Note: This article was co-authored by Praxity members Maria Jose Gonzalez de Dios (JA Del Rio) and Daniel Affonseca (VBR Brasil).
With a series of laws and regulations published in 2023, the Brazilian government significantly modified its transfer pricing rules to align more closely with Organization for Economic Co-operation and Development (OECD) guidelines. At the core of the OECD approach is the idea that businesses need to price intercompany transactions using an “arm’s-length” principle that mirrors what unrelated third parties would do in similar circumstances.
The new rules represent a drastic change from Brazil’s past approach to transfer pricing. The move from a formulaic approach with fixed margins, calculations, and safe harbors to the OECD’s more open-ended calculation based on comparable market prices will require a detailed economic analysis and functional, asset, and risk assessments to substantiate a business’s transfer pricing policy. The change warrants a closer look at the details of Brazil’s new policy, as well as consideration of the impact the new rules will have on Brazilian companies with related entities in the United States (which has only a reciprocal agreement with Brazil on taxes, not a tax treaty) and Mexico (which has a tax treaty with Brazil).
An overview of Brazil’s new transfer pricing regime
As of Jan. 1, 2024, Brazil’s new transfer pricing rules are in full effect. Businesses had the option of voluntary participation in 2023, but only a few (if any) have elected such an option. The government expanded from just two comparison methods available under its old rules — comparable uncontrolled price (CUP) and cost-plus method (CPM) — to a more extensive range of methods approved by the OECD.
The OECD’s arm’s-length principle is a much more open and interpretive standard that could be challenging for Brazil’s tax authority (RFB) to enforce in a system that has traditionally focused on objective written requirements spelled out in laws. This could lead to an increase in litigation around transfer pricing that could prove costly to entities subject to the Brazilian rules. The problem could be exacerbated for U.S. multinationals with Brazil operations as the lack of a tax treaty precludes resolving these disputes through mutual agreement procedures.
The rules require the taxpayer to provide three sets of data files to the RFB. A country-by-country file typically includes items such as income with related and nonrelated parties, capital, accumulated profits, and employees and full-time equivalents.
The master file focuses on organizational structure, business operations, intangibles, and the global tax position of the group. The local file covers local entity structures and business lines, controlled transactions, and financial information.
One of the challenges in Brazil is that much of this information is provided to the authorities via invoice reporting systems that require businesses to share invoices with the RFB in real time. This gives the RFB thorough knowledge of the company’s pricing in Brazil, as well as detailed information on comparable pricing among the other businesses in the system that can’t be shared with taxpayers. Taxpayers must prove that transactions are arm’s length based on publicly available data about market prices. As a result, taxpayers are constrained by the lack of public data while the RFB might try to use the private taxpayer data it collects, which can’t be shared with other taxpayers (known as “secret comparables.”)
Similarities and differences between Brazil, Mexico, and United States transfer pricing rules
The new Brazilian rules align with U.S. and Mexican rules in some ways and differ elsewhere. Some of the key areas to consider include:
- Ownership of intangibles: Brazil and Mexico adhere more closely to the OECD’s Development, Enhancement, Maintenance, Protection and Exploitation (DEMPE) framework for tracking ownership of intangibles. The U.S. rules are similar to the OECD regime, but they require a closer look at the contractual allocation of risk and the underlying economic substance that supports the legal agreements.
- Related parties: U.S. rules focus on ownership and control, considering the parties related if there’s common control of strategic management or common ownership of 50% or more of the entity. Brazil and Mexico look more closely at economic influence and control regardless of the percentage of ownership.
- Documentation: While all three countries require detailed supporting documents for transfer pricing, each has its own specific needs. Brazil’s rules require detailed supporting documents for transfer pricing. The United States expects taxpayers to provide the 10 principal documents outlined in Treasury regulations, prepared contemporaneously with the filing of the tax return. Mexico looks for documentation similar to the master and local files described above, as well as detailed information on transactions and several transfer pricing informative returns.
- Financial thresholds for documentation: Different countries have different thresholds and requirements based on a monetary value of how much of the transaction is subject to transfer pricing. Taxpayers should pay close attention to these varying thresholds and requirements to ensure compliance.
Next steps
Multinational organizations with entities in Brazil should evaluate their transfer pricing processes to make sure they are in compliance. Affected businesses will need to monitor legal challenges to the RFB’s enforcement of the rules for the foreseeable future, as concepts like “arms-length” and the DEMPE intangible rules may be subject to widely varying interpretations. Given the significance of this change from Brazil’s previous transfer pricing regime, it’s likely that these rules will be challenged and adapted for years to come.
