What you need to know about the reform
On December 20th, 2023, Brazilian Congress enacted Amendment to the Constitution No. 132 (AC 132), which lays the constitutional foundation for a new model of VAT taxation in Brazil, confessedly inspired by the European model. The following are 15 objective questions and answers that help us understand the new model we will adopt.
- What is VAT taxation?
It is the taxation that affects the stages of the production chain of goods and services, whose economic burden is passed on at each stage and is supported, at the end of the chain, by the final consumer. “Consumption” taxation is generally opposed to “income” taxation and “equity” taxation.
For the first time since the 1988 Constitution, truly structuring aspects of VAT taxation in Brazil have been changed in a systematic, consistent and concomitant manner. That is why we are facing a true “reform”.
- What are the objectives of the Reform? Will they be reached?
As direct goals, the reform seeks simplification, reduction of the cost of tax compliance and tax transparency. As a consequence of all this, the intention is to achieve an improvement in the business environment in the country and economic growth.
Time will tell if these more mediate objectives will be achieved, but the more straightforward objectives will very possibly be: reform creates conditions for this.
Let’s think about the tax on manufactured products (IPI) aliquotes list, the State VAT Tax interstate differential rates (ICMS-difal) and Substitution (ICMS-ST), the long ICMS state regulations, the list of services subject to Tax on Services (ISS) and so many other factors that bring great complexity to our current system. Soon this will all be over.
- All in all, is the reform good for Brazil?
The answer to this question is markedly subjective, depending on the perspective of analysis and even one’s worldview.
It is a fact, however, that it is a model already successfully tested in other countries and that, although imperfect, it seems, in theory, capable of improving our current turbulent model.
- What are the structuring changes of the new model?
Our current model has five taxes on consumption: IPI, Pis and Cofins (Federal Government), ICMS (States) and ISS (Municipalities). All of them will be extinguished (a caveat in relation to IPI: in fact, it will continue to exist, but only to encumber competing products from the Manaus Free Trade Zone).
In their place, three new taxes are created: the Contribution on Goods and Services – CBS and the Selective Tax – IS, both from the Federal Government, and the Tax on Goods and Services – IBS, in an unprecedented experience of a shared tax between States and Municipalities.
IBS and CBS will be virtually identical. Both will be non-cumulative taxes, uniform throughout the national territory, with the same taxable events, the same taxpayers, the same tax bases, the same exemption rules and the same exceptions.
The IS will be a single-phase tax (levied on a single stage of the chain) with nonfiscal purposes (discourage the consumption of goods and services harmful to health or the environment).
- What are the main features of the new CBS and IBS?
Wide base:
They apply indistinctly to any goods and services, whether material or immaterial, imports, including leases, financial revenues, royalties, etc. The distinction between “goods” and “services” becomes irrelevant.
Full noncumulativeness:
All expenses pertinent and relevant to the taxpayer’s activity will generate credits to reduce the amount payable, including commercial and administrative expenses.
The only condition for this is that they are expenses on which taxes are levied – therefore, labor expenses, for example, will not provide credits.
Taxation at destination:
The IBS will be due to the State/Municipality where the final consumer is located. The harmful tax war to attract the entrepreneur ends, and another, more virtuous dispute begins to attract consumers.
No More Grossup
No tax will be part of its own base.
- With the enactment of AC 132 in 2023, will the new model apply in 2024?
No. All changes start as from January 2026. Economic agents will thus have the next 2 years – 2024 and 2025 – to learn about the new model and revisit their business plans.
From January 2026, the transition phase will begin, lasting 7 years. At this stage, the taxes of the new model are levied at increasing annual rates, while the current taxes are levied at decreasing rates.
In December 2032, the transition will be complete, and, in January 2033, the new model fully comes into force, becoming the only one in place.
- What are the next steps?
In 2023, the constitutional stage of the reform was concluded. In the next 180 days, Congress will have to comply with the infra-constitutional stage, approving a series of supplementary and ordinary laws to regulate very important – and also controversial – points of the new model.
