Brazil’s Transfer Pricing Rules Have Forced a Corporate Rethink

Brazil’s new transfer pricing rules, now over a year old, are reshaping corporate restructurings by significantly changing how companies value participation and business interests. These rules require adhering to the arm’s-length principle, ensuring transactions reflect true market conditions and prevent profit shifting.

This affects asset and interest valuations during restructurings, especially because having proper documentation and adhering to established methodologies—including traditional valuation techniques—are essential to mitigate risk and ensure compliance with the new regulations.

Since Brazil implemented the new rules in 2023, discussions have centered on how best to apply them to corporate restructurings involving Brazilian entities and related parties abroad.

A major topic of controversy involves restructurings with capital reductions of Brazilian entities, where shares of local subsidiaries are transferred to parent entities located abroad without taxation of capital gains in Brazil. Before the new rules, the use of book value were allowed by specific rules. Currently, it’s unclear whether the new transfer pricing rules should prevail in relation to these specific rules, which weren’t formally revoked.

The former transfer pricing rules theoretically could be applied to corporate restructurings. The Brazilian tax authorities explicitly stated that transferring Brazilian assets (shares of Brazilian entities) in cross-border restructurings involving related parties could be considered “export transactions” not subject to transfer pricing control. However, there is no record of tax assessments on this matter.

But then Brazil realigned the rules with the model established by the OECD, expressly providing that business restructurings are subject to transfer pricing control.

The new law aims to avoid transferring potential profits from Brazil to foreign jurisdictions, including the expected profits associated with the transfer of assets, as well as the transferring of functions, risks, and business opportunities.

Although still pending regulation by the Brazilian tax authorities, the provisions of law require business restructurings and transactions involving the transfer of assets—including shares and other interests—to be subject to the arm’s-length principle.

According to the new transfer pricing rules, the Brazilian tax authorities are allowed to disregard transactions when they involve related parties and controlled transactions implemented with the sole purpose of shifting taxable income. These rules tend to result in controversies and disputes, especially because the rules of Brazilian Tax Code (supplementary law that should prevail in relation to the transfer pricing rules) are pending regulation and only allow the disregard of transactions in case of fraud or simulation.

To adhere to the arm’s-length principle, taxpayers can use the five traditional Organization for Economic Cooperation and Development methods or rely on traditional valuation methodologies to achieve results, such as those in transactions between unrelated parties.

The OECD transfer pricing guidelines acknowledge that valuation techniques used in acquisition deals between independent parties can be useful for valuing the transfer of an ongoing concern between related parties.

Traditional methods, such as the market approach, income approach, and asset-based approach are recognized and used in acquisition deals and accounting. These ensure that the transaction price reflects what would be achieved in a comparable transaction between unrelated parties.

Fair market value is the price at which an asset would change hands between a willing buyer and seller, both having reasonable knowledge and neither under compulsion to buy or sell. This value reflects the price in an open market, considering factors such as business type, economic outlook, financial status, earnings potential, and market prices for similar assets.

Fair value, however, is the price received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Often used in financial reporting, fair value focuses on the price in a hypothetical transaction at the measurement date, considering the highest and best use of the asset.

In contrast, transfer pricing valuations adhere to the arm’s-length principle, ensuring transactions between related parties reflect true market conditions and prevent profit shifting.

When using traditional valuation techniques for transfer pricing, it is essential to consider tax implications and ensure the valuation aligns with the arm’s-length standard, supported by thorough documentation. Technology valuation must account for future contributions to development efforts and related goodwill, and valuations are typically on a pre-tax basis.

Although the new Brazilian transfer pricing rules don’t explicitly mandate every corporate restructuring adhere to the arm’s-length principle, companies should consider this aspect carefully, particularly in related party transactions aimed at shifting taxable income.

Chief financial officers and tax professionals must incorporate all of this into their planning, bearing in mind that the evolving landscape of Brazilian transfer pricing rules demands vigilance and adaptability to avoid potential controversies and ensure transactions reflect true market conditions.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Fabian Alfonso is a managing director in Kroll’s transfer pricing practice in Miami.

Guilherme Nascimento is director of transfer pricing for Kroll in São Paulo.

Felipe Cerruti Balsimelli is a senior associate at Pinheiro Neto Advogados in Brazil.

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