BRAZIL
Luís Eduardo Schoueri[*]
Ricardo André Galendi Júnior[**]
- Preliminary Remarks
Brazilian legislation does not define avoidance, tax planning, abusive tax planning or aggressive tax planning. Neither is there clarification on the issue in administrative regulations. Despite the pressure by international organizations as to develop domestic mechanisms to confront abusive tax behaviour and the increasing demand of the Government for tax revenues, Brazilian tax authorities have failed to come up with a domestic law solution compatible with the National Tax Code. This statement does not mean that the Brazilian authorities have failed to combat tax avoidance, but rather that it has carried out such crusade by means whose legality is quite questionable.
The present report, after briefly addressing the approach of tax authorities towards tax planning, provides a general perspective on some of the Brazilian Special Anti-Avoidance Rules (“SAARs”), as well on the current Transfer Pricing (“TP”) legislation. Finally, it addresses the interaction of the current Brazilian approach on tax avoidancewith TP rules and SAARs, based not only on legislation but also on the guidance provided by the case law.
- The Meaning of Avoidance and Aggressive Tax Planning and the BEPS Initiative
For a long time, tax planning debates in Brazil were based in a mostly formalist approach. Until mid 2000’s, the jurisprudence of the Brazilian Administrative Council of Tax Appeals[1] (ConselhoAdministrativo de RecursosFiscais – “CARF”[2]) traditionally resorted to the legality argument in order to adopt a formalist approach with respect to tax planning. Transactions whose formal profiles were in accordance with the applicable laws were usually considered as undisputed, even if they could eventually lead to lower taxation and irrespective of the existence of purposes other than the tax related ones.
This approach was an outcome of the then prevalent position among scholars regarding the interpretation of tax law. Tax planning were judged on the basis that, if no specific legal concept were applicable to the case, the structure would be legitimate. Indeed, Brazilian scholars have historically rejected the application of an “economic interpretation”, as it would supposedly “destroy what is legal in tax law”[3].
II.1. Complementary Law No. 104/2001: the Amendment to the National Tax Code
In 2001, the National Tax Code was amended, and a paragraph was added to its Article 116 as to allegedly provide for a General Anti-Avoidance Rule (“GAAR”). The provision included by Complementary Law No. 104, enacted on January 10, 2001, reads as follows:
The administrative authority may disregard acts or legal transactions carried out with the scope of dissimulating the occurrence of the tax event or the nature of the elements which constitute a tax obligation, as per a procedure to be established by ordinary law.
The intention of the Government with such a provision was to support the enactment of a GAAR. As per the Brazilian Federal Constitution, a Complementary Law, which requires an absolute majority for its approval, is a requisite for the enactment of general rules on tax law[4].It is clear that an ordinary law, approved by a simple majority, would not be the adequate vehicle for a GAAR.
Indeed, the explanatory memorandum following Bill of Complementary Law No. 77/99, later converted into Complementary Law No. 104/01, stated that the inclusion of the sole paragraph inArticle 116 was “necessary to establish, in Brazilian tax law, a rule allowing the tax authority to disregard legal acts or transactions carried out within the aim of avoidance”, thus corresponding to “an effective instrument to combat tax avoidance schemes implemented by means of abuse of forms or abuse of law”[5].
Similar statements were addressed in the course of the debates held in Congress. As put by the congressman who reported the project, the proposed ruling dealt with the “inclusion, in the National Tax Code, of a General Anti-Avoidance Rule”[6]. Being “broad and ambitious”, the provision was intended to “avoid or diminish the effects of the so-called tax planning carried out by companies and of their attempts to avoid taxes, which jeopardize their ability to pay, the isonomy and the competition”. Furthermore, it was mentioned that the provision attributed “considerable powers of interpretation and decision to the Revenue”[7]. According to another congressman who spoke during the debates, “the theme dealt with by the project is the anti-avoidance rule, which is a simple provision that allows the Federal Revenue to annul any and every legal act or transaction undertaken within the scope of dissimulating the occurrence of a taxable event”[8].
Albeit clearly oriented, these explanations are misleading. If those were the intentions, unintended results were achieved, due to the problematic wording of the rule.In fact, many were the authors who pointed out the inaccuracy of the expression “dissimulating”[9] for purposes of enforcing a GAAR, since the wording adopted therein indicates that the legislator rather resorted to a concept solely related to sham transactions instead of establishing a rule with broad standards[10]. In this sense, the only reasonable interpretation to this Article would be that the provision allows the tax authorities to disregard sham transactions in order to consider, for tax purposes, the actual transactions, i.e., the “dissimulated transactions”[11] carried out by the taxpayer. If Complementary Law No. 104/01 intended to provide for a GAAR, it is not an exaggeration to qualify the wording of the provision as a “monumental mistake”[12].
