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Cablegate: U.S. Accounting Firms Weigh-in On Brazil-U.S. Economic

VZCZCXRO3056
RR RUEHRG
DE RUEHSO #0240/01 1341144
ZNR UUUUU ZZH
R 131144Z MAY 08 ZDK
FM AMCONSUL SAO PAULO
TO RUEHC/SECSTATE WASHDC 8215
INFO RUEHBR/AMEMBASSY BRASILIA 9343
RUEHRI/AMCONSUL RIO DE JANEIRO 8706
RUEHRG/AMCONSUL RECIFE 4094
RUEHAC/AMEMBASSY ASUNCION 3384
RUEHBU/AMEMBASSY BUENOS AIRES 3136
RUEHCV/AMEMBASSY CARACAS 0728
RUEHMN/AMEMBASSY MONTEVIDEO 2688
RUEHLP/AMEMBASSY LA PAZ 3795
RUEHSG/AMEMBASSY SANTIAGO 2384
RUCPDOC/USDOC WASHDC 3078
RUEATRS/DEPT OF TREASURY WASHDC
RUEHC/DEPT OF LABOR WASHDC
RUCPDOC/USDOC WASHDC 3079

UNCLAS SECTION 01 OF 02 SAO PAULO 000240

SENSITIVE
SIPDIS

STATE FOR WHA/EPSC, WHA/BSC, EEB/OIA
STATE PASS USTR FOR KATE SUCKWORTH
TREASURY FOR JHOEK
USDOC FOR 4332/ITA/MAC/WH/OLAC
USDOC ALSO FOR 3134/USFCS/OIO

E.O. 12958: N/A
TAGS: ECIN EINV ECON EFIN BTIO BR
SUBJECT: U.S. ACCOUNTING FIRMS WEIGH-IN ON BRAZIL-U.S. ECONOMIC
PARTNERSHIP

REF: A) BRASILIA 551; B) RIO DE JANEIRO 089; C) 4/11
Erath/DOS-DOC-Treas-NSC e-mail congress lunch; D) 07 SAO PAULO 119

1. (SBU) SUMMARY: On April 23, 2008 Ambassador Sobel, Treasury
Attache, Senior Commercial Officer (SCO) and EconOffs met with the
Brazilian-arms of the American accounting firms Pricewaterhouse
Coopers, Ernst & Young, and KPMG. The themes of the U.S.-Brazil CEO
Forum dominated the discussion, including bilateral tax (BTT) and
investment (BIT) treaties, infrastructure, education, and
competitiveness. The firms were hopeful but not optimistic about
the potential to make significant progress in any of these areas in
the near-term. END SUMMARY

---------------------
Bilateral Tax Treaty
---------------------

2. (SBU) In recent Mission discussions with Brazilian authorities on
a BTT, the overwhelming concern that GOB authorities have voiced has
been related to information exchange and bank secrecy laws (Refs A,
B, C). Discussion with the firms, however, concentrated on
tax-sparing, tax assignment and transfer pricing as the major
hurdles ahead. On transfer pricing (the method chosen to price
inter-company transactions) Pricewaterhouse Coopers (PwC)
highlighted that Brazilian transfer pricing rules - which impose
arbitrary presumed profit margins - do not correspond to actual
market practices and OECD (and U.S.) transfer-pricing principles.
(Note: Germany suspended its BTT with Brazil in part due to
Brazil's transfer pricing practices. End note.)
3. (SBU) With regards to tax-sparing (provision whereby a
contracting state agrees to provide a credit in the home country
against foreign income that has not actually been collected), PwC
was of the opinion that the GOB should not get hung-up over this
issue, as the internal withholding tax rates in Brazil are generally
the same as the rates approved in most all treaties signed by Brazil
(and U.S. treaties allow for some flexibility in terms of
withholding rates). PwC also downplayed the GOB's concerns
regarding state tax disparities between the North/Northeast and the
rest of the country. Currently, the foreign tax credits available
to the subsidiaries of U.S. companies in those regions are at a rate
lower than the nominal tax rate in the U.S. In PwC's analysis, the
treaty would not change in any respect the existing tax results in
either country.

