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Taxpayer Substitution Advanced Payment System

Author Paulo Vieira da Rocha

For decades the advanced tax collection was regarded as forfaitaire and, therefore, the estimated tax assessment
bases were definitive. However, in this judgment the Federal Supreme Court decided that all amounts collected are
only advanced payments and taxpayers are entitled to claim tax refunds when the sales are priced lower then the
presumed legal basis.

Parati Petroleo Ltda. (Parati) had its ICMS (the main VAT in Brazil; hereinafter: VAT) collected in advance. The
liability for such collection was attributed to its supplier (the oil industry). When these suppliers sold oil to Parati,
they had to gross up the price adding the VAT due by Parati.
For example, in a scenario where 10% VAT would be due and something was sold for USD 100, the oil industry
suppliers had to charge USD 115 to Parati (these example amounts are subsequently used in the text below). The
original price of USD 100 included the oil industry supplier’s VAT. This meant that the oil industry suppliers were
liable for both taxes, i.e. their own VAT and Parati’s VAT (in this case USD 15).
Parati’s VAT due was charged on a forfaitaire base of, using the amounts of the example above, USD 150,
presuming Parati’s retail price would be set at USD 150. The Brazilian VAT legislation included rules regarding the
predetermined margins according to which Parati’s tax assessment base was in such a case to be set at USD 150.
However, Parati used to sell its goods for a price which was lower than the tax assessment base. In the example,
although the tax assessment base was set at USD 150, Parati eventually sold the goods for, for example, USD 130.
Considering this price as the “real” tax assessment base, Parati claimed before court a refund of excess tax
collected on a USD 150 base. In a case where 10% VAT was due, Parati would have paid USD 15 tax but only
USD 13 was actually due. Therefore, Parati claimed a refund of USD 2 for each of those transactions used as

Legal background and issue
The controversial issue in this case was the meaning of Art. 150(7) of the Federal Constitution. This provision
allows what is called in Brazil a “taxpayers substitution based on presumed future taxable facts”. The system was conceived for the VAT collection and consists in attributing the liability for VAT due by the next dealers of the
same product to a producer or an importer of a good, concerning the sales that these next dealers will perform.
This means that the producer or importer pays its own VAT due and the VAT due by the gross dealer, and even the
retailer. Because the taxes are collected for future events, this taxable amount is to be assessed on a presumed base.
The most important VAT in Brazil is assigned to the member states (ICMS). Their legislations usually provide for
predetermined margins of value added. This means that when a producer sells its products it must first of all assess
its own VAT, which is based on its selling price. Subsequently, the producer must gross up this base by applying to
it a percentage which is a predetermined margin for value added related to the last sale to the final consumer. The
other taxpayers’ VAT will be assessed on this base. This amount will be charged together with the producer’s price.
All the next transactions for this product will already have been taxed before they occur.
The legislation of all member states included such provisions (some of them since the 70s), but it had always been
very controversial from a constitutional perspective. The Constitution was amended in 1993 to include a specific
clause authorizing such a regime (now Art. 150(7) of the Constitution). That provision mentions that the refund
of the VAT amount paid is to be refunded immediately to the substituted taxpayer (usually the retailer) when the
taxable event does not occur. Tax legislators and tax authorities always held the position that the taxable event
is the sale, so that a refund is only possible when the sale itself does not occur, for example when the goods are
destroyed, damaged, spoiled, stolen, etc. On the other hand, taxpayers always argued that if the presumed taxable
event is a sale for USD 150 and the actual price of it is USD 130, the “presumed event” did not occur, so they
would be entitled to a partial refund.
The issue concerned the meaning of “the taxable event does not occur”. In 2002, the Supreme Federal Court
decided that the tax assessment base was definitive, meaning that the regime was forfaitaire, so the VAT based on
the differences between actual prices and presumed prices (based on predetermined margins) was not refundable.
This decision maintained a judicial doctrine of many different lower courts developed since the beginning of the
The above-described background was also the issue in the Parati case. Parati claimed a refund for the difference
in VAT between the presumed selling price and the actual selling price. The Brazilian tax authorities, however,
did not grant this refund. As Parati did not agree with this denial, it brought the case before Brazilian courts, and
ultimately before the constitutional court.

In the Parati case, which was decided at the end of 2016, the Supreme Federal Court changed its position as set out
above and decided that the amount of VAT collected in advance within the framework of presumed tax assessment
bases (mainly predetermined margins) is strictly an advanced tax. This means that the predetermined prices
(presumed tax assessment bases) are now deemed to be rebuttable presumptions. This Supreme Federal Court
decision was based on the prevalence of the principle of the ability to pay over the principle of the practicability of

Editor’s notes
It might be that the taxpayers substitution regime for presumed taxable sales will be adopted increasingly less
frequently by member states, because, as a result of this case, taxpayers are starting to claim the refunds. The
main advantage of this regime for tax administrations used to be fact that the tax collection was concentrated
in the beginning of the product chain. Now, if the last retailers of products can claim a refund concerning the
differences between presumed bases and actual prices, these last taxpayers of the chain will need to be audited
and the refunds they claim will need to be verified. In the past, VAT auditing was concentrated on producers and
importers, but as from this judgment, it could encompass all dealers, especially retailers. The refund procedures,
for many reasons, became very complex. This means that the practicability, which was a very strong feature of the
taxpayers substitution regime, seems to be disappearing completely.