Leonardo Homsy
Mattos Filho, Rio de Janeiro, Brazil
leonardo.homsy@mattosfilho.com.br

Rogério Bittencourt
Mattos Filho, Rio de Janeiro, Brazil
rogerio.bittencourt@mattosfilho.com.br   

Introduction

At the very end of 2022, Brazil signed two new bilateral tax conventions to avoid double taxation, one with Norway, to replace the existing treaty (originally from 1981, slightly amended in 2019) and the other with the United Kingdom.

Although Brazil chose not to adhere to the Organisation for Economic Co-operation and Development’s Multilateral Instrument (OECD’s BEPS MLI) to amend its existing treaties, partially because the country has a very limited tax treaty network (with 36 treaties currently in force), the most recent bilateral conventions signed by Brazil show the country’s current international fiscal policy tendency to adapt its treaties to the BEPS standards and to the OECD’s and UN’s most recent model tax conventions.

Innovative provisions and benefits

In both most recent treaties, some important provisions have been added, for example the qualification of INE (interest on net equity or ‘JCP’ – juros sobre capital próprio) as interest for treaty purposes, to avoid a D/NI outcome (deduction at source + non-inclusion at residence) in virtue of its hybrid features.

A technical services article (Article 13), based on the UN Model Convention, has also been included in both treaties, in which they are broadly defined as ‘managerial, technical or consultancy’ services^[1]. In the Norwegian treaty, the clause provides a limit of ten per cent for withholding taxation (WHT), which is lower than the domestic rate (15 per cent).

In a beneficial and innovative way, in the UK convention, the technical services clause provides rates of withholding income tax (‘WHT’, in Brazil: ‘IRRF’) that are regressive over time, starting at eight per cent and zeroed for four years after the treaty’s entry into force^[2].

In relation to interest, the maximum rates at source applied begin at seven per cent in the UK treaty^[3], and at ten per cent^[4] in the new Norwegian convention. Regarding the taxation of royalties, a ten per cent rate applies in the two treaties. All these rates are lower than the regular rate for both categories of income (15 per cent).

One of the future outcomes of the new Brazil–UK convention is its beneficial effect on several other Brazilian tax treaties, such as those with Canada, Israel, Mexico, Norway (the new convention), South Korea, Spain, Sweden and Switzerland.

The abovementioned treaties provide that in the case where a new convention is signed by Brazil, stipulating more beneficial source taxation, such provisions should also apply to them, meaning that the entry into force of the Brazil–UK tax treaty will also lower the taxation on payments made to such countries (the ‘most favored nation clause’).

On anti-treaty shopping rules, the UK and Norway conventions provide for both general and specific provisions, such as:

1.  a general anti-abuse provision, following the BEPS and MLI standards, known as the so-called principal purpose test (PPT)^[5] clause, which denies treaty benefits where it is reasonable to conclude that obtaining that benefit was one of the principal purposes of the arrangement or transaction;

2. the express mention that CFC (controlled foreign companies) and thin capitalisation rules are not covered by the treaties, meaning that Brazilian domestic rules in such respect, which are commonly regarded as harsh, apply regardless of Article 7 (Business Profits);

3. entitlement to benefits based on substance: the UK and Norway treaties limit the application of its provisions to companies that can prove that they have substance (‘active conduct of a business’), considering several factors and criteria.

As compared to the current Brazilian treaty network, both conventions also include unprecedent provisions. Firstly, they contain a ‘Service PE’ rule, an alternative contained in the OECD Model Convention commentaries, under which the rendering of services (including consultancy) in a contracting state for more than 183 days in 12 months is deemed as a permanent establishment, even if the service provider does not have a fixed place of business in the other state.

Offshore activities

Both the UK and Norway double tax conventions also include new rules on: permanent establishment, salaries and capital gains, specifically in respect of ‘offshore activities’, which represent an important part of the Brazilian economy. All undertakings ‘related to research, exploration (research) or economic exploitation of the seabed or subsoil, or their natural resources’, are deemed as such^[6]. Accordingly, the conventions provide that:

1. where a company carries out offshore activities for more than 30 days in a 12-month period, it should be deemed as having a permanent establishment;

2. if similar activities are performed by strictly related companies for periods that do not exceed 30 days in a 12-month period separately, both activities should be considered jointly for counting the 30-day period (anti-fragmentation rule);

3. salaries, wages and similar remuneration derived by a resident of a contracting state that performs the above activities for more than 30 days in a 12-month period in the other state may also be taxable in the latter, provided that they are performed offshore^[7];

4. capital gains of a company derived from the alienation of: (1) exploration (research) or exploitation rights, deriving from them and including rights to interests or rights to receive income from such rights; (2) property used in connection with the above activities, or (3) shares deriving at least a greater part of their value from such rights or property, may be taxed in both contracting states.

It is also worth noting that the protocol, annexed to the Brazil–Norway treaty currently in force, was entirely replaced, which means that the rule contained in item 11 of the existing protocol, which grants an exemption from taxation at source to income arising from the operation of vessels that remain in the country for less than six months, will cease to exist, and the new ‘30-day’ rule will apply.  

Conclusion

As described above, the new Norway and UK treaties show a possible tendency of Brazil to: regulate specific types of permanent establishments (offshore PE, services PE, etc), incorporate a specific ‘technical services’ clause into all its treaties, include a substance-based provision for the entitlement to benefits, apply domestic anti-abuse provisions (eg, CFC and thin capitalisation) regardless of tax treaties, and generally lower source taxation in certain categories of income (such as interest and technical services), in situations where Brazil is typically the ‘capital importer’ (ie, the country receiving investment).

Both treaties still must undergo certain international and domestic formal procedures to be fully valid and enforceable, including approval by the Brazilian Congress and promulgation by the President, which may take an average of two years, considering recent experience.