Brazil's Federal Revenue Attorney General's Office (PGFN) has reversed its position on the taxation of service payments to providers in treaty-partner countries, recommending the revocation of Normative Act 01/2000, which classifies such payments as ''other earnings'' that are subject to Brazil's 15 percent withholding tax.

The PGFN previously sided with the Federal Revenue Department (FRD) in its defense of the normative act but now maintains that the payments should fall under the definition of (exempt) business profits as established in the OECD model income tax treaty and in many income tax treaties signed by Brazil.

PGFN Legal Opinion 2363/20131 resulted from a notice sent by the government of Finland that threatened to terminate the Brazil-Finland income tax treaty if Brazil continues to ignore the treaty provisions by imposing a 15 percent withholding tax on technical service fees paid to Finnish companies.

The legal opinion reexamines an issue that has been a point of dispute between the FRD and taxpayers for more than a decade. In particular, Opinion 2363/2013 reviews the FRD's official position, established in Normative Act 01/2000, in relation to the 2012 decision of the Superior Court of Justice (STJ) in the COPESUL case.


During the 1990s, some regional offices of the FRD issued contradictory private letter rulings (PLRs) about the application of treaty provisions to remittances of service payments abroad. Some PLRs agree with taxpayers that service payments should be categorized as business profits under some tax treaties, and therefore, should be subject to taxation only in the home country of the service provider, and not in Brazil.

Other PLRs reject that view, holding that the Brazilian withholding tax should apply to all service payments abroad, including those to providers in treatypartner countries.

In January 2000 the FRD's Department of General Coordination of Taxation (COSIT) sought to resolve the issue with a controversial ruling, Normative Act 01/2000, which states that service payments remitted abroad should be governed by the treaty article dealing with ''other earnings,'' which are subject to Brazil's 15 percent withholding tax. Further, COSIT said a 25 percent withholding tax applies to payments abroad for any service agreement under which technical assistance or technical services are provided without the transfer of technology to the Brazilian party, and for which no registration is required with the Brazilian patent office or the Central Bank of Brazil.

Many taxpayers challenged COSIT's position in lawsuits before the federal courts in an attempt to ensure that payments made to service providers in treaty-partner countries are classified as business profits that are not subject to withholding tax in Brazil.


On May 17, 2012, the Second Chamber of the STJ confirmed that service payments remitted to Canada and, before 2006, to Germany, were not subject to Brazilian withholding tax because the payments qualify as business profits under Brazil's income tax treaties with those countries. The ruling in Special Appeal 1161467 was the first decision delivered by a higher court on the issue.

The PGFN, acting at the time as the FRD's counsel in the case, had attempted to disqualify service payments as an element of the provider's business profits based on article 7 of the OECD model tax treaty. The PGFN maintained that service payments received by foreign providers qualify as a mere receipt of cash, which cannot be interpreted as profits because the latter would require the deduction of expenses before the profit could be determined. Because of the lack of an ''expense side,'' the PGFN said, the service payments could not be classified as business profits under Brazil's tax treaties, but rather, should fall under the ''other income'' clause in article 21 of the OECD model treaty.

Citing a precedential Supreme Court ruling that tax treaties are hierarchically equal to ordinary laws approved by Congress, the PGFN also argued that the way to resolve the issue was to apply the principle of lex posterior derogat (legi) priori (that a later law supersedes an earlier, inconclusive law).

The statute establishing the application of the withholding tax on service payments abroad is article 7 of Law 9,779/1999, and the treaty provisions cited in support of the exemption from the withholding tax were incorporated into Brazilian law more than a decade earlier, the PGFN noted. Specifically, the Brazil- Germany tax treaty was introduced into Brazil's legal system by way of Presidential Decree 76,988, of 1976, while the treaty with Canada was introduced in Decree 92,318, of 1986.

The STJ rejected all of the PGFN's arguments. If the PGFN's interpretation prevailed, the Court said, it would be virtually impossible to apply the business profit clause of any treaty in any circumstance because adjustments to (that is, deductions from) the service income take place only at year-end and outside Brazil. One of the hermeneutic principles of interpreting a text requires the rejection of any interpretation that leads to an absurd situation, such as would be the case if the PGFN's argument that the definition of ''business profit'' under Brazil's tax treaties means the actual profit of a business, the STJ held.

