Limitation on the use of State Goods and Services Tax (ICMS) credits on shipments of goods and merchandise between subsidiaries

In accordance with the Brazilian Constitution, the general ICMS rules were established by Complementary Law No. 87/1996 (Kandir Law). This law contained a provision, recently deemed unconstitutional by the Brazilian Supreme Court (STF), which mistakenly allowed ICMS to be levied on shipments of goods and merchandise between establishments owned by the same taxpayer.

As a result, state tax authorities improperly demanded payment of ICMS on these transactions. However, case law has consolidated the view that in this situation the ICMS triggering event does not occur. That is, this specific transaction cannot be taxed by this tax.

This is a long-standing debate that has been going on since the days of the now extinct ICM, which preceded the ICMS, whose brief history was brought up in the judgment of Matter No. 1099 by the STF, as shown below:

"Based on articles 1 and 6 of Decree-law No. 406/1968, the Superior Court of Justice (STJ) issued precedent No. 166, which reads: "The mere movement of goods from one establishment to another that is owned by the same taxpayer does not constitute an ICMS triggering event." Furthermore, under the rite of repetitive appeals, the Higher Court established a judgment thesis with the same wording as the aforementioned precedent in the context of Matter No. 259, reported by then STJ Justice Luiz Fux, which discussed the non-levy of ICMS on the mere movement of equipment or goods between establishments owned by the same taxpayer, due to the absence of circulation for the purposes of transferring ownership. In view of this case law guideline, set against coinciding and diverse positions within the other bodies of the Justice system, I note that Direct Action for the Declaration of Constitutionality (ADC) No. 49 is being processed by this Court, seeking a declaration of the constitutionality of articles 11, paragraph 3, item II; 12, Section I: and 13, paragraph 4, of Complementary Law No. 87/2006, which defined, respectively, the principle of establishment autonomy, the ICMS triggering event also in the event of goods leaving the establishment, even if to another establishment owned by the same taxpayer, and the calculation basis for these transactions. (...)

Based on these legal assumptions, the case law of the STF points to the effect that the mere movement of goods between establishments owned by the same taxpayer does not constitute the movement of goods, thus de-characterizing the ICMS triggering event. In this respect, it is irrelevant that the origin and destination are in different territorial jurisdictions.

(...) Consequently, I partially grant the interlocutory appeal to hear the extraordinary appeal and, in the known part, to grant it, in order to grant the injunction sought by the plaintiffs with a view to ordering the defendant state to refrain from charging ICMS in a situation corresponding to the interstate transfer of cattle between establishments owned by the appellants, without the characterization of a commercial act, as well as from promoting acts that prevent this movement. On the other hand, the state issues the rural producer invoices required for said transportation, without making them conditional on prior payment of the tax.” (Emphasis added).

For many decades, case law has held that the ICMS triggering event does not occur in the transfer of goods and merchandise between establishments owned by the same taxpayer, even if they are in different states, because it does not involve commercialization.

This operation of sending goods and merchandise between branches is similar to exchanging a product on the shelf, and ICMS can usually only be levied on the actual sale.

In 1996, the Superior Court of Justice (STJ) issued Precedent No. 166:

"Precedent No. 166/STJ; "The mere movement of goods from one establishment to the other of the same taxpayer does not constitute an ICMS triggering event."

Later, in 2010, this view was ratified, when the Higher Court once again judged the matter, with regard to fixed assets, in Matter 259/STJ, establishing the following thesis:

"The mere movement of goods from one establishment to the other of the same taxpayer does not constitute an ICMS triggering event."

Despite the firm case law recognizing the impossibility of charging ICMS on transfers between establishments owned by the same taxpayer, state tax authorities have continued to issue notices of deficiency to demand the tax.

The debate reached the STF, which ruled on the matter, with regard to interstate transactions, in Matter 1099/STF, establishing the following thesis:

"ICMS is not levied on the movement of goods from one establishment to another establishment owned by the same taxpayer located in different states, since there is no transfer of ownership or the performance of an act of commerce." (STF, ARE 1255885, judged on 8/15/2020, published on the Electronic Court Gazette (DJE) on 9/15/2020, and the decision became final and unappealable on 10/14/2020)".

Thus, the Brazilian Supreme Court (STF) confirmed the understanding established by the Superior Court of Justice (STJ), in Precedent No. 166 and Matter No. 259.

However, the governor of the state of Rio Grande do Norte filed Direct Action for the Declaration of Constitutionality No. 49, asking the Brazilian Supreme Court (STF) to validate the collection of ICMS on this transaction.

Forced to rule again on the matter, the STF once again confirmed the understanding of Precedent No. 166, Matter No. 259/STJ and Matter No. 1099/STF, when it judged Direct Action for the Declaration of Constitutionality (ADC) No. 49, declaring the unconstitutionality of the provisions of the Kandir Law, stating that ICMS is not levied on the movement of goods from one establishment to another establishment owned by the same taxpayer:

"CONSTITUTIONAL AND TAX LAW. DIRECT ACTION FOR THE DECLARATION OF CONSTITUTIONALITY. ICMS. PHYSICAL MOVEMENT OF GOODS FROM ONE ESTABLISHMENT TO ANOTHER ESTABLISHMENT OWNED BY THE SAME TAXPAYER. ABSENCE OF TRIGGERING EVENT. PRECEDENTS OF THE COURT. NEED FOR A LEGAL TRANSACTION INVOLVING THE OWNERSHIP AND POSSESSION OF ASSETS. THE CASE WAS DISMISSED.

