"In this world nothing is certain but death and taxes"

(Benjamin Franklin, 1789)


The Great September Giveaway: Brazil's Tax Reform Runs Amok...

Clovis Panzarini *

Clóvis Panzarini spent thirty-two years with the São Paulo state government’s Finance Secretariat, a period that spanned several state administrations beginning in 1968 with state governors appointed by the military regime in power at the time, and ending in 2002 with a full-fledged democracy in place. Over his last eight years at the secretariat he was Coordinator of Tax Administration, and in that capacity he conceived and implemented PROMOCAT, a modernization program for the state taxation system developed with technical and financial assistance from the Inter-American Development Bank. From 1970 to 1987 he taught Macroeconomics and Theory of Economic Development at the School of Economics at FMU – Faculdades Metropolitanas Unidas. In the late 80s, he was a special assistant to the Taxation, Budget and Finance Commission during the Constitutional Assembly installed in Brazil’s Congress to revise the country’s constitution. He worked directly under the Commission’s head, then Congressman Jose Serra, who ran for president in 2002. He is an economics graduate of FEA, the Faculty of Economics, Business Administration and Accounting at the University of São Paulo, with specialization work in public finance and taxation in Tokyo at JICA, the Japan International Cooperation Agency. He has published books and written extensively for specialized publications on taxation and public finance.

One of the more explicit objectives of the tax reform proposal now making its way through Congress is to put an end to the long-running fiscal war between state governments, involving breaks and exemptions on the collection of the country’s main value-added tax, the ICMS. These breaks have been granted extensively by state administrations in Brazil, in what often becomes a bidding war between states in hopes of attracting investment and creating jobs. 

Even if the declared intentions of this interstate tax war are supposedly noble, the consequences are disastrous for Brazil, and especially for its taxpaying businesses and entrepreneurs. It means those who pay taxes without any sort of discount are then forced to compete, at an obvious disadvantage, with newcomers graced with deductions at taxpayers’ expense, benefactors of a sort of nationwide carnival of incentives. 

In the context of this war, we then end up with distortions, such as identical products competing in the same market but taxed differently. For example, automakers that pay the ICMS in its entirety are forced to fight for market share with competitors that appear to also pay the value-added tax, but it’s really only a mirage. In fact, these companies get it all back in the form of zero interest government financing, with payback terms that can be as long as thirty years. 

Even as this has been going on, negotiations in the Lower House of Congress for approval of the government’s proposal for tax reform ended up adding to the problem. Instead of bringing about the end of the fiscal war, the battle has been exacerbated and pushed to a level never before seen in the history of taxation in Brazil. 

The first step in that direction was a move by the warring state administrations, through each state’s sitting members of Congress, to demand – as a condition for approval of the tax reform package – that certain transition rules be established in the search for interstate tax peace. 

After extensive additional wrangling, the desired transition rules were created: it was decided that the extensive list of what amount to illegal fiscal benefits already granted by state governments would be made valid under the Brazilian Constitution. More than that, the validity of these concessions would be extended for eleven years. Tax reform, therefore, if approved as it stands, will serve to legitimize all of what is now considered unconstitutional – numerous measures that should remain open to legal challenges. 

But the most serious aspect of this whole affair is the fact that the tax reform proposal – which involves a constitutional amendment already passed by the Lower House of Congress – has in fact created a stunning aberration. And this was done intentionally. Instead of setting a prior date for the end of the tax breaks it meant to eradicate, it established instead a future date by when all technically illegal fiscal benefits granted by state governments would remain valid for the already mentioned eleven year period. That date was September 30, 2003. 

Amazing as it may sound, the tax reform that intended to put an end to Brazil’s fiscal war between states created, instead, a frantic rush at various state legislatures to approve tax breaks and giveaways – the last kick at the tax war can, one might call it. In effect, state governments in Brazil did over 30 days in September what 30 years of tax war couldn’t have accomplished. 

Among numerous acts of madness approved by various states before the September 30 deadline, surely the most exotic was perpetrated by the Rio de Janeiro state legislature. Not only did it create new breaks and incentives for goods produced within its boundaries, but it also passed a measure offering a rebate of 90 percent of the ICMS due on all imported goods from anywhere in the world, provided they enter Brazil through the ports and airports of Rio de Janeiro. 

This rebate is designed to look like a government credit line, the amount of credit being the equivalent of 90 percent of the ICMS tax due, with a five-year payback term, and an additional ten-year amortization period on top of that, at 6 percent interest per annum and without monetary corrections in the event of a currency devaluation. In other words, the Brazilian state of Rio de Janeiro is in effect subsidizing imported goods, that once here will compete with goods produced in Brazil, on which all taxes were collected. 

In the final version of this absurdity, the tax-warring legislators from Rio appeared somewhat thrown by the reaction to their bright idea, and promised to exclude consumer goods from what amounts to an imports subsidy program. Which doesn’t really improve matters by much, since Brazilian industrial output goes far beyond consumer goods. 

As it awaits final approval in the Senate, the tax reform proposal passed by the Lower House of Congress will probably undergo major surgery. Changes should include the dismissal of that exotic article that validates future illicit salvos in the fiscal war between states. That alone would ensure that all such measures passed by state legislators in September end up at odds with the Constitution. 

I do believe however that the milk has already been spilled, since in many cases, the September laws have been put into effect, and will not become more or less unconstitutional than the myriad of fiscal war measures edited over many years prior to September. All of which continue to produce negative effects, in spite of numerous attempts to overturn them that have gone before the Brazilian Supreme Court. 

Strange and unimaginable as it might have been, Brazil’s attempt at a much-needed tax reform, originally intended to improve competitiveness in the domestic productive sector, ended up subsidizing products from the rest of the world. 

*(*) economista , ex-coordenador tributário da Secretaria da Fazenda do Estado de São Paulo e sócio-diretor da CP Consultores Associados Ltda (clovis@cpconsultores. com .br)
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