October 31, 2017, saw the issuance of Provisional Measure 806 (MP 806), which modifies the imposition of Withholding Income Tax (WHT) on several types of Investment Funds, establishing taxation for events that were previously regarded as tax exempt. In addition, modifications were made by MP 806 on Law 11,312/2006, which establishes the taxation on Brazilian Private Equity Funds (FIP).
The most important modifications impact Investment Funds that have been created as “closed condominiums,” i.e., Funds that do not allow the redemption of quotas during their existence. MP 806 establishes the taxation via WHT of undistributed revenues of those specific Investment Funds on May 31, 2018 (in a single tax imposition). The calculation basis for WHT in this case will be the positive difference between the equity value of the Fund quotas (increased by the revenues accrued to each quotaholder), and the acquisition cost, adjusted by all amortizations that have taken place. MP 806 also establishes a recurring tax imposition on the same grounds, which must occur on the last business day of May and November of each calendar year.
These modifications made by MP 806 are not applicable to certain types of Investment Funds, which, even if created as “closed condominiums,” are subject to specific statutory tax treatments. These are the following:
- Brazilian Real Estate Funds (FII), which remain subject to taxation according to Law 8,668/1993.
- Brazilian Credit Rights Funds (FIDC) and Brazilian Investment Funds on Quotas of Credit Rights Funds (FIC-FIDC), which remain subject to taxation on the amortization, sale/disposition or redemption of the quotas.
- Brazilian Share Funds and Brazilian Investment Funds on Share Funds, which remain subject to taxation on the event of the redemption of the quotas.
- Brazilian Investment Funds composed solely by non-resident or non-domiciled investors, which shall be subject to taxation according to Law 8,981/1995.
- Brazilian Investment Funds and Brazilian Investment Funds in Quotas that, until October 30, 2017, have a specific provision in their regulations establishing that these Funds have a non-extendable closure date before December 31, 2018. In this case, the Funds will be taxed in the amortization or redemption of the quotas, for purposes of closure. This specific tax treatment does not alter the taxation of undistributed revenues if particular corporate events take place (a spin-off, an acquisition, a merger or a transformation).
- FIP qualified as an “investment entity,” which will be taxed under the terms of Article 2nd of Law 11,312/2006.
- FIP not qualified as an “investment entity” that will be taxed in accordance with Articles 8th and 9th of MP 806. These Articles establish that non-qualified FIP will be taxed as corporations, without any of the tax benefits applicable to a qualifying FIP. Furthermore, they establish that undistributed revenues accrued until January 2nd, 2018, will be subject to taxation via WHT at a 15% rate (single tax imposition).
MP 806 will generate effects as of January 1st, 2018, even though, as commented above, some of its provisions apply to taxpayers on specific dates (i.e. the date of taxation of undistributed revenues of a non-qualified FIP for WHT purposes is January 2nd, 2018).
The Provisional Measure is yet to be regulated by the Federal Revenue of Brazil, but it already presents potential issues from a legal and constitutional standpoint. The most important of these issues, which is confirmed by a Statement of Reasons issued by the Ministry of Finance, is the taxation of undistributed revenues retroactively (in other words, the fact that these revenues are subject to WHT in line with MP 806, even though their taxable event has occurred before the issuance of MP 806, could be regarded as a violation to the Principle of Non-Retroactivity of Tax Rules, established in Article 150, subparagraph III, item “a” of the Federal Constitution).
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.