The competitiveness of Brazilian IT services industry is at risk as the government is more than doubling social security contributions that sector companies have to pay.
From June 1, a new measure will remove 70,000 companies from 56 industry sectors, including IT, from payroll tax breaks as part of a set of actions to shore up the Brazilian government's budget.
Firms paying 1 percent of payroll taxes on their gross revenue will have to contribute with a 2.5 percent levy, while those previously paying 2 percent on social security contributions will see that increased to 4.5 percent.
With the new measures, the government is expected to save about R$25bn ($8bn) over the next two years. That is because the payroll tax contributions that were supposed to come from corporates were coming from the treasury instead and going into workers' retirement funds.
Introduced in 2011, the breaks had the aim of making industry sectors affected by the global recession more competitive. At the time, the measures were well-received as it meant Brazil could increase its international footprint in the IT services industry.
IT buyers dealing with Brazilian technology services providers are now waiting to see how their suppliers will manage this latest hurdle.
According to Alexandro Strack, chief information officer at Gefco, a logistics subsidiary of the PSA Peugeot Citroën group, nothing should change in current agreements, but the future of new IT outsourcing deals will depend on how suppliers will react to the news.
"In this difficult economic moment Brazil is going through, I can't see how they could adjust prices, so they will have to sacrifice their own profitability if they want to maintain their current clients and find new ones," Strack says.
Brazilian companies could be a more attractive outsourcing destination than other cheaper locations worldwide due to its stable political conditions, costs that, although higher than India, are lower than the US, as well as a similar time zone to North America.
But the lack of legislative reforms needed to create a level playing field with other IT outsourcing powerhouses worldwide, as well as a focus on domestic politics, means progress has been slow.
"There are some IT services that have to be hired locally. But when it comes to tasks that can be done remotely, Brazil is at a disadvantage," says Fernando Birman, head of the digital office at chemicals multinational Solvay.
"Not only Brazil failed to seize the window of opportunity that was opened to position itself as an export center for IT services, but now runs the risk of seeing the Indians and others claim a fair share of its market," Birman adds.
According to IDC analyst Pietro Delai, the sharp 26 percent depreciation of the real since last September helped to momentarily increase the competitiveness of the local IT industry - but that was cancelled out by the end of the tax breaks.
"Local companies want to develop longer-lasting outsourcing partnerships with clients abroad, but becomes difficult to do that if every time you have a different hurdle to overcome: adverse foreign exchange fluctuations, the end of tax breaks and so on. It's hard to satisfy international customers in conditions like these," Delai adds.
Payroll tax relief for IT companies exporting services was central to the strategy carried out by Brasscom, the Brazilian association devoted to the development of the local ICT sector. One of the trade body's key functions is lobbying for the creation and implementation of public policies to benefit the sector.
ZDNet requested comments from IT trade body Brasscom as well as some of the major IT outsourcing companies with a large employee base in Brazil, such as Stefanini and Capgemini - and neither the association or the companies were prepared to talk about the impact of the end of payroll tax breaks for IT firms.
According to IDC's Delai, the silence from the supplier side could mean that they are still digesting the news and working out what the real impact of such measures might be.
"It would be fair to say that [suppliers] were taking things for granted, because the payroll tax relief had been around for a while. Now they are probably calculating what is the size of the damage, especially when it comes to long-term projects," the analyst concludes.