The high tax burden is one of the major barriers to the development of the information technology and communication sector (ICT) in Brazil. Brazil has the third highest corporate and indirect tax rate among the G20 countries, and on average this accounts for 34% of income, behind only the United States (40%) and Japan (35.64%), according to a KPMG survey published this year.
Faced with such challenges, last August a group formed by the major market players, including the Brazilian Association of Software Companies (ABES), the Brazilian Association of IT (Assespro) and the Brazilian Association of ICT (Brasscom), sent the Brazilian presidential candidates a program called “For a Digital and Competitive Brazil”. The initiative aims to improve IT companies’ competitiveness under the next Brazilian government.
Market data shows there are over 70,000 ICT companies in Brazil today, which account for 8.8% of the Brazilian GDP. The Brazilian IT industry is the seventh largest market worldwide, with an investment of US$61.6 billion in 2013.
“It is necessary to give the ICT segment the importance it deserves. Today, this sector employs 1.3 million professionals and it represents 4.6% of the Brazilian GDP, excluding the telecommunications industry, and it is expected to reach 6% of the Brazilian GDP by 2022,” said Sergio Paulo Gallindo, president at Brasscom.
The high tax burden harms the competitiveness of Brazilian companies in comparison to other emerging markets. Brazil is 53% more expensive than India, for example. Considering the regional tax rates, the taxation on Brazilian companies can exceed 40% of revenue, and it represents 38% of the Brazilian GDP.
For this reason, among the main demands of IT entities are a reduction in cost of capital for IT companies, especially for small and medium-sized enterprises; more tax incentives for using big data platforms; and tax relief on cloud services.
In general, taxes are even higher for equipment manufacturers, which have to pay IPI tax, a federal exercise tax on all industrial goods. On the other hand, companies that develop and license software are taxed according to the tax rate applied to the service sector, which involves up to eight different tax rates.
Different Tax Regimes
Regarding corporate tax, companies can choose one of three different fiscal systems: through taxable income, through presumed profit or through the National Simple system. The latter unifies all tax rates (municipal, state and federal taxes), applying to businesses a single rate, which excludes social security contribution and tax on services (Imposto sobre Serviço, ISS). This fiscal system is available for companies with annual revenues up to 3.6 million Brazilian real (US$1.470 million).
Despite being simpler, the National Simple system is only advantageous for companies whose payroll represents more than 40% of revenues, because the larger the number of employees, the lower the tax rate. For these cases, tax rates vary from 10% to 22.18%, according to annex V of the National Simple system.
However, if the payroll represents less than 40% of revenue, the tax paid through the presumed income model, available for companies with annual revenues up to 78 million, may be more advantageous, explains Manoel Antônio dos Santos, legal director from ABES: “The Brazilian government should reduce the tax burden for companies that work with software as a service, allowing them to access the tax rates applied to companies listed in Annex III or IV of the National System, which are lower.”
Furthermore, taxation on software as a service is not very clear. “Activities contemplated by the National Simple system need to be expanded,” says Fernanda Ferreira Maellaro, a specialist tax lawyer at Baptista Luz Attorneys.
Another issue is related to the standardization of taxes on software as a service. In some states, activities related to electronic games, for example, are taxed as goods and the companies have to pay a sales tax called Imposto sobre Circulação de Mercadorias e Serviços (ICMS). “Entertainment software shouldn’t be treated as goods,” says Santos, from ABES.
The IT entities also propose to reduce taxes for cloud services, especially the ISS tax. “Today Brazil is the most expensive market in this sector in the Americas. The cost in Brazil is about 42% higher than in the United States in terms of cloud platform construction and 85% more expensive in terms of operation, which involves the costs of labor, energy, rent and taxation,” said Gallindo, from Brasscom.
Another demand from IT entities is related to tax relief for data centers. The Brazilian Informatic Law, which provides tax incentives to companies that invest in research and development in the hardware and automation areas, does not include investment in data centers. Moreover, this activity incurs a higher services tax (ISS). In Sao Paulo city the tax rate for such an activity is 5%.
Finally, another point that was included in the “For a Digital and Competitive Brazil” program calls for improvements in the payroll tax law for IT companies. Two years ago, the Brazilian government reduced the social security contribution to 2% of revenue of 20% over payroll. “This taxation is more costly for companies that have fewer employees. The tax model should be optional rather than mandatory,” said Fernanda from Baptista Luz Attorneys.
Incentives for Startups
The high tax burden in Brazil impacts more the IT startups. According to a survey of International Data Corporation (IDC), the Brazilian software and services market is led by micro and small enterprises, which account for 43.9% and 49.6% of the sector respectively.
Aiming at reducing costs for technology startups, the government is analyzing a project bill that provides federal tax exemption, for at least two years, being renewable for the same period, for startups with quarterly revenues of up to 30,000 Brazilian real (US$12,250). The project bill was approved in the Senate and is now being analyzed in Brazil’s House of Representatives.
According to Santos, from ABES, most IT companies have revenues of up to US$500,000 a year. Even so, he considers the value of up to 30,000 Brazilian real of revenue too low for companies to be exempt. “This value is too low. It will not change anything for businesses. The ideal would be to expand exemption to companies that have up to 360,000 Brazilian real in revenue.”
Another impediment to the development of Brazilian startups is the country’s enormous bureaucracy. According to World Bank data, Brazilian firms spend 2,600 hours per year with filling out forms and taxes payment. In other markets in the Americas, the time spent on this is significantly lower. In Bolivia it is 1,080 hours for example; in Mexico it is 450 hours, and in Chile just 300 hours. Meanwhile in the United States, the time spent is only 170 hours.
Certainly, before choosing which tax regime is most appropriate, the best option for companies is to seek legal or specialized accounting advice.