This year, Brazil’s National Congress will focus on the second phase of tax reform, which will change the charging and payment of income tax. There are also expectations of changes in profits, dividends and assets taxation.
According to Constitutional Amendment 132, promulgated by the National Congress on December 20 last year, the proposals of the second phase need to be sent to parliamentarians within 90 days after promulgation. It means that the federal government needs to determine the income and wealth tax proposals by March 19.
The first phase was about tax reform on consumption. The simplification and unification of taxes on consumption may happen gradually. The new taxation on goods and services will come into force in 2026 and end in 2023.
The second phase will focus on changes in income tax. The proposed model is yet to be defined. However, there are expectations to end the exemption on profits and dividends distributed by companies, changes in interest taxes on equity paid to shareholders, changes in payroll taxation and implementation of a progressive income tax, that is, whoever receives more, pays more, proportionally to income and wealth.
The tax reform emerges in addition to bill 4,173/2023, approved by the Senate on November 29 last year and establishing new rules for charging income tax on exclusive investment funds and income obtained abroad through companies that invest in the financial market, also known as offshores.
Taxation and inequality reduction
Nathalie Beghin, an economist and member of the Management Collegiate at the Institute of Socioeconomic Studies (Inesc, in Portuguese), says the second phase is the most crucial of tax reform because it can substantially reduce economic inequality. “It’s obvious that the first phase presents interesting results, but what will really contribute to tackling inequality is the second phase, which includes taxing wealth and income,” she stated.
“We also need to tax profits and dividends. The progressiveness is even in income and wealth taxation: vote on profits and dividends taxation; increase income tax rates, but not include the lowest incomes; have higher tax rates for higher incomes; regulate inheritance taxation," she emphasizes.
The economist says that only implementing a progressive tax system will make Brazil a less unequal country. “We know Brazil is an extremely unequal country, among the world’s most unequal countries. One of the ways of structurally reversing inequality is by taxing the richest people. It’s not just making the tax system a neutral one, but taxing the super-rich, income and wealth itself,” she explained.
“Taxing the richest people generates more budget for the state, which makes social programs possible. Tax reform is important because it will generate resources to improve, for instance, education and health.”
Today, Brazilians whose monthly wage is up to BRL 2,112 (US$ 435) are exempt from paying income tax. Above that, the minimum rate is 7.5%. The maximum rate is 27.5% for monthly wages above BRL 4,664.68 (US$ 960). By way of comparison, the maximum rate is 47.5% in Germany, 45% in China and 61.85% in Sweden, according to 2019 data collected by the news website g1.
In the same vein, Jefferson Nascimento, who coordinates research and advocacy in social and economic justice at Oxfam Brazil, states that the progressiveness of income tax on natural persons must be the priority, in addition to the overturning of mechanisms that currently allow the richest people to pay less taxes than people with lower incomes.
One of these mechanisms is the deduction of health expenses from the personal income tax calculation base. Nascimento, who is also a member of the Council for Transparency, Integrity and Combating Corruption of the Comptroller General of the Union (CGU, in Portuguese), explains that Brazilian legislation does not establish limits on income tax deductions. “This generates great inequality because people greatly reduce the calculation base for health expenses,” he says.
A report produced by the Secretariat of Economic Policy of the Ministry of Finance with data from the Personal Income Tax Declaration for 2022 shows that 10% of the richest people in the country concentrate 37.6% of all the amount of deductions for medical expenses, while the richest 1% accounts for 22.7%. According to the document, published at the end of 2023, “the absence of deduction limits for medical expenses is repeatedly highlighted as a distortion that reduces the progressivity of the Income Tax, generating distributional distortions and affecting tax justice."
“Brazil’s Revenue Service doesn’t collect BRL 26 billion (over US$ 5,35 billion) due to deductions for medical expenses. We have these loopholes that make rich people pay less taxes than middle-class people. Now that we have a new tax framework based on increasing revenue, there is a system that allows these loopholes worth billions of reais,” Nascimento says.
Here is a list of costs that can be deducted from the calculation of personal income tax in Brazil: medical expenses, laboratory and radiological exams, hospital expenses, birth expenses, health insurance, preventive plastic surgery or physical/mental treatments.
Thorny topic
Differently from the tax reform on consumption, the change in the income tax doesn’t need a proposed amendment to the Constitution. A bill is enough, meaning fewer votes are needed to approve it. Despite this, the second phase should not be as easy as the first phase.
The minister of finance himself, Fernando Haddad, admits there will probably be some obstacles. “The change in income tax will demand [from us] many explanations, caution, tranquility and good sense. We cannot solve things thoughtlessly,” he said during a breakfast with journalists at the end of December. With the new taxation rules, the goal is to reach zero deficit by 2024, that is, the government cannot spend more than it collects, according to the 2024 Budget Guidelines Law.
Brazil’s businesspeople argue that the taxation of natural persons' profits and dividends (partners, shareholders, controllers and investors) would increase the tax burden of businesses, therefore affecting jobs.
Jefferson Nascimento says the recent news is a reason for “concern”. In his first interview in 2024, Haddad said to the Brazilian newspaper O Globo that the priorities for the new year are to implement tax reform, reach the fiscal target and establish a measure to reduce dollar volatility.
“The challenge we have for approving tax reform in 2024 is that, as we have municipal elections, there is a time problem [that prevents some measures from being approved], which will have to be assessed politically. Consumption regulation needs to be voted on first, especially because, in 2026, it will already come into force," he said. Regarding this, Nascimento states “Haddad said that regulating income tax was a controversial and thorny topic in Congress. It seems the discourse has changed a little, which worries us.”
Edited by: Thalita Pires
