The Effect of the Exemption Method on the Taxation of Foreign Profits at the Bazilian Parent Company

Abstract

The article aims to analyze the violation of Article 7 of the double tax treaties entered into by Brazil when the rules set forth in Article 74 of Provisional Measure No. 2,158‑34/2001 and Article 77 of Law No. 12,973/2014 are applied. These rules provide for the taxation in Brazil of profits earned by companies established abroad that are controlled by Brazilian companies. Because these companies are established in jurisdictions with which Brazil maintains double tax treaties, the taxing power over their profits would lie exclusively with the jurisdiction of their residence. As Article 98 of the Brazilian National Tax Code provides that treaties entered into by Brazil prevail over subsequent domestic legislation, the taxation of profits of foreign-controlled companies – as set forth in Article 74 of Provisional Measure No. 2,158‑34/2001 and Article 77 of Law No. 12,973/2014 – should be disregarded, as its application would otherwise entail a violation of Article 7 of the applicable double tax treaties. The article also seeks to address the arguments contained in an opinion rendered in Extraordinary Appeal (RE) No. 870,214, whose judgment has not yet been concluded. In addition, the article aims to analyze the violation of the dividend exemption rule provided for in some of the treaties entered into by Brazil, which constitutes a method for avoiding double taxation. The application of Article 74 of Provisional Measure No. 2,158‑34/2001 and Article 77 of Law No. 12,973/2014 would presume a fictitious distribution of profits, such that the income taxed in Brazil would be equated with dividends. The taxation in Brazil of profits deemed to be distributed would not only lead to a violation of the exemption method, when provided for in Article 23 of the applicable double tax treaty, but would also result in subjecting the income corresponding to such dividends to a tax burden far higher than that which would apply if such dividends were effectively distributed.