Hence and despite the declared intention, it is reasonable to understand that the provision does not support the application of “substance over form”, “business purpose” or “abuse of law” doctrines, since these may not be inferred from the Brazilian sham doctrine, and are not even related to it.
While an institute referred to as “abuse of law” may be found in French legislation, and Germany has for long introduced the notion of “abuse of legal structures”, the Brazilian tax system has never adopted or endorsed these institutes.
Moreover, there is no doubt left that the provision demands further regulation in order to become applicable. Such condition was also clear during the legislative process, in which, as per an opinion issued by a Senate congressman, it was concluded that the provision allowed “the tax authority to tax sham transactions”, but was “not self-applicable”, since it required “that an integrative rule sets the limits to the exercise of the prerogative attributed to the tax administration”[13].
II.2. MP 66/2002: the rejection of the regulations on tax avoidance
Despite the serious concerns with respect to the provision, its wording has been interpreted broadly both by some scholars[14], in whose opinion the paragraph would have a meaning not related to traditional private law concepts, and by the Government, which proposed controversial regulations to the sole paragraph of Article 116.
These regulations, which brought concepts going far beyond the scope of the Brazilian sham doctrine, were immediately rejected by the Parliament.
Indeed, Provisional Measure (“MP”)[15] No. 66 was enacted by Government in 2002 with the purpose of fulfilling“the requirement set forth by the sole paragraph of Article 116 of the National Tax Code”[16]. In its Articles 13 to 19, this provisional statute provided for situations in which the administrative authority could disregard legal acts or transactions carried out by the taxpayer. Such provisions, allegedly consistent with the concepts set forth in countries that have successfully regulated tax avoidance, aimed situations that, “whilst licit, pursue a more favorable tax regime and involve abuse of forms or lack of business purpose”[17].
Article 14 of Provisional Measure No. 66 included expressions such as “lack of business purpose” (defined as “the option for a more complex or more expensive form, between two or more forms available for the taxpayer”) and “abuse of forms” (described by the statute as “the indirect act which produces the same economic result as the dissimulated act or legal transaction”).
According to Article 62 of the Federal Constitution, Provisional Measures are enacted by the Government and are subject to a posterior analysis of the Congress, which may reject or accept the Measure. Only in the latter case, it is converted into an ordinary law. As the Congress rejected Provisional Measure No. 66/02, the sole paragraph of Article 116 has never been regulated, and, therefore, is not applicable, as it expressly requires further regulation.
Previously to the rejection by the Congress, the Brazilian Federal Revenue had issued a statement clarifying that the regulation would “include Brazil among the countries that offer a normative solution to tax avoidance and tax planning”. Accordingly, “such countries have in common a strong democratic tradition and the respect to individual rights”[18]. If, at that time, one would read such statement as an assertion of the democratic values observed by the institution, later it became clear that the clarification was actually a warning: either would Congress pass the “democratic” solution or would the Revenue resort to the authoritarian one. As the Provisional Measure was rejected, the Executive Branch made clear thatit had no intention of maintaining the former formalist tradition.
II.3. CARF’s Approach towards tax planning
One reasonably expected that the rejection of the above doctrines by the Congress would be a benchmark for the definition of the current legal status of tax planning in the sense of enforcing the legality argument then adopted by CARF. Instead, however, there was a movement of the court towards a “substance over form” approach, whereby doctrines such as “business purpose” and “abuse of law” began to be invoked by the judges in order to disregard transactions undertaken by the taxpayer in which no other reason than the tax reduction could be found.
Why was there such a change? Some authors speak of a “formalism crisis in Brazilian tax law”, credited to the raise of the “consciousness that the creativity must be privileged, but it is important to react against the mere trickery of those who want to take advantage as if each individual lived isolated, with the world at his disposal”[19]. Without a sound tax policy and clear legal statutes, however, it is hard to infer against which “trickery” the tax administration is reacting, and the taxpayer became subject to the tax administration’s arbitrary judgment. In fact, enormous uncertainty broke loose.
At first, considering the lack of legal basis for applying such doctrines, the Court would jeopardize private law concepts, in order to mask its actual intent of applying the regulations once rejected by the Congress.More recently, however, CARF issued a decision in which it directly applied the business purpose doctrine, expressly denying it was the case of sham.
In brief, the business purpose argument, notwithstanding the lack of regulation in Brazilian law, has been taken into account by CARF, sometimes under the label of sham (which, if confirmed, would not be acceptable against the tax authorities), sometimes with no legal basis at all.
