Law No. 14,596 aligns the Brazilian transfer pricing rules with the standards embodied by the OECD Transfer Pricing Guidelines and completely departs from the old Brazilian formulary approach (which made Brazil an outlier from a global tax perspective).

Law 14,596 is divided into four main parts: fundamental principles, specific rules e.g. for intangibles, documentation requirements and related matters. Further guidance on the application of Law 14,596 is expected to be issued by the Brazilian tax authorities (RFB) later this year, including on safe harbours and other simplification procedures.

The law was published on 14 June 2023, and will apply from 1 January 2024, but taxpayers may elect for early adoption with effect from 1 January 2023. The election will have to be made between 1 and 31 September 2023.

By enacting Law 14,596, the Brazilian government expects to encourage inward investment through removing the risk of double taxation caused by differences in TP rules and to counteract the erosion of the Brazilian tax base through transactions which exploited such differences. Given the magnitude of the changes, existing structures will be impacted; Brazilian companies will need to adapt their cross-border intercompany transactions, tax compliance and internal systems, and will also need to analyse whether they can benefit from the early adoption of the legislation.

The remainder of this post will set out the background to Law 14,596 and consider each of its parts in more detail.

Background

Current Brazilian transfer pricing rules do not follow the OECD TP Guidelines, but rather apply formulas to calculate minimum revenue on exports and maximum expense for imports in transactions with related parties, low-tax jurisdictions and privileged tax regimes. The legislation also sets forth divergence margins and safe harbours (the latter only for export transactions) in order to further simplify compliance with the Brazilian transfer pricing rules.

A few other departures from the OECD TP Guidelines are worth noting: only traditional methods are foreseen by Brazilian legislation (no transactional profit methods are included in the statutory rules), no best method rules apply (as taxpayers are free to choose from one of the applicable methods), and there are neither secondary adjustment provisions nor advance pricing agreements with the tax authorities, amongst others.

By departing from the OECD TP Guidelines, cross-border transactions between Brazil and other OECD countries would typically result in differences and transfer pricing adjustments, or at least require careful consideration regarding such differences, which would add another layer of complexity (aside from other Brazilian political and economic considerations) for multinationals doing business in Brazil.

As part of Brazil’s policy aim of promoting inward investment (of which plans to accede to the OECD form part), a joint study between the RFB and the OECD was launched in 2018 and a report with the findings of the similarities and differences between the Brazilian transfer pricing rules and the OECD TP Guidelines was published on 18 December 2019.

The report concluded that most of the OECD TP Guidelines’ key concepts and principles were missing or were not reflected in existing Brazilian rules, and recommended an alignment of the rules. As a direct result of these recommendations, the Brazilian government issued Provisional Measure N. 1,152 (PM 1,152) on 29 December 2022, later converted into Law 14,596, setting out the new Brazilian transfer pricing rules which embody the OECD TP Guidelines (as expressly acknowledged by the OECD Secretariat in a paper published jointly with the RFB in April 2023). PM 1,152 was approved by the Brazilian Congress and was sanctioned by the President into Law 14,596.

Law 14,596: Fundamental principles

Chapter II of Law 14,596 sets out fundamental principles and concepts for the application of the new transfer pricing structure, based on Chapters I to III of the OECD TP Guidelines. It emulates the OECD TP Guidelines in this regard, applying the arm’s length principle based on the (i) delineation of the commercial and financial relations between the associated enterprises and the conditions and economically relevant circumstances of the transactions and (ii) a comparability analysis based on the options realistically available to the associated parties.

Law 14,596 also introduces the most appropriate transfer pricing method rule, to be chosen between the three traditional methods (i.e. comparable uncontrolled price method, resale price method and cost plus method) as well as transactional profit methods (i.e. transactional net margin method and transactional profit split method). Furthermore, the legislation also allows the use of a different method (provided that it is demonstrated that the traditional and transactional methods cannot be applied or would not be appropriate), or a combination of methods, according to further guidance to be issued by RFB.

The original draft (i.e. PM 1,152) set out four categories of adjustments: spontaneous adjustments made by the taxpayer in their tax return, compensatory adjustments commercially agreed between the parties at the end of the taxable year, primary adjustments made by tax authorities in an assessment, and secondary adjustments treating the transfer pricing adjustments as a taxable loan. But these provisions were later amended by the House of Representatives and the secondary adjustment was not included in the Bill of Conversion sent to the Brazilian Senate and was not ultimately incorporated into Law 14,596.

Law 14,596: Specific rules

Chapter III of Law 14,596 covers specific topics such as intangibles, intragroup services, cost contribution arrangements, business restructurings and financial transactions, based on Chapters VI to X of the OECD TP Guidelines.

In respect of intra-group services, the rules set out which services are in scope, and the relevant exclusions (e.g. shareholder activity, duplicated services and incidental benefits), as well as how to deal with pass-through costs whereby the service provider does not develop significant functions.

The rules on cost contribution agreements require that each participant’s overall contributions must be consistent with its proportionate share of the overall expected benefits to be received under the agreement, and appropriate compensation must be set up in case of disproportionate benefits or alteration of the participants (buy-in, buy-out and balancing payments).

As regards financial transactions, Law 14,596 departs from the formula provisions based on Brazilian international bonds and LIBOR rates and moves to a functional analysis following Chapter X of the OECD TP Guidelines – beginning with a gateway test to understand whether a debt instrument should be treated as such or whether it should be treated as a non-deductible equity instrument instead. There are also specific rules for treasury functions, financial guarantees and insurance transactions.

Law 14,596: Documentation requirements

Chapters IV and V of Law 14,596 set out documentation requirements as well as special measures, including for simplification purposes, and tax certainty based on Chapters IV and V of the OECD TP Guidelines.

The law sets out that the RFB will establish how the relevant information for the application of the transfer pricing rules will be submitted, as well as the penalties for late or misfiling, capped at BRL 5,000,000, which could be avoided altogether in certain circumstances if the taxpayer amends the relevant tax returns during a tax audit procedure.

The RFB must also provide further guidance on simplification measures for the comparability analysis, guidance in respect of specific transactions and treatment for cases where limited information is available.

There is also a provision that allows the RFB to set up a ruling procedure in respect of the methodology to be used by the taxpayer in a specific case, including the best method, the selection of the comparable transactions and the corresponding adjustments, the determination of the significant comparability factors, and the critical assumptions regarding future transactions, which will be valid for 4 years, subject to a 2-year extension. The ruling can also be valid for previous periods, provided that it is verified that the relevant facts and circumstances relating to these periods were the same.

The law also establishes that the RFB must abide by the decision reached pursuant to the mutual agreement procedure under the applicable double tax treaty.

Law 14,596: Related matters

Given that interest and royalties transactions with related parties, low-tax jurisdictions and privileged tax regimes would be within the scope of the new transfer pricing framework, Law 14,596 makes certain consequential amendments to ensure proper interaction throughout the tax legislation.