As foreseen in the tax reform, the elimination of state tax incentives starting in 2033 is likely to make the manufacture of electronic products in Brazil unfeasible outside the Manaus Free Trade Zone (ZFM), according to tax experts based on simulations. Already in 2030, still within the reform's transition period, the total tax cost of manufacturing a smartphone in Minas Gerais, for example, will be 26.5% higher than producing it in the Manaus industrial hub, where the benefits will remain in effect at least until 2073.
“With the end of state tax incentives, it will be very expensive to produce electronics outside the Manaus Free Trade Zone,” says tax lawyer Mariana Monfrinatti, from the Pinheiro Neto Advogados law firm. The lawyer points out that Minas Gerais has a policy of incentives and tax regimes designed to attract industries in the IT and telecommunications sector. “These companies will have difficulty maintaining the margins they currently practice without the tax incentives,” she adds.
The tax reform foresees a gradual reduction of tax incentives between 2027 and 2032. Between 2029 and 2032, the ICMS (State VAT) will be gradually replaced by the IBS (Tax on Goods and Services), and states may continue to offer tax incentives using resources from the Tax Benefit Compensation Fund (FCBF).
From 2033 onwards, only the tax incentives of the Manaus Free Trade Zone will remain. Additionally, companies established there will be able to benefit, starting next year, from CBS (Contribution on Goods and Services) tax credits of 2% or 6%, according to criteria defined by law. The Superintendency of the Manaus Free Trade Zone (Suframa) estimates that, in the next three years, as a result of the tax reform, the Manaus Industrial Hub (PIM) will receive 200 new factories from various sectors.
The changes are causing concern in the electronics industry. “The reform, in itself, shouldn't make production outside the Manaus Free Trade Zone unfeasible. The point of concern lies in the combination of the progressive end of state ICMS incentives and the preservation of robust, exclusive mechanisms in the Free Trade Zone to the detriment of other states,” argues Humberto Barbato, executive president of the Brazilian Association of the Electrical and Electronics Industry (Abinee).
Barbato is keen to emphasize that this is not a debate against the Manaus Free Trade Zone nor against the regional development of the Amazon. "The industry's concern is related to competitive balance within the new tax architecture created by the reform," he argues, highlighting that several companies associated with Abinee are located in the Free Trade Zone.
Precisely because it understands that the tax reform will unbalance competition between the Manaus Free Trade Zone and the Brazilian states, the Federation of Industries of the State of São Paulo (Fiesp) filed a public civil action on May 11 against the Federal Government and the IBS Management Committee. The lawsuit is an attempt to limit tax benefits for the Manaus industrial hub foreseen in the reform.
“The new text establishes a tax differential for computer products, for example, which can jump up to 419%. This imbalance breaks the equality between the States and threatens to provoke a 'predatory migration' of industries to the Manaus Free Trade Zone,‘ justifies Helcio Honda, head of the Legal Department of Fiesp, acknowledging that, after the implementation of the reform, it will be more difficult to compete with electronics manufactured in the Free Trade Zone.
Contacted by email and phone for comment on the statements made by Fiesp, Suframa did not respond.
According to Honda, sectors have already begun to reorganize and evaluate the move to Manaus even before the regulation is fully in effect. In the initial petition filed in May with the 1st Federal Civil Court of the Federal District, Fiesp cites the risk of a "probable mass migration of various industrial sectors from the State of São Paulo and other federative units to the Manaus Free Trade Zone".
A simulation conducted by the firm DD&L Associados indicates that in 2030, when state incentives will still be partially in effect, the total tax cost of a cell phone produced in Minas Gerais would be R$ 764.36 for a device with a net sales price of R$ 2,600. However, for the same smartphone produced in the Manaus Free Trade Zone, this cost drops to R$ 604.24.
The net selling price is calculated from the cost of inputs plus the assigned profit margin (30%, in this simulation). In practice, it is the amount the company actually receives for the sale of the product, after deducting taxes, commissions, freight, and other costs directly related to the sale.
The lower tax cost in the Manaus Free Trade Zone translates, according to the simulation by DD&L Associados, into a lower total sales price for the cell phone (R$ 3,231.03), when compared to the device assembled in Minas Gerais (R$ 3,767.14).
“There is no single rule [to determine whether a company should relocate to the Free Trade Zone]. The calculation has to be done company by company, product by product,” emphasizes Mariana Monfrinatti, from Pinheiro Neto.
In the hypothetical case of a TV manufacturer already established in the Manaus Free Trade Zone, the total tax cost actually increases throughout the transition period towards the new tax system. It goes from R$ 339.34 in 2026 to R$ 385.59 in 2031, an increase of 13.6% for a television with a net sales price of R$ 1,875.
“Conversely, the amount of 'credits,' of tax gains, that you can pass on through the economic chain to the final consumer also increases,‘ explains Carlos Renner, partner at DD&L Associados. In this specific example, the tax gain (credits versus debits) more than doubles in the analyzed period, reaching R$ 81.23.
Despite the obvious tax advantages, not just any company can go to the Manaus Free Trade Zone. Besides restrictions on the manufacture of certain product categories, such as weapons and ammunition, automobiles, and alcoholic beverages, only companies whose basic production process (PPB) has been approved by the Ministries of Development, Industry, Commerce and Services (MDIC) and Science, Technology and Innovation (MCTI) after a public consultation process can establish themselves there and be entitled to incentives. The PPB establishes a minimum set of production steps, based on criteria such as the nationalization of components and other inputs.
“Not everyone will be able to go to the Free Trade Zone,” says Átila Denys, founding partner of DD&L, noting that the potential migration is far from obvious, depending on logistical factors and the type of product produced. “In our view, there will be no mass migration of companies,” he said.
Maintaining tax benefits and deepening some incentives in the Manaus Free Trade Zone, however, will not reverse the low competitiveness of Brazilian electronics in the global market, argues former World Bank economist Claudio Frishtak, president of Inter.B Consultoria.
Frishtak explains that the electronics industry has reorganized itself globally over the last few decades, with the production ecosystem – the set of suppliers of components, materials, and software that orbit around the major manufacturers – becoming as important as the scale of manufacturing.
“Asia has become an ecosystem for the production of electronics, its parts and components. Brazil is largely outside of this game,” he states. “In China, there is a large group of cities and provinces that already have economies of scale, economies of agglomeration.” Economies of agglomeration are the gains in productivity, efficiency, and cost reduction resulting from the proximity between companies when they establish themselves in contiguous cities or industrial hubs. “There will be a migration [of companies to the Free Trade Zone], but is there actually a strategy to make it a productive ecosystem?” Frishtak asks.
Source: Economic Value