1. While the law in question stipulates that ICMS is levied on the exit of goods to an establishment located in another state, belonging to the same owner, the Judiciary branch believes that it is not levied, a situation that immediately exemplifies clear legal uncertainty in the tax field. The requirements laid down in Law No. 9868/1999 for processing and judging this Direct Action for the Declaration of Constitutionality (ADC) have therefore been met.

2. The movement of goods between establishments owned by the same taxpayer does not constitute a triggering event for ICMS, even if it is an interstate movement. Precedents.

3. The triggering event is a legal transaction carried out by a trader which results in the movement of goods and the transfer of ownership to the final consumer.

4. Declaratory action dismissed, declaring the unconstitutionality of articles 11, paragraph 3, II, 12, I, in the section "even if to another establishment owned by the same taxpayer", and 13, paragraph 4, of Federal Complementary Law No. 87, of September 13, 1996." (Emphasis added)

It is worth highlighting an excerpt from the vote, delivered by Justice Edson Fachin:

"Thus, if we interpret the Brazilian Constitution, the movement of goods that generates ICMS is legal. I therefore believe that the mere movement between establishments owned by the same taxpayer, in the same state or in different states, is not an ICMS triggering event, and this is the consolidated understanding of this Court, guardian of the Constitution, which has applied it for years and to this day."

However, an appeal was filed and the STF opted to modulate the effects of the decision so that "it will have pro-future effectiveness as of the 2024 financial year, with the exception of administrative and judicial proceedings pending conclusion until the date of publication of the judgment of the decision on the merits'.

This modulation was motivated by the potential economic damage that the decision could impose on the states, which have historically taxed ICMS on transfers of goods between their subsidiaries.

This measure was implemented to ensure that these repercussions would only come into force from the 2024 financial year, providing an adequate period for states to organize themselves in relation to the issue, avoiding the need to refund taxes paid unduly.

At the same time, it was decided that the states should decide on ICMS credits in interstate transactions by the end of 2023, to the extent that the justices determined that "once the deadline has expired without the states regulating the transfer of ICMS credits between establishments owned by the same taxpayer, the right of taxpayers to transfer such credits is recognized".

When the judgment of ADC No. 49 was handed down, Complementary Bill No. 332/2018 (later converted into PLP No. 116/2023) was already being processed in the House of Representatives, with the aim of seeking to regulate transfers between branches of the same taxpayers, including the possibility of the taxpayer choosing to keep the credits in these transactions or transfer them.

In addition, the Justices emphasized in their votes that the transfer of responsibility to the states, by means of an agreement within CONFAZ, in order to establish guidelines on ICMS credits in transactions between subsidiaries was motivated by the uncertainty regarding the approval of the Ancillary Law, in addition to the need for a definition before the start of the 2024 financial year.

Given this context, in October 2023, ICMS Agreement 174/23 was published, which provided for the interstate movement of goods and merchandise between establishments owned by the same taxpayer, determining the mandatory transfer of ICMS credits from the establishment of origin to the establishment of destination, without considering the taxpayer's activity, nor the effects that this obligation could have on the ICMS to be collected.

However, it should be noted that the STF has declared the collection of ICMS on transactions between establishments owned by the same taxpayer to be illegal and unconstitutional, clearly defining that the simple movement of goods between branches of the same owner, regardless of the state, does not characterize an ICMS triggering event.

ICMS Agreement No. 174/23 was revoked a few days after its publication, as it required ratification by all states to enter into force. The states of Rio de Janeiro and Amazonas did not ratify it, leading to its repeal.

On 12/1/2023, ICMS Agreement No. 178/23 was published to regulate the same matter, transfers between branches owned by the same taxpayer.

ICMS Agreement 178/23 upheld the obligation to transfer ICMS credits on interstate transfers, a provision that implies indirect taxation of these transactions, contrary to the understanding consolidated in ADC No. 49.

In this context, after its approval, PLP No. 116/2023 was transformed into Complementary Law No. 204/2023 (LC No. 204/2023), which came into force on January 1, 2024.

The Brazilian President vetoed a section of the new law. However, in a session held on May 28, 2024, the National Congress overturned the veto.

As a result, the national media erroneously reported that shipments of goods and merchandise between establishments owned by the same taxpayer were no longer taxed by the ICMS, which is not true.

The taxpayer is still obliged to transfer ICMS credits in interstate transactions involving shipments of goods and merchandise between branches.

However, both LC 204/2023 and ICMS Agreement 178/2023 are unconstitutional, as they force the transfer of credits and limit their use.

Faced with this serious scenario of legal uncertainty, it is up to the taxpayer once again to go to court to enforce the STF's understanding that ICMS credits can be used without any limitation or obligation to transfer them.