Brazil's House of Representatives approves Legal Framework for Startups; tax issues remain out

For Kiko Afonso, executive director of the advocacy group Dínamo, although the approved draft means progress for the sector, it is not enough to make startups a competitive option in the eyes of investors

Brazil's House of Representatives. Photo: Cleia Viana/ Câmara dos Deputados/ Agência Brasil
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Brazil’s House of Representatives approved on Tuesday the bill for setting a Legal Framework for Startups in the country. The draft, which had already been approved by the House, returned for a new approval, since the Senate changed the proposal. Now, the draft follows for presidential sanction.

The approved draft provides that startups are companies with innovative business models with up to 10 years of foundation (CNPJ – the national registry for legal entities) and revenue of up to BRL 16 million in the previous year.

Startups may also receive capital injections, from individuals or companies, which may or may not result in a stake in their share capital, depending on the type of investment chosen.

According to congressman Vinicius Poit, rapporteur of the approved proposal, the draft has nine chapters that deal with topics related to legal definitions, regulatory environment, measures to improve the business environment, labor aspects, fostering the regional development of startups, state participation in these companies, changes in the simplified tax system to include them, and investment incentives.

READ ALSO: Legal Framework for Startups: We need to resume the stock options proposal for startups in Brazil

Kiko Afonso is the CEO of Grupo Dínamo, a public policy advocacy group in the startup and innovation ecosystems in Brazil. Photo: Grupo Dínamo/Courtesy

Of the ten amendments included by senators, seven were accepted by the House. “Given the conditions of what came from the Senate to the House, we had the right vetoes,” says Kiko Afonso, executive director of the advocacy group Dínamo.

One of these vetoes was the removal of a stock options’ topic. For Afonso, the draft did not contemplate this matter in the best way.

Check below the pros and cons of the proposal according to the expert:

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Public tenders

The approved draft defines a special mode of competition in which the public administration may restrict tenders for hiring “innovative solutions” to startups only. “It is a draft that evolves a lot and gives solid bases for a bidding construction process,” Afonso points out.

The maximum amount that the public administration can pay to these companies is BRL 1.6 million per contract.

Obligations to invest in research, development and innovation

The approved draft also provides that companies that have obligations to invest in research, development and innovation because they receive government incentives may fulfill these commitments by investing in startups.

“It broadens the spectrum so that these companies can take part of the resources and invest in participation funds (FIP) or equity funds that invest in startups,” adds the exec.

Besides being able to invest in these types of funds, companies will also be able to contribute resources to startup acceleration and funding programs, in partnership with public agencies such as BNDES, Finep, and the Ministry of Science, Technology and Innovation.

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For Afonso, this topic opens room for supporting the creation of an innovation and technology culture for startups, expanding the possibilities of investment in this category of companies.

“There are great gains looking at the project as a whole: the first is to have a definition of startups so that laws can be created for this definition; the second is the project’s attempt to shield investors, especially angel investors, who currently are covered by dubious jurisprudence. The compensation of losses for angel investors is a gain, but still doesn’t provide a tax incentive to invest in startups,” he explains.

Stock options

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For Afonso, removing the topic that dealt with stock options was also the right decision. A compensation model in which the company allows employees to acquire shares, the topic was taken out of the draft in February by the Senate, with allegations that the matter was not exclusive to startups and the issue required a broader treatment, in its own exclusive legislation.

“The way the draft included them, it was really necessary to remove the topic, but it is also a big defeat not to include the stock option issue,” he points out.

Annual balance sheets

While the original version of the draft provided that startups would be allowed to publish documents such as annual balance sheets digitally, it also defined two criteria for this: only companies with annual revenues of less than BRL 78 million and with less than 30 shareholders would be eligible.

The limitation on the number of shareholders ended up leaving out the cases of startups that raise money through systems like crowdfunding – public investment fundraising where you can have several investors and, in turn, a large volume of shareholders. The bill approved in the Senate in February removed this barrier, and the deputies endorsed the decision in the approved draft. Only the revenue criterion was maintained.

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Loss compensation

In the draft approved in February, senators had set a maximum period of five years, for angel investors to use the losses from startup investments when calculating income tax payment on capital gains.

In the new approved draft, this five-year limitation has been removed.

“The draft has very positive points, but especially the issues that encourage the emergence of startups, such as investment incentives, which remove bureaucracies, change the tax system; they are absent in the proposal,” says Afonso.

According to the specialist, investors continue without any incentive to take resources from another investment and allocate the values to a startup. This is because tax issues, such as the possibility for startups to become corporations and still belong to the simplified tax system, are not included in the proposal. “The whole issue of equal tax treatment to LCIs and LCAs [other types of investment] was ignored, there is no tax incentive for any type of investment,” he adds.

Although the proposal is considered an advance for the startup ecosystem in the country, Afonso believes that the approved draft still leaves Brazil behind when compared to other ecosystems in terms of regulatory issues, increasing the competition gap among Brazilian startups and those from other countries.

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