Ad rem rates and tax evasion


Author Everardo Maciel

Source: Gazeta Mercanti, 21/06/2007

June 21, 2007 - The tariff for importing textiles, by weight, is not protectionism. China has adopted an extremely aggressive foreign trade policy, which is one of the reasons that explain the spectacular growth rates that it has been registering in recent years. To make their products competitive, the Chinese use legal and illegal means. They unabashedly resort to dumping, piracy, under-invoicing, payment of wages vis-à-vis their workers and other means that show unfair trade practices.

The prices of certain Chinese products that reach the national market take on an air of mockery, without any comparison with those usually practiced in the international market. Customs in the verification of prices for the purpose of applying the import tax and other encumbrances on the import of goods make use of the customs valuation rules, established by the Marrakech Agreement and accepted by the World Trade Organization (WTO).
The truth, however, is that these rules have not been effective in stopping these cases of under-invoicing. It does not matter to raise the import tax rates, since the calculation base adjusts downwards, neutralizing the potential effect of the increase in the customs tariff.

Under-invoicing combined with exchange rate appreciation circumstances can have profoundly damaging effects on domestic production. There is no productivity that can resist this combination, especially in the more traditional industrial sectors. The Brazilian textile sector, for example, has been the target of harmful competition with Chinese products. The adoption of protective measures, in this case, cannot be confused with an act of protectionism, in the pejorative sense of that word. On the contrary, it is an imperative measure in the defense of national production and employment.
The Brazilian government did well when it accepted demand from the Brazilian Textile Industry Association (ABIT) to tax the import of textile products through the use of an ad rem rate, also called a specific rate. The collection of import tax, as provided for in art. 20 of the National Tax Code, can be effected by applying ad valorem or ad rem rates: in the first case, the calculation basis will be the price; in the other, it will be a unit of measurement fixed by law (for example: weight, volume, nature of the container or any other physical unit). The choice of the rate type will always result from convenience dictated by the prevention of tax evasion and, in the form of art. 146-A of the Constitution, of competitive tax deviations.

The application of ad valorem rates in importing textile products is complete naivety. The Chinese will know how to manipulate prices in such a way that there will be no effective customs valuation rule. Brazil, as the US and other developed countries often do, will start taxing textile imports based on an ad rem rate, that is, a fixed value, in Reais, per kilo of the product. A lesson can be drawn from all this: when the price is difficult to measure or easily manipulated, the remedy is to resort to the ad rem rate. This dilemma also applies to taxes on consumption, particularly excise taxes on consumption, such as the Tax on Industrialized Products (IPI).

In Brazil, pursuant to Law No. 7.798 / 89, the IPI on beverages started to be taxed through ad rem rates, in view of the wide manipulation of prices that served as the basis for calculating the application of ad valorem rates. It was very difficult, almost impossible, to identify the portions of prices attributable, for example, to transport or advertising, which are not part of the IPI calculation base. As a result, there was an extraordinary increase in revenue. Subsequently, this same rate was applied to the tobacco sector (IPI) and the fuel sector (Cide).
Many countries use this same solution to determine the basis for calculating excise taxes. Not always for the same reasons that inspired the Brazilian solution. In Europe, for example, beverage taxation seeks to make taxpayers aware of the negative externalities of their preferences. Thus, the taxation of beverages increases with its alcohol content. This type of taxation, of course, can only occur with ad rem rates.

From time to time, in Brazil, some taxpayers protest against the use of ad rem rates. The argument used is curious. It is claimed that the ad rem rate is not proportional. Therefore, products with different prices are taxed at the same value, in reais. Now, that statement is a mere truism. If taxation were proportional to price, it would be ad valorem, not ad rem. Perhaps we want, without clear concatenation, to resort to the principle of contributory capacity to defend the prevalence of ad valorem rates, denying international experience.
In consumption taxation, the real contributor is the consumer. Should the principle of contributory capacity be applied, it would mean that the tax would be differentiated according to the consumer's income, which is impractical. However, it is admitted that the same ad rem rate applies to products with different prices. This impact could result in different margins for products. It happens, however, that these margins form the basis for calculating Income Tax and social contribution on net income, with greater repercussion precisely in the higher margins. There is, therefore, a mere transfer between taxes.
The singular thing is that these complaints coincide with the progress in the process of implementing flow meters in the beverage industries - a decisive measure in combating evasion in the sector and only consistent with the existence of ad rem rates. Price as the basis for calculating the IPI for beverages would render the system of flow meters harmless and would make the party of tax evaders.

kicker: There is no productivity that can resist the combination of under invoicing with exchange rate appreciation circumstances

Gazeta Mercantil / Caderno A - Page 3

Everardo Maciel – Tax consultant and former secretary of the Internal Revenue Service.

Next article by the author on July 12