The Brazilian Government increases IOF taxation on stock market transactions and Investment Participation Funds (FIP)

Enacted on October 20, 2009, Federal Decree 6,983 increased to 2% the taxation of the IOF (Tax on Credit, Exchange and Insurance Transactions) levied on inflow of foreign capital invested in the Brazilian stock market.

Before this Federal Decree, foreign investments made in the local stock market were subject to zero (0%) rate taxation. The Brazilian Government increased the taxation on foreign capital trying to mitigate the recent appreciation of the Brazilian Real against the US Dollar/Euro which, according to the Government, is caused by the inflow of “volatile foreign capital”, i.e., short-term investments made through the BOVESPA¹. The over-valuation of the Brazilian Real would, in the Government’s opinion, increase the cost of Brazilian exports, affect the local FX market, amongst other consequences which they believe are detrimental.

In addition to the stock market investments, the increase of the IOF taxation will also affect foreign investments made via Investment Participation Funds (FIP). Despite not necessarily involving publicly-traded companies, FIP structures are subject to the control of the Brazilian Central Bank (Resolution 2689) and to the rules of the Brazilian Securities Commission (CVM).

FIP investments made by foreign investors are exempt from taxes in Brazil and, without doubt, this more favorable tax treatment has been contributing to the growth of foreign investments in Brazil. Indeed, FIP does not consist of a structure for short-term investments, i.e., investments that the Brazilian Government wants to minimize. This new 2% taxation, however, may jeopardize the inflow of foreign capital to Brazil. Future M&A transactions involving the traditional FIP structure should consider such higher taxation from now on.

¹ São Paulo Stock Exchange

By Fábio Dantas, Senior Manager – M&A Tax