On February 24, 2021, the Brazilian Federal Supreme Court (STF) delivered a final decision related to the taxation of software in Brazil, defining that the transactions with software are deemed as services and therefore shall be taxed by the municipal service tax (ISS), with rates that vary from 2% to 5%.
This judgment puts an end to a long discussion started in 1999, when Direct Action of Unconstitutionality (ADI 1945) was filed against a law of the state of Mato Grosso that established the levy of the state-VAT (ICMS) on the download of software. Another Direct Action of Unconstitutionality (ADI 5965) also challenged a similar matter, but related to the state of Minas Gerais, and was judged together with ADI 1945 by the STF.
Since the time software was sold by means of physical media and mainly after the internet allowed for its acquisition via download, the Brazilian states (competent to charge the ICMS) and municipalities (competent to charge the ISS) have been competing for tax revenues of an industry that has grown exponentially over time.
In a nutshell, states historically taxed the sale of software via ICMS, deeming it as goods due to the existence of the floppy disk and, afterwards, the compact disc. Not surprisingly, the states wanted to reaffirm this nature of ‘goods’ when the physical media was no longer necessary.
When this discussion arose more than 20 years ago, the STF decided that off-the-shelf software should be taxed by the ICMS and customised software by the ISS. However, things have significantly changed since then.