UK signs double tax treaty with Brazil

The UK’s double taxation agreement with Brazil is the most significant development in the trade relationship between the countries in many years.

Key development in UK-Brazil trade relationship

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The United Kingdom and Brazil signed a Double Taxation Agreement (DTA) on 29 November 2022. This is the most significant step forward in the trade relationship between the countries in many years, and an important development for UK multinational groups with existing operations, or considering new investments, in Brazil. This article provides a comprehensive summary of some of the key provisions of the new DTA.

Whilst Brazil’s football team may be capturing all the headlines at present with their attacking brand of football setting the World Cup alight, this year has also been a year of progress in Brazil’s alignment with international tax standards.

Back in May we wrote an article reporting on the announcement that Brazil intends to adopt a new transfer pricing framework fully aligned with the OECD Transfer Pricing Guidelines. We suggested this might pave the way for negotiations on a DTA between the UK and Brazil. We explained why a DTA, which comprehensively addresses the double taxation risks in relation to cross-border payments for services, was key to UK headquartered groups seeing the full benefits of Brazil’s harmonisation of transfer pricing rules.

Exploratory talks to find common ground on the principles for a possible DTA started in 2017. In September 2022, HMRC published a joint declaration confirming it would visit Brasilia between 12 and 16 September 2022 to launch a first round of negotiations. It is remarkable that less than three months later the countries have been able to agree a comprehensive DTA.

Entry into force

The effective dates for specific tax purposes in Brazil and the UK are set out in Article 31 of the DTA and are dependent on the dates the DTA enters into force. The DTA will only enter into force once both countries have notified each other in writing through diplomatic channels of the completion of the procedures required by domestic law for the bringing into force of the DTA. The UK Parliamentary procedures to ratify a new DTA can usually be completed within a matter of months. In Brazil the DTA is ratified only after approval by the National Congress and this can take several years, for example the treaties with Switzerland and Singapore were approved by Congress within three and four years respectively.

So there is some uncertainty over how long it will take for the DTA to be effective.

Key provisions of the DTA

We have summarised below some of the key provisions (non-exhaustive) relevant to UK corporates investing overseas. For commentary on the impact that the DTA will have on globally-mobile employees and their employers see our GMS Flash Alert.

• Taxes covered: In the case of the UK, the DTA applies to income tax, corporation tax and capital gains tax. In the case of Brazil, the DTA applies to federal income tax (IRPJ), currently levied at 25 percent, and the social contribution on net profit (CSLL), currently levied at 9 percent. It is positive that the DTA refers explicitly to the CSLL as an in scope tax. Not every treaty concluded by Brazil makes this express reference, and this can lead to uncertainty. The DTA will also apply to any identical or substantially similar taxes to those set out above enacted by the UK or Brazil after the date of signing the DTA .
  
• Territorial scope: The territory of the UK is defined consistent with other UK tax treaties and includes the UK continental shelf. Brazil is defined in Article 2 as the territory of the Federative Republic of Brazil, as well as the zone adjacent to Brazil’s territorial sea where Brazil “exercises sovereign rights or jurisdiction in conformity with both international law and its national legislation for the purpose of exploring, exploiting, conserving and managing the living and non-living natural resources or for the production of energy from renewable sources”.
  
• Residence: The term ‘resident of a Contracting State’ is defined broadly in line with the OECD Model but with the addition of place of incorporation as one of the criterion. Specific provision is also made to include a pension scheme established in a State, as well as certain organisations who are treated as a resident of a State according to its laws (notwithstanding that all or part of its income or gains may be exempt from tax under the domestic law of that State). Dual residence for companies is addressed with the OECD Model clause, providing for the competent authorities of the UK and Brazil to determine by mutual agreement where the company is tax resident.
  
• Business profits: Unless a company resident in one state is carrying on a business in the other jurisdiction through a Permanent Establishment (PE), the profits of the company may only be taxed in its home state. The separate enterprise principle applies when attributing profits to a PE. Article 7(3) helpfully states that in determining the profits of a PE there shall be allowed as deductions expenses which are incurred for the purposes of the PE, including executive and general administrative expenses so incurred. However, such deductions must be in accordance with the provisions, and subject to the limitations of the tax laws, of the Contracting State concerned.
  
• Permanent Establishment: As expected, the PE article provides for an expanded definition of a PE by comparison to the OECD Model – most notably that a PE will be created if a UK resident is furnishing services in Brazil for a period or periods aggregating more than 183 days in any 12-month period commencing or ending in the fiscal year concerned. The same 183 days threshold also applies to a building site, a construction, assembly or installation project or connected supervisory activities. The PE article also includes an anti-fragmentation rule aligned with the OECD Model and a specific clause relating to insurance business.
  
• Offshore Activities : It is unsurprising, given the importance of energy and natural resources to the Brazilian economy, that the DTA includes a separate Offshore Activities article (Article 24) which extends the circumstances where a resident of the other Contracting State will be treated as having a PE in the source state as a result of activities in connection with the exploration, exploitation or extraction of the seabed and subsoil and their natural resources. The 30 day threshold for the deemed PE rule under Article 24 is very restrictive.
  
• Associated Enterprises: The provisions apply the arm’s length principle and are based on, and largely consistent with, Article 9 of the OECD Model meaning that provision is made for compensating adjustments under the Mutual Agreement Procedure article. This is a major plus point of the DTA, especially if one considers the historical treaty negotiation position of Brazil was not to adopt paragraph 2 of Article 9. In fact, the DTA is the first Brazilian treaty to include a paragraph like Article 9(2) of the OECD Model convention, allowing for a corresponding transfer pricing adjustment and potentially avoiding economic double taxation. This novelty can be interpreted as a sign of the expected convergence of Brazilian transfer pricing rules to the ‘OECD Transfer Pricing Guidelines’, since Brazil's historic refusal to apply corresponding adjustments was based on the peculiarities of its traditional Brazilian transfer pricing rules.

Concluding remarks

A comprehensive DTA between the UK and Brazil has been a recurrent request from UK multinational businesses for many years so the swift agreement of a DTA is welcome news. When the DTA becomes effective, UK corporates can expect to benefit from the reduction in Brazilian WHT on royalties and fees for technical services and improved possibilities to claim credit relief in the UK for the WHT.

The DTA should help reduce tax costs and administrative barriers to trade and investment between the UK and Brazil. The date of entry into force of the DTA is uncertain due to the potential for ratification in Brazil to take several years. In the meantime, UK corporates should continue to monitor progress in the harmonisation of Brazil’s transfer pricing rules with OECD standards as this is another important aspect of improved certainty when investing in Brazil.