.

The RFB has reversed its position about this matter mainly to reflect recent decisions of the Brazilian Judicial Courts about the non-taxation of services without the transfer of know-how. Also, a notice from the government of Finland which threatened to terminate the DTT executed with Brazil has influenced on the RFB’s decision to review the Declaratory Act COSIT No. 01/2000.

The aforesaid judicial trend came to prominence with the judgment of the so-called “Copesul Case” by the Brazilian Superior Court of Justice (“STJ”), in which the court ruled that remittances in connection with technical services were not subject to WHT in Brazil. This important leading case from STJ determined the application of the Article 7 (Business Profits) of the OECD Model tax treaty.

According to the STJ decision,  the expression “business profits” under a DTT should be understood as “operational profit”, which according to the Brazilian law includes the income arising from the provision of services. Therefore, such profits should be subject to income taxes only in the country where the service provider is located.

This new provisions were expected to some extent, considering that the Federal Attorney’s Office had already anticipated the need to review the Declaratory Act COSIT No. 01/2000, by means of the Opinion No. 2.363/2013.

In our view, the ADI 05/2014 states a change in the strategy of the RFB, in face of the judicial leading case on the applicability of the Article 7 of the DTT on the income arising from the rendering of services without the transference of know-how, which aims to maintain the taxation of such services based on the DTT’s protocols that treats the technical services and technical assistance as royalties.

In this aspect, it is worth mentioning that the concept of technical services is given by the RFB itself (Normative Instruction RFB No. 1,455/14), and not by Law. Such aspect may give to taxpayers an argument to challenge the criteria used by RFB to consider that a remittance arises from a technical service.

Therefore, a detailed case-by-case analysis of each remittances for the payment of services without the transference of know-how from Brazil to residents in DTT jurisdictions is advisable.

This tax alert has been prepared for information purposes only. The analysis of the factual background of each case is necessary for the issuance of our legal advice. Our tax team remain at your disposal for any clarification that may be necessary.

Please do not hesitate to contact us should you have any questions or need further information.

Best regards,

Mannrich, Senra e Vasconcelos Advogados.