Brief Comments on the Provisional Measure n. 806, of October 30, 2017
In an extra edition of the Official Gazette ("DOU Extra") of October 30, 2017 and under the allegation of adjustment of the public accounts for 2018, the Provisional Measure ("PM") n. 806, of 30 of October 2017 ("MP nº 806/2017"), which provides for the collection of Income Tax ("IT"), including withholding tax ("WT"), on Investment Funds ("IFs"), in particular on IFs constituted as a closed condominium (ie "IFs Closed") and IFs in Participations ("IFPs"), directly impacting the market of these IFs.
Here, we describe, in summary, the main changes of the PM nº 806/2017 and their possible impacts to the IF market, without the pretension of exhausting all of its reflexes in the practical world, but in the attempt to draw attention to the great points that can impact the day-to-day activities of investors and market participants.
1) New WT Impact Moments in the Closed IFs in General - (Articles 2, 3, 5 and 6 of the PM nº 806/2017)
As stated in the "Explanatory Memorandum" of the Provisional Measure No. 806/2017, under the allegation:
reduction of existing distortions between the applications in IFs; and increase in federal revenues through the taxation of accumulated income from closed-end IF portfolios, which, in the words of the Executive Secretary of the Ministry of Finance, Eduardo Refinetti Guardia, "are characterized by a small number of quotaholders and strong tax planning". The PM nº 806/2017, in its articles 2 and 3, establishes that the Closed IFs, which do not permits the redemption of quotas during the term of their duration, will suffer the WT, not only on the occasion of the redemption or amortization of their quotas, but also, in a manner of a six-month basis, on the last business day of May and November of each year, under the system known as "come-quotas" (eat-quotas), hitherto applicable only to IFs constituted as an open condominium ("IFs Open").
Regarding the creation of this new tax generating fact, it is worth mentioning an excerpt from the aforementioned Exposition of Motives:
"(...) Today the tax rule provides for the incidence when the shareholder receives income by means of amortization of quotas or in redemption only. The new rule to be established by the PM defines the incidence in the pre-amortization or redemption phase as the income is earned, as in open-ended investment funds. Article 3 establishes, for the investments made in these funds, in relation to the following generating facts, rule of calculation and semi-annual collection, besides the rules for the hypotheses of amortization and redemption of quotas. (...) ".
WT Accumulated Gains
In this context, according to the terms of the Provisional Measure No. 806/2017, the quota holders of IFFIs Closed will be subject on May 31, 2018 to the WT on the income corresponding to the positive difference between the equity value of the quota ascertained on this date, May 31, 2018, including the income appropriate to each shareholder, and the respective cost of acquisition, adjusted by the depreciation.
Accordingly, pursuant to article 2 of the Provisional Measure 806/2017, the income and gains earned by the closed-ended IF portfolio (ie until May 31, 2018) accumulated and not distributed to the quota holders will be taxed by the WT ("WT Accumulated Gains"), in advance1, according to the rates defined in article 1 of Law 11,033, dated December 21, 2004 and article 6 of Law 11,053, dated December 29, 2004.
In this way, the Closed IFs will be subject to the WT Accumulated Gains in relation to the entire retained earnings / retained earnings at the level of their portfolio, and not only on the valuation of the last six months (or any other lower period). Particularly with respect to this "retroactivity" of Article 2 (WT Accumulated Gains), that is, application to past income (ie already earned by the portfolios of the Closed IFs), it is worth noting that in the view of our firm there are arguments for the judicial discussion about the constitutionality of this device, due to violation of the constitutional principles of non-retroactivity and the grace period of the Tax Law.
Regarding the income earned / accumulated by the quota holders of the Closed IFs, after the WT and from June 1, 2018, in line with article 3 of the PM no. 806/2017, will be the quota holders of these IFs Securities subject to WT in the following cases:
"Semi-Annual Income Tax", incident on the last business day of the months of May and November of each year; or WT at the time of eventual amortization or redemption of quotas as a result of the expiration...