It will also be necessary, throughout 2024 and 2025, to have the first group of the IBS Managing Board formed, a committee responsible for managing this tax.
- What is the rate of the new taxes? Is there a tax cap?
AC 132 did not set IBS and CBS rates. Each federative entity may freely set its own. That is, the rate may vary from one municipality to another, and from one state to another.
AC 132 also did not set a cap for the rates; more timidly, it provided only criteria for annual measurement of total tax collection during the transition, which may result in a reduction in the “reference rate” to be stipulated by the Senate; the reference rate, however, is not binding on federative entities.
Studies by the Brazilian Revenue Services point to a total rate (IBS+CBS) between 25.5% and 27%. It should be reiterated, however, that these taxes are non-cumulative and, therefore, each taxpayer will appropriate credits on expenses, calculated at these same rates.
The IS rate will be defined by the Federal Senate.
- Are there “winners” and “losers” in the new model?
Yes, possibly. Intellectual activities will have few credits to accrue, and should have an increase in tax burden, even at a lower than standard rate. Activities exempt from any of the current taxes (for example, sanitation and leases, in relation to ISS; distributed power generation, in relation to ICMS) will certainly also be more onerous in the new model.
- What happen to ICMS current tax incentives?
They will be reduced by 10% per year, from 2029, and will be extinguished in Dec/32, together with the ICMS itself. The Federal Government will set a BRL 160-billion fund to compensate beneficiary taxpayers for the reduction of incentives between 2029 and 2032.
In the new model, there will be no tax benefit of any kind.
- What and which are the “differentiated regimes”?
As a general rule, IBS and CBS rates will be uniform for all products and services. Differentiated regimes are the exceptions to this rule, with rates lower than the standard rate.
Every five years, the list of differentiated regimes may be revised and decreased (but not increased).
Tax rate 60% lower than standard
Health services, education, medicine, agricultural products and inputs, personal hygiene, urban buses and subways, food, among others
30% lower than standard rate
Intellectual activities supervised by professional councils
- What and which are “specific regimes”?
Specific regimes apply to seconomic sectors that do not harmonize with noncumulativeness, so they will be subject to specific rules, not necessarily more favorable than the standard rules of the new model.
The financial system, real estate activities, health plans, fuels and lubricants, hospitality, restaurants, regional aviation, among others, are under these regimes.
- Is the Simple Tax for Small Companies (“Simples Nacional”) over?
No, Simples continues to exist. Taxpayers opting for this regime may, at their choice, pay IBS/CBS (i) within Simples, without accruying credit on their purchases, or (ii) outside Simples, acrruying credit on their purchases.
Whatever the choice may be, the supplier opting for Simples will always provide credit to the purchaser who is not in Simples.
- What was left for the supplementary laws to solve?
So many things. The most important ones are to define:
- The concept of “destination” for IBS;
- Goods and services subject to IS;
- Cases of withholding tax;
- The operation of each specific regime;
- Detail the sectors with differentiated rates;
- The goods that are part of the food parcel (basic-needs groceries);
- People eligible for cashback;
- The deadline for reimbursement of tax credits;
- The rules of eligibility for the tax benefit compensation fund;
- The functioning of the IBS Managing Board and administrative litigation rules etc.
- Are there controversial or worrisome points of the reform?
Yes, plenty. For example: will the supplementary law be excessive when fixing the goods subject to IS? Will there be just a supplementary law for IBS and CBS? Will non-habitual sales be taxed by IBS and CBS? Will leases generate credit to the lessee? Will federal entities be free to set withholding obligations on the purchaser? How to reconcile withholding with taxes of a non-cumulative nature? Will the ancillary obligations of IBS and CBS be one or, at least, uniform? Will non-redeemable tax credit of Pis/Cofins be lost in Jan/27? During the transition, will IBS and CBS integrate the ICMS and ISS base? And what about Pis/Cofins and Pis/Cofins-Import? And will IS be part of ICMS and ISS base in the transition? Is the “ample” food basket really over?