

The transfer pricing impacts of potential U.S. tariff increases: a Brazilian perspective
Brazilian exporters must consider whether their arrangements could lead them to bear the brunt of potential tariff-related costs
Subjects
The possibility of heightened U.S. tariffs under the Trump administration has stirred considerable debate both in the United States and worldwide. While the initial focus may have been on trade partners such as China, Canada, and Mexico, concerns quickly expanded to include countries like Brazil. If these tariffs become more widespread – or if other jurisdictions retaliate with tariffs of their own – Brazilian exporters could face a range of new costs that significantly affect their global operations.
For companies shipping goods from Brazil into the U.S. through related distributors, contract manufacturers, or other affiliated entities, the crux of the issue is straightforward yet challenging: Who ultimately bears the costs of these tariffs? In a typical intercompany arrangement, a U.S. affiliate that functions as a limited risk distributor (LRD) or contract manufacturer usually earns a fixed margin, while the Brazilian principal absorbs external market risks. But with tariffs escalating, this straightforward arrangement can quickly erode the principal’s profitability and trigger scrutiny from tax authorities on both sides.
Transfer pricing challenges for Brazilian exporters
Brazilian multinationals often rely on well-established transfer pricing models that assume relatively stable trade conditions. When import duties surge, these models may no longer accurately reflect the economic reality of intercompany transactions.
- Limited Risk Distributors: An LRD in the U.S. typically performs basic distribution functions, does not own significant intangibles, and avoids taking on substantial risks. Because of this limited risk profile, it usually enjoys a routine, predictable return. If tariffs unexpectedly push up import costs, the LRD may still claim its standard margin, leaving the Brazilian exporter responsible for any additional hit to profitability. From the Brazilian side, this might trigger questions about whether the U.S. entity should share some of the burden – especially if, in practice, it exercises more control or assumes greater risks than a typical LRD;
- Full-Fledged Distributors: U.S. distributors with a broader functional profile and more control over local market strategies might share some of the impacts of increased costs – if that aligns with their economic reality. Yet, in many cases, they too will try to pass elevated costs back upstream. The principal question here is whether the U.S. entity’s role truly warrants a higher risk and cost allocation or whether it remains largely “routine” in practice;
- Contract Manufacturing: In scenarios where semi-finished goods arrive in the U.S. for further processing under a contract manufacturing framework, the U.S. manufacturer generally applies a cost-plus markup to its conversion costs. But if tariffs significantly inflate the cost of imported components, the Brazilian principal might see its margins plummet – unless the intercompany agreement contemplates how to handle external shocks like duties. If not, the U.S. affiliate simply passes along the added cost base to the Brazilian exporter, along with its markup.
Who should bear the costs?
Under typical arm’s length principles, an entity that has limited functions and risks should not suffer large swings in profitability from external events. In practice, this means:
- LRDs and Contract Manufacturers often preserve their routine returns.
- Entrepreneurial Principals or “owners” of key intangibles and risks generally absorb unanticipated hits to profit.
But the mechanics can become murky when tariffs drive a notable spike in import costs. Brazilian tax authorities, for example, may question a scenario where the local entity’s profitability deteriorates drastically while the U.S. entity continues to earn the same margin. If the U.S. party holds even a modest degree of commercial risk – say, by influencing pricing or holding inventory – there is room for debate about whether that entity should share some of the tariff burden.
Similar tension arises if other jurisdictions beyond the U.S. impose reciprocal tariffs. For instance, if the European Union broadly raises import duties, the same questions apply: should a European distributor (routine or otherwise) help shoulder these costs, or should they largely remain with the Brazilian principal? Differing viewpoints among tax authorities can lead to double taxation if each insists on a specific interpretation of how much risk is borne by each party.
Minimizing risks and avoiding double taxation
Despite these uncertainties, Brazilian exporters can take several proactive steps:
- Revisit and update intercompany agreements: Examine contractual language to determine which party is meant to absorb unforeseen external costs. If the U.S. entity truly operates as an LRD, it may be appropriate for the Brazilian principal to bear the tariff impact. However, if the U.S. side undertakes more than basic distribution tasks – such as substantial inventory management or pricing decisions – an argument could be made for a partial cost-sharing approach;
- Strengthen economic analyses: Contemporary comparables, industry benchmarks, and rigorous functional analyses can help justify how the group allocates external shocks. In some instances, the standard limited risk model will hold. In others, it may be necessary to revise compensation structures if the U.S. affiliate’s profile and responsibilities exceed what is typically considered routine;
- Consider supply chain restructuring: Some companies might explore whether shifting certain manufacturing steps or distribution channels can reduce or avoid new tariffs. Splitting intangible rights (e.g., intellectual property) from tangible goods might also lessen the portion of the transaction subject to duties – provided there is a legitimate business rationale for doing so;
- Document everything thoroughly: Clear, contemporaneous documentation is crucial. This includes demonstrating that any modifications to intercompany prices or any sharing of incremental costs reflect genuine risk allocations consistent with the arm’s length principle. This clarity can be vital when defending against potential adjustments by tax authorities in both jurisdictions.
The potential escalation of U.S. import tariffs – and the prospect of corresponding retaliatory measures by other nations – underscores the delicate balance Brazilian multinationals must strike in their transfer pricing arrangements. While routine entities like LRDs and contract manufacturers generally expect stable returns, big swings in import costs can upset typical profit allocations and lead to controversy on either side of the transaction.
By proactively examining their supply chain structures, updating intercompany agreements, and clearly documenting any revised allocations of costs and risks, Brazilian exporters can better position themselves to weather the tariff storm. Though no strategy can fully remove the sting of higher duties, a well-grounded transfer pricing policy that reflects genuine economic realities is far more likely to stand up to scrutiny and minimize the threat of double taxation.
For further information on this topic, please contact Mattos Filho’s Tax practice area.