I.3.1 The misuse of private law concepts and the introduction of the business purpose doctrine
The misuse of private law concepts, namely the sham doctrine, as to address economic considerations is a confusion that has been observed in jurisdictions that lack GAARs[20]. It has been reported that, certain jurisdictions, absent an anti-avoidance legislation, “succumb to temptation and make use of sham transaction doctrines or rules in order to correct these situations”[21]. In such countries, “the concept of sham/simulation tends to be extended beyond the private law concept”[22].
This conclusion suits the Brazilian experience, where the concept of sham has been deeply jeopardized by the tax administration. As per the new approach, CARF started to question, e.g., which would be the business purpose justifying the merger of a profitable company into a loss-making one[23].
This is not to say that the sham doctrine is not a valid tool to counter abusive behavior. Much on the other hand, whenever the transaction is surrounded by malicious inveracities, it ought to be ineffective against the tax administration. The inconsistency rather lies in the misuse of the doctrine, namely where no legal grounds are able to support the disregard of a valid tax related transaction undertaken by the taxpayer.
The business purpose argument became usual in cases involving transactions carried out for the amortization for tax purposes of the goodwill accounted on the acquisition of investments[24]. In this respect, one may see the decision handed down by occasion of the judgment of the so-called “Carrefour case”, in which it was observed that:
From the description of the facts and proof elements in the process one may note the absence of any business or corporate purpose in the merger undertaken, being characterized the utilization of the merged company as a mere “conduit company” so as the goodwill could be transferred to the merging company, with the sole purpose of reducing the taxable gain resulting from the sale of the premises to Carrefour. (…) In my opinion, the case should be qualified as sham, followed by the application of the penalty.[25]
The excerpt transcribed above is symptomatic: whilst the lack of business purpose – which does not count on legal ground in Brazilian legal system – revealed itself as the main reason for the rejection of the tax planning, the judge ended up basing his interpretation on the private law concept of sham, which does not bear any link to the above doctrine rationale. In other words, the transcriptiondemonstrates the court’s will in masking, through concepts provided by private law, the application of doctrines which currently are not supported by Brazilian tax legislation.
The same reasoning may be inferred from other decisions. It has been argued, for instance, that “[t]he transfer of participation by means of a sequence of corporate acts configures a sham, if such acts have no purpose other than carrying out such transfer”[26].
Surprisingly enough, even attempts to define the business purpose regardless of any legal basis may be found in CARF case law. It has been said that “the business purpose is not related to the existence of employees, offices or other material elements, but to the actual presence and performance of the business considered”[27].
In this case, though, the court has correctly handed down that the characterization of a sham deviating from its private law profile – where no concerns as regards the tax outcomes of the transaction are raised at all – would “only be possible through the application of the provisions of the sole paragraph of Article 116 of the Tax Code, what currently – due to the lack of specific regulation – cannot be done by the tax agents”. On the other hand and in spite of these considerations, the judges observed that the “business purpose” had been “duly proved” in the case, as if these criteria would be of relevance.
I.3.2 The Lupatech case and the incoherencies in the Court’s reasoning
In a final development on its way towards substance over form and the like doctrines, CARF has already resorted to the business purpose argument irrespective of any consideration as to a sham transaction and even recognizing its absence in the case.
When analyzing a transaction triggering the amortization of goodwill, the court concluded that it was not the case of sham:
There is no sham if the acts carried out are licit and coherent with the private law institutions adopted, and the taxpayer takes on the charges and consequences of the legal structure he adopted, even if motivated by tax reasons[28].
However, the judges still deemed the transaction invalid, considering it “artificial” due to “the lack of business purpose”. The court found that the sole intent of the transaction was to “diminish the tax burden over the transaction effectively carried out”. The leading opinion also considered that the company had no “headquarters, operational structures, employees, or operational activities”.
If, on the one hand, the court reasonably ascertained that the sham doctrine is not an adequate basis for business purpose or substance over form considerations, on the other hand it decided to “disregard the transaction for tax purposes” instead of validating the taxpayer’s structure. Sham considerations were left behind and the court relied solely on business purpose and economic substance arguments, as if their legal grounds were self-evident. That is to say, while expressly stating that no sham was to be found in the transaction, the court deemed the structure invalid by resorting to grounds not provided for by the Brazilian legislation.
Intending to clarify which requirements are truely upheld by the court when disregarding transactions for tax purposes, a comprehensive survey[29] on every decision issued by CARF on the matter from 2002 to 2008 (counting seventy eight)confirmed that, in light of tax planning charges, the judges not only asked if the facts were deemed existent just as described by the taxpayer or if the applicable law was duly observed – two criteria usually linked to the legality argument.It was concluded that CARF would also question whether the transaction had non tax related purposes, in an approach clearly influenced by the business purpose and the substance over form doctrines.