BRAZILIAN UPDATE – Debenture financing for infrastructure projects, R&D and innovation – Reduced income tax
- New legislation reduces the income tax applicable to income from debentures issued by special purpose companies (SPCs) incorporated to carry out infrastructure investment projects or projects for intensive economic production in research, development and innovation that are deemed “priorities” by the federal government.
- Legal entities domiciled in Brazil are subject to a 15% tax rate on income earned from Infrastructure Debentures that are issued by December 15, 2015 and meet other conditions.
- With these initiatives, the equity market should become an important source of funding for infrastructure projects, giving not only entrepreneurs but also private investors a greater role in developing Brazil’s needed infrastructure.
In June of last year, Federal Law 12,431 introduced new rules on debentures to encourage the private sector to help finance longer term infrastructure projects.
One of the important changes made by the new legislation was to reduce the income tax applicable to income from debentures issued by special purpose companies (SPCs) incorporated to carry out infrastructure investment projects or projects for intensive economic production in research, development and innovation that are considered to be “priorities” by the federal government (“Infrastructure Debentures”).
Under Law 12,431/2011, the income tax rate for income from Infrastructure Debentures received by individuals resident in Brazil is zero, effectively making it tax-free, while income from Infrastructure Debentures earned by legal entities domiciled in Brazil is subject to income tax at a rate of only 15%, withheld at source.
In order to benefit from these favourable tax rates, the Infrastructure Debentures must be issued by SPCs created to implement “projects for investment in infrastructure or for intensive economic production in research, development and innovation considered to be priorities under regulations issued by the federal government.” In addition, the Infrastructure Debentures must be issued by December 15, 2015, and meet all of the following conditions:
i) the debentures must pay interest at a rate fixed in advance and linked to a price index or reference rate. Post-fixed interest rates are prohibited;
ii) they must have an average weighted term to maturity of more than four years;
iii) they cannot be repurchased by the issuer within the first two years following the issued date, and early redemption and prepayment are prohibited;
iv) the purchaser must not have assumed a commitment to resell the debentures;
v) if interest will be paid periodically under the debentures, the interval between payments must be at least 180 days; and
vi) there must be proof that the debenture was traded on regulated securities markets.
Decree 7603, which was published on November 10, 2011, defines the type of project that will be considered a “priority” by the Brazilian government. According to the Decree, a project will be a “priority” project if it is directed to construction, expansion, maintenance, restoration, adaptation or modernization of facilities in the following sectors:
i) logistics and transportation,
ii) urban mobility,
iv) telecommunications and broadcasting,
v) basic santitation, and
The priority list is not exhaustive, and in some cases projects in other sectors can be treated as priority.
The Ministries responsible for the various sectors will issue rules setting out the requirements for approval of priority projects, and the mechanisms for overseeing implementation of approved projects.
Each project must be submitted to the appropriate Ministry, together with the supporting documentation listed in the Decree and any other documents the responsible Ministry may require. The various Ministries have discretionary powers to determine if a submitted project meets the requirements to be considered a priority. Projects are approved individually, by publication of the Ministry’s decision in the official gazette.
Decree 7603/2011 provides that any SPC may manage a priority project, as long as it is incorporated specifically for that purpose. Infrastructure Debentures issued by SPCs can be distributed publicly if the SPC obtains issuer registration from the Brazilian Securities Commission, the CVM, although the registration requirement can be waived if the debentures will be placed under a “restricted efforts” offering.
SPCs that fail to implement approved projects are subject to a fine of 20% of the total value of the debenture issue. In order to facilitate inspection and control of SPCs’ compliance with their legal obligations, SPCs are required to:
(i) provide a list of the legal entities that hold interests in the SPC to the responsible Ministry, and keep the list up-to-date;
(ii) in the case of public offerings of Infrastructure Debentures, ensure that the offering documents highlight the number and date of the Ministry’s approval of the priority project, and the commitment to allocate the funds obtained through the offering to the approved priority project; and
(iii) keep all documentation related to the use of the funds available for inspection, for at least five years after the maturity date of the Infrastructure Debentures.
Lastly, the CVM is required to maintain a list of Infrastructure Debentures offerings on its website, showing the amount of each debenture issue and the related priority project.
In addition to the Infrastructure Debentures, Brazil has created other mechanisms to stimulate private investment in large infrastructure projects over the next years, such FIP-IEs, which are private equity infrastructure funds, and the special type of investment fund provided for under Law 12,431/2011, which is designed to acquire Infrastructure Debentures.
With these initiatives, the equity market should become an important source of funding for infrastructure projects, giving not only entrepreneurs but also private investors a greater role in developing Brazil’s infrastructure, and consequently reducing the demands on public resources.