4. (SBU) In a recent study PwC did on the BTT for the Brazilian side
of the CEO Forum (and shared with the GOB), they concluded that the
BTT would benefit Brazilian investors "assuming that the treaty
would limit withholding income tax to a maximum of 15 percent"
(compared to the standard 30 percent levied under U.S. domestic law
for payments of non-U.S. persons of dividends and royalties). They
also predicted "no significant reduction for Brazilian tax
collection," highlighting that mid-sized U.S. companies would feel
more legal security investing in Brazil. Their analysis underscores
the potential for expanded employment opportunities derived from
increased U.S. investment.

---------------------------
Bilateral Investment Treaty
---------------------------

5. (SBU) On prospects for a BIT, the Ambassador noted that
divergences on arbitration have been the biggest impediment in
moving forward. PwC was of the opinion that in the short-term it
would be difficult to make progress on this issue, as it is one that
has to do with mindset and political sensitivities. At the same
time, the firms noted that this approach is bound to change over
time as Brazilian companies invest abroad with greater intensity.
Increasingly, the GOB will see international arbitration as being in
its best interest. For instance, PwC recalled that Petrobras was
considering international arbitration during the 2006
nationalization crisis with Bolivia.


SAO PAULO 00000240 002 OF 002


--------------
Infrastructure
--------------

6. (SBU) PwC was of the opinion that the GOB and state governments
need to look beyond Public-Private Partnerships (PPP's) to "more
sophisticated investment models" for attracting private investment.
(NOTE: PwC did not offer specific examples of what these more
sophisticated models are. END NOTE) PwC also raised the point that
privatization of infrastructure projects (roads, ports, airports)
carries the additional factor of falling under national security
considerations. Other factors weighing on investor calculations
include the lack of transparency of regulations and licensing
requirements, and a legal framework that makes corporate managers
personally liable for certain environmental and workplace
violations. Moreover, the performance bonds associated with
Brazilian infrastructure projects are sometimes backed by banks that
are not held in high repute by international investors. (COMMENT:
This assessment of the GOB's rocky start with PPP's is consistent
with what the Commercial Service is hearing from U.S. companies
concerning their experiences to date with infrastructure projects.
END COMMENT.)

------------------------------
Competitiveness and Tax Reform
------------------------------

7. (SBU) There was extended discussion on Brazil's domestic tax
regime and competitiveness. Brazil's standing among the most
burdensome tax systems in the world has real consequences for
Brazil's competitiveness globally. All highlighted the ICMS tax
(rough VAT-equivalent collected at the state level) as being
particularly frustrating. ICMS rates and tax benefits vary from
state to state, and have a history of sparking tax disputes between
states and hindering the operations of foreign companies (Ref D).
All the firms were of the opinion that the tax reform proposal that
the Lula government submitted to Congress in early March is a good
one, but that it is unlikely to be approved due to lack of political
ownership and the fact it will create revenue loss among some state
governments who will oppose the measures. As the decision to change
ICMS rules would also require a constitutional change, the chances
of this happening are slim. Nevertheless, the firms voiced support
for the GOB proposal to standardize the ICMS/VAT and compensate the
states for the lost revenue by transferring other taxes back to the
states. (Note: This will be the second tax reform proposed during
Lula's presidency and aims to simplify the current tax code rather
than reduce the tax burden. The 2003 proposal failed to make
meaningful reforms due to similar opposition from state governments.
End Note.)

-------------------------------
October 2008 CEO Forum Planning
-------------------------------

8. (SBU) The firms had several suggestions for themes to be included
on the October 2008 CEO Forum agenda: 1) education, highlighting
that education is at the heart of competiveness; 2) environmental
issues including carbon credits and climate change; 3) biofuels and
energy policy; and 4) financial market trends, including Brazil's
growing rate insurance market (insurance against changes in exchange
rates, performance bonds, interest rates, etc.). In addition, the
Ambassador agreed to consider whether to recommend to the members of
the CEO Forum that they include a meeting with the Big 4 accounting
firms on their agenda as well.

9. (U) This cable has been cleared by Ambassador Sobel and
coordinated with the US Treasury Financial Attache in Sao Paulo.

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