The Federal Supreme Court (STF) of Brazil, in the judgment of Direct Action of Unconstitutionality (ADI) No. 7476, unanimously declared the unconstitutionality of amendments made to the VAT State tax (ICMS) legislation in the state of Rio de Janeiro (Law No. 2,657/96) by Law No. 9,428/21. These amendments introduced a tax-advantaged of VAT State tax substitution method (“ICMS-ST”)  collection for certain goods produced in the state.

With these modifications, the state of Rio de Janeiro began to adopt two distinct VAT State tax substitution methods for internal operations, using the geographical origin of the products as a criterion.

According to the vote delivered by Minister Alexandre de Moraes, the rapporteur of ADI 7476, the changes to the state law provided a competitive advantage to producers located in RJ by providing a tax-advantaged VAT State tax substitution method (“ICMS-ST”), favoring their commercialization at a potentially lower price at the beginning of the consumption chain compared to products of different geographical origins.

Thus, according to the rapporteur, the measure created an imbalance in the market, favoring local companies to the detriment of competitors from other states, violating constitutional principles aimed at the integration of the National Tax System, such as the federative pact, isonomy, tax neutrality, the prohibition of tax discrimination based on origin or destination, free competition, and the requirement for states to deliberate through the celebration and ratification of agreements and protocols by states and the Federal District within the scope of the National Council of Fiscal Policy (CONFAZ).

On previous occasions, the Supreme Federal Court (STF) had already declared unconstitutional state legislation that established VAT State tax substitution method (“ICMS-ST”) collection regimes aimed at manipulating its tax base to confer competitive advantages to manufacturers from the same state (i.e., STF – ADI: 6222 CE, Rapporteur: GILMAR MENDES, Judgment Date: 20/04/2020, Full Court, Publication Date: 11/05/2020).

The decision is another precedent from the Supreme Court reinforcing the unconstitutionality of the so-called “fiscal war,” characterized by the unilateral, unequal, and discretionary granting of exemptions, incentives, or VAT State tax (ICMS) benefits by states.

In this context, we highlight below relevant aspects for defining tax strategies regarding the enjoyment of fiscal benefits related to VAT State tax (ICMS).

• Companies should be aware of the legal uncertainty associated with fiscal benefits currently granted unilaterally by states, as they are subject to questioning due to their unconstitutionality;
• Furthermore, they should pay attention to the possibility of other taxpayers engaging in the same operations obtaining different and more advantageous legal treatment through fiscal benefits unilaterally granted by states, as exemplified by the provisions analyzed in ADI 7476;
• With the recent advent of Constitutional Amendment (EC) No. 132/2023, as well as Complementary Law No. 214/2025, which are part of the tax reform in Brazil, a new tax system on consumption has been established.
• In the new model, VAT State tax (ICMS) and Tax on Services (ISS) will be replaced by IBS (Tax on Goods and Services), governed by principles such as: (i) the principle of neutrality – establishing as a general rule the adoption of the same tax treatment for equivalent situations, avoiding that tax aspects distort consumption decisions and the organization of economic activity; (ii) the principle of destination – the tax is no longer due in the place of origin but is due in the place of destination of the operation with the good (i.e. place of delivery, availability, or location), or service (i.e. place of provision or availability);
• In light of the new model, companies are recommended to assess the potential impacts of the gradual loss of fiscal benefits and analyze opportunities for restructuring in various aspects of the business.