Using Brazilian tax legislation as the basis for its rationale, the STJ held that business profit under a tax treaty is equivalent to operational profit under Brazilian tax law. Decree Law 1,598/1977 and Brazil's Income Tax Code define operational profit as the result of a company's corporate activities, whether main or auxiliary, based on the corporate gross income arising from the sale of goods and the provision of services.

For that reason, when referring to business profit, the provisions of Brazil's treaties with Canada and Germany mean ''operational profit,'' which includes income from the sale of goods and the provision of services, the Court held. Therefore, no Brazilian withholding tax should apply because taxation should take place only in the home country of the service provider (Canada or Germany, as the case may be).

Addressing the PGFN's argument that Law 9,779/ 1999 should prevail over the 1976 and 1986 presidential decrees that introduced, respectively, the German and Canadian treaties into Brazilian law, the STJ said a conflict of law in this case should be viewed from a different perspective. It is a matter of lex specialis derogat (legi) generali (that when two or more norms deal with the same subject, the norm that is more specific should prevail) rather than of lex posterior derogat (legi) priori, the STJ said. Because the tax treaties are more specific than Law 9,779/1999, the treaty provisions cannot be revoked or superseded by a later law.

In the COPESUL case, no laws were actually revoked. The provisions of Law 9,779/1999 continue to apply to all situations contemplated therein, except when a treaty provision — whether before or after the enactment of the law — provides for a more specific tax treatment, as in the case of the business profit clause.

PGFN Legal Opinion 2363/2013

In Legal Opinion 2363/2013, the PGFN reversed its position in COPESUL. After the STJ's ruling in that case, the PGFN decided to review the FRD's arguments in support of Normative Act 01/2000 and the rationale of the STJ in ruling against it, along with the reasoning of the lower appellate courts that sided with the taxpayers on the issue.

It concluded that the interpretation given in Normative Act 01/2000 — that service payments cannot be interpreted as business profits under article 7 of the OECD model tax treaty — is incoherent and inconsistent with the purpose of article 7 itself. If the normative act's interpretation prevailed, article 7 would be an empty provision with no practical application in Brazil, the opinion says.

Relying on jurisprudence on international taxation and the commentaries to the OECD model tax treaty, the PGFN argues that the definition of ''business profits'' should be broader than that used in Normative Act 01/2000 so as to include service payments as part of the foreign recipient's operational income.

The legal opinion also agrees with the STJ's ruling that the principle of lex specialis derogat (legi) generali should prevail over lex posterior derogat (legi) priori, the principle originally cited by the PGFN in COPESUL. The opinion maintains that when the business profits clause in a tax treaty applies, there is no actual revocation of the domestic laws on withholding tax, but a mere suspension of its application to treaty countries. The rules on withholding tax continue to apply to all situations (that is, service payments abroad) not expressly covered by a tax treaty.

Legal Opinion 2363/2013 concludes with the recommendation that remittances abroad of fees for technical services that do not involve the transfer of technology should fall under article 7 of the OECD model tax treaty (the business profit clause) and therefore should not be subject to the Brazilian withholding tax. However, the opinion says the withholding tax exemption should not apply if the foreign company carries out its business in Brazil by means of a permanent establishment, as defined under the relevant tax treaty.

Legal Opinion 2363/2013 also refers to tax treaties in cases where technical service fees are treated as royalties.2 In those cases, the service payments should fall under the royalty clause (article 12 of the model tax convention) rather than under the business clause (article 7), meaning that Brazil would be able to levy withholding tax. The opinion also says that treaty shopping should not be accepted.

Final Remarks

Legal Opinion 2363/2013 is an unquestionable step forward for the full application of the business profit clause after more than a decade of debate and court disputes. However, from a purely legal standpoint, the FRD's official position is still that of Normative Act 01/2000. For that reason, taxpayers may still face some resistance from the FRD in obtaining an exemption from Brazilian withholding tax on service payments to some treaty countries, at least until Normative Act 01/ 2000 is expressly revoked by the FRD. Until then, taxpayers may consider alternatives such as filing a request for a ruling or bringing a lawsuit before a federal

Originally published in Tax Notes Int'l, March 10, 2014.


1 Dated Dec. 6, 2013, and approved by the PGFN on Dec. 19, 2013.

2 Some treaties, or treaty protocols, extend the definition of royalties to certain technical services.

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