Tax exemption decision awaited
Considering that Brazil has the second largest ‘non-exploited’ consumer market in the world, the interest in acquiring and developing business here is becoming as frequent as it is necessary. This, and other features of the country have led to the arrival of international companies in the field of social security and pensions, creating enormous business possibilities, as well as providing a boon for the investment arena as a whole.
To put things in perspective it is worth remembering that Brazil has more than 150m inhabitants and is the financial and political epicentre of South America!
One factor worth explaining to begin with is the framework for social security in Brazil, which takes the form of three main areas: health services, pension and retirement benefits and social assistance (destined for those who have not made any contributions to the system).
The second point to consider is that official retirement benefits are very rare in Brazil and in fact the highest benefit paid by the Social Security Welfare Agency is approximately $750 a month.
Moreover, the problems in the Brazilian system become clearer the moment you realise that the deficit in government social security accounts has not been plugged.
Nevertheless, there are several measures being taken by the government to reduce this budgetary hole in the future.
Here, it is helpful to look back at the historical situation.
The private social security system in Brazil was officially set out in 1977 through Federal Law number 6.435, which still exists today. This legal instrument allows for the creation of two types of private social security entities. The first is the “closed” fund – not destined for the general public but for employees of one or more specific companies and with the objective not to gain individual profit but solely to secure a pension.
The second legislative vehicle is the “open” fund destined for all persons desiring a guarantee for their retirement period and sufficient pensions for their relatives.
The latter are administered by ‘open’ entities and insurance companies, although nowadays commercial banks may also offer a similar plan called a “FAPI”.
With regard to the ‘closed’ entities, there is a serious discussion taking place over their right to obtain tax exemption on gains received as a result of investments in the capital market. A court case between the ‘closed’ entities and the federal revenue department is currently before the Supreme Court of Justice (STF) relating to the matter, with the amount of money at stake representing a considerable amount, potentially between $1.5bn and $2bn, which has not been paid by the funds in recent years at the date of plan maturities.
The ‘open’ entities have been putting forward interesting pension plan ideas based around modern retirement fund features. One particular case is the so-called PGBL, which works on the premise of capitalisation of an amount deposited during the working period and distribution of the amounts gained and accumulated until the retirement or injury event.
In this case, the open funds are permitted to withhold the income tax to the authorities from the amounts obtained over the investment period.
In the case of the closed-end schemes, the funds in which the assets are invested receive a tax exemption but the entities themselves are taxed on the criteria of book taxable income.
Last, but not least, plans administered by commercial banks have a similar (but not equal) methodology covering their provision of benefits but a different treatment again under the law. In this case, the ‘FAPI’ is taxed at a level of 20% over the amounts procured through its fixed income investments and 10% over the variable ones.
It is important to note the fiscal advantages that may be gained from this by both employer and employee.
The first has the possibility to consider as deductible from income tax up to 20% of the payroll amount destined to a pension plan. The employer may also obtain total tax exemption from social security and labour charges (specifically the non-incorporation of the amounts in the employees’ wages), since the plan is offered to the total employee population, which every month receives an amount superior to that paid by the welfare agency (INSS).
In the specific case of FAPI plans, the deduction is conditional to the plan covering at least 50% of the officers and employees.
From an employee’s perspective, the advantage comes through deduction of contributions from individual income tax. This can occur up to a limit of 12% of annual gross revenue (deductions may be made on the monthly payroll), on the premises that such contributions are made to their own plan, not a third-party one. During the retrieval or benefit receiving period, the amounts paid by the entities shall be taxed on the current legislation basis.
On top of the debate surrounding the court case, the National Congress is also examining three legislative bills relating to this theme, which were elaborated under the supervision of all the parties involved.
The necessity to implement a secure culture of saving is considered an element in improving the adoption of better conditions by the government - especially through the means of tax incentives. We expect sound decisions to support and provide the conditions for the development of the social security market in Brazil.
The above facts expose how big the Brazilian market is and will become in the next few years (even to the most pessimist analyst), as well as how intricate some of the accompanying legislative developments are. This is something that cannot be under evaluated by both national and international companies seeking to gain a foothold in the country.
Léo do Amaral Filho LLB is a lawyer with Tozzini Freire Teixera e Silva in São Paulo and a member of the Brazilian Bar Association