Companies’ first reaction to the Brazilian tax reform has been to revisit the pricing clause: recalculate the tax and protect the margin. That is necessary, but far from sufficient.
This is because the ability to claim tax credits will now also depend on the counterparty paying its own taxes on time, and the contract needs to be prepared for that.
The new tax logic creates obligations between the parties and makes one company’s credit depend on the conduct of whoever sits on the other side of the contract. For this reason, the review must be preventive: the contract should anticipate risks rather than attempt to set definitive formulas. Nor is there a standard clause. What works in a supply agreement may not suit a lease or a relationship with a supplier under Simples Nacional, Brazil’s simplified tax regime. Each relevant contract requires understanding the impact on that specific business, which calls for a cross-functional effort.
1.Price and cash flow: The first step is to define whether taxes are included in the price or added on top of it, a format that is likely to become the most common. The moment the tax leaves the company’s cash and the credit comes in may no longer match the invoicing and payment terms currently in place. Those who anticipate this mismatch renegotiate payment terms and billing formats; those who do not may end up financing their counterparty’s operations.
2. Responsibilities: It must be clear who pays each tax, who issues and files each document and return required by the tax authorities, and who is liable for errors or delays. Ambiguities that used to be manageable day to day now have a direct effect on one party’s credit, and therefore on the actual cost of the transaction.
3. Consequences of the counterparty’s late payment: If the company’s credit depends on the counterparty paying its taxes on time, late payment is no longer the counterparty’s problem alone. Assessing whether the company itself can pay the tax directly and deduct that amount from the payment owed to the counterparty may be an option worth negotiating. A traditional contractual penalty does not cover this loss, and even compensation for the lost credit depends on collecting from a counterparty that is already in default.
4. Transition: The current and new models will coexist for several years, with rules still being detailed and some of them being challenged. Rather than trying to resolve everything now, the contract should provide for review points and objective criteria to rebalance price and obligations as the actual effects become clear.
Mapping which relationships carry the greatest tax and strategic weight, and bringing that analysis to a table that includes the business, tax and legal teams, may be the most effective strategy for Brazilian business. Understanding which of your most relevant contracts leave your credit in a counterparty’s hands will be essential to this mapping. And it is worth remembering that your clients will be asking the same question: the protections your company demands from suppliers are likely to be demanded of it at the other end of the chain.
