Brazil tax authorities rule on treatment of payments for right to commercialize or distribute software

• In a Private Letter Ruling, Brazil tax authorities ruled that payments abroad for the right to commercialize or distribute software in Brazil should be treated as royalties for tax purposes.

• A distinction was drawn between the right to distribute and the right to use the software.

• Taxpayers in Brazil with similar facts will want to consider how the analysis described in this ruling might apply to their situations.

In June 2024, Brazil tax authorities (RFB) published Private Letter Ruling ("Solução de Consulta" in Portuguese) No. 177 dated 24 June 2024 (the Ruling), which addresses the tax treatment of remittances abroad for the right to commercialize or distribute software.

The RFB ruled that such payments are classified as royalties for Brazilian tax purposes and are therefore subject to a 15% withholding tax (WHT). Further, the RFB ruled that payments for the right to distribute or license cloud-based platforms, without transferring source code, are not subject to the 10% Contribution for Intervention in the Economic Domain (CIDE). Finally, the Ruling also confirmed that software royalties are not subject to social security contributions on imports (PIS/COFINS-Import), provided that the amounts are separated from any connected services in the supporting documentation.

Background

The treatment of licenses related to the use, distribution and commercialization of software has been a controversial issue in recent years. Following decisions from the Supreme Federal Tribunal (STF) in 2021 permitting the application of municipal service tax (imposto sobre servicos or ISS), the RFB adopted a new trend treating such transactions as "services" rather than "royalties" for the purposes of considering certain federal taxes, creating uncertainty for taxpayers in light of previously issued and unrevoked rulings. For example, in Private Ruling ("Solução de Consulta" in Portuguese) No. 107/2023, dated 6 June 2023 (Ruling 107/2023), the RFB considered that the license for use of software should be viewed as a "royalty" for WHT purposes, but as a "service" for PIS/COFINS-import purposes.

In the present case, the Brazilian entity requesting the ruling had entered into a distribution agreement for licenses of an educational content platform developed by a US company and delivered through a cloud-based platform (software-as-a-service or SaaS) model, targeting Brazilian clients. The Brazilian clients contract the Brazilian entity for access to the relevant content/services. The Brazilian entity, in turn, remits payments abroad as compensation for the economic exploitation rights of the platform in Brazil.

In this context, the Brazilian entity sought clarification on the tax characterization of these remittances:

1. Whether the remittances abroad for purposes of remunerating the right to distribute the technological and educational services should be subject to (i) WHT under the general source and royalty WHT rules, or (ii) considering the educational content conveyed by the platform, the specific exemption applicable to remittances for educational purposes
2. Whether the remittances abroad in return for the right to distribute and license the platform (i) in the cloud and (ii) without transfer of the source code should be subject to PIS/COFINS-import
3. Whether the remittances abroad in return for the right to distribute and license the platform (i) in the cloud and (ii) without transfer of the source code should be subject to CIDE

In classifying and analyzing the legal nature of the remittances, the RFB referred to Law No. 9,609/1998 (Software Law), which draws a distinction between "rights to use" (art. 9) and "rights to distribute or commercialize" (arts. 10 and 11).

The RFB considered that the Brazilian company remunerated the foreign company with a view to obtaining the right to distribute or market the foreign company's product or service, represented by the license to use the software that allows access to the educational platform. Subsequently, the Brazilian company sold the licenses of use that it had acquired to third parties in Brazil. By remunerating the holder of the rights, the Brazilian company's role as an intermediary (and not of the final user) is verified. This scenario clearly fits the type of contracting provided for in art. 10 of the Software Law.

WHT

On the first question, the RFB excluded the possibility that the remittances at hand could qualify for the specific exemption applicable to remittances "for educational, scientific, or cultural purposes" as such qualification (and consequent WHT exemption), according to the RFB, is aimed exclusively at amounts sent for the maintenance of individuals at events or programs abroad for educational, cultural or scientific purposes, which was not the case under analysis. The RFB referred to Private Ruling 123/2021 (dated 13 September 2021).

Therefore, considering that the payments referred to compensation for the economic exploitation of intangibles developed by third parties, the RFB also referred to its previous Private Ruling 18/2017 (dated 27 March 2017) and Interpretative Declaratory Act 7/2017 (dated 21 December 2017) to conclude that payments for the right to distribute or commercialize software for resale to a final consumer should qualify as a royalty, subject to WHT at 15%.

In concluding the discussion on WHT, the RFB distinguished the present circumstances involving the right to distribute or commercialize software from the decisions of the STF that contemplated a "right to use" the computer programs.

PIS/COFINS-Import

Whether the royalty payments should be subject to PIS/COFINS-Import also needed to be analyzed. As noted above, in a recent controversial ruling (Ruling 107/2023), the RFB decided that PIS/COFINS-Import should be due in relation to payments for the license to use software.

Historically, rulings issued by the RFB had consistently confirmed that PIS/COFINS-Import should not apply to royalties related to software. However, while Ruling 107/2023 characterized the relevant software license as a royalty for WHT purposes, it treated the license as a service for PIS/COFINS-Import purposes. This controversial position (and lack of consistency concerning the legal nature of the payment in terms of the different taxes) created uncertainty around how the RFB would treat such payments going forward.

In the present Ruling, the RFB distinguished the present case from Ruling 107/2023 on the basis that the present case involved a right to distribute or commercialize software, rather than the right to use software. This distinction is an interesting development and will need to be monitored going forward.

In line with previous rulings (including Ruling 342/2017, dated 26 June 2027, which was specifically referred to), the RFB determined that payments related to the license to distribute or commercialize the software qualified as software royalties and are not subject to PIS/COFINS-Import, provided that these amounts are separated from any connected services in the supporting documentation.

CIDE

Regarding the application of CIDE, the RFB also cited a previous ruling (Private Ruling 342, dated 26 June 2017) acknowledging that a specific legislative exemption applied when there is no transfer of technology.

In the case of software, the transfer of technology is generally represented by the transfer of the source code, which did not occur in this particular case.

The Ruling appears to represent a welcome development and provides some clarity on the appropriate rules to consider for distribution/commercialization arrangements involving cloud-based platforms, particularly in light of previous RFB rulings that such cloud-based platforms/SaaS and remuneration for their distribution rights should be viewed as "technical services." The present ruling did not address these previous rulings.

Implications

While a Private Ruling ("Solução de Consulta" in Portuguese) does not constitute law or legal precedent, it does provide further support and guidance for Brazilian entities in relation to how the RFB is treating arrangements under consideration.

The Ruling provides some welcome clarity in relation to the RFB's view of the proper tax treatment of software distribution and commercialization arrangements. Therefore, Brazilian taxpayers and multinationals with similar arrangements should consider how the RFB's analysis in the Ruling might apply to their situations and whether operational restructuring of their arrangements may help in obtaining additional certainty in relation to the relevant tax implications.

For additional information concerning this Alert, please contact:

Ernst & Young Brazil

• Gustavo Carmona

• Mark Conomy

Ernst & Young LLP (United States), Latin American Business Center, New York

• Ana Mingramm 

• Aline Millá 

• Moritz Gattaz 

• Monique Zuzarte 

Published by NTD’s Tax Technical Knowledge Services group; Carolyn Wright, legal editor

For a full listing of contacts and email addresses, please click on the Tax News Update: Global Edition (GTNU) version of this Alert.