Brazil’s states in ‘tax war’ to win iPad production

Boasting few transport links with the outside world other than the airport and the Amazon river, Manaus would today be a backwater were it not for the tax breaks that has turned it into the jungle version of a Chinese free trade zone.

Surrounded by impenetrable rainforest, this historic Brazilian rubber capital of some 2m people produces 90 per cent of Brazil’s motorcycles, including upmarket BMWs and Harley-Davidsons, most of its bicycles, a third of its watches and much of its flat screen televisions and other electronics.

“Around 90 per cent of our economy is based on industrial activity,” says Marcelo Lima Filho, secretary of planning for the state government of Amazonas, of which Manaus is the capital. “There are more than 100,000 jobs in the industrial zone.”

Yet today Manaus is fighting for its life. The city is vying to secure one of the biggest technology projects Brazil has ever seen – a $12bn plan to produce iPads.

But more powerful states, particularly São Paulo, Brazil’s wealthiest and most industrialised, are trying to win the project by offering tax breaks of their own – benefits that Manaus claims are illegal under the constitution and could fatally erode the tax advantages of manufacturing in the Amazon.

“We are fighting not just to protect our interests but to protect our rights,” says Wilson Périco, president of one of Manaus’ biggest industry lobby groups.

Located near the “encontro das águas”, or the meeting of the rivers, where two of the mightiest arms of the Amazon river system come together, Manaus has always been an anomaly.

During its heyday in the rubber boom of the late 19th century, the city’s fabulously rich tycoons lavished their millions on building the Teatro Municipal, or Municipal Theatre, which attracted the best international acts of the day. The pink and white Renaissance-style landmark still dominates the rundown downtown area today, where Amazon ferries with names such as Sacred Heart of Jesus moor at the docks.

After the rubber industry faded, the city’s fortunes were revived in the 1960s, when Brazil’s former military dictatorship began efforts to populate the vast emptiness of the Amazon.

They awarded tax breaks to companies to manufacture in Manaus. Today, these benefits, which are enshrined in the constitution, make it 35 per cent cheaper to produce goods such as electronics in the city than elsewhere in Brazil, according to Ernst & Young.

Manaus’ tax breaks are particularly attractive given Brazil’s tortuous tax system, ranked 152nd by the World Bank for its unwieldiness, which can add up to 60 per cent to the retail cost of goods in Brazil.

But the city’s fortunes have become caught up in what are known as the “tax war” in Brazil, under which states compete to attract manufacturers by offering fiscal incentives.

Technically, these must first be approved by all of the other states. In practice, many states push ahead with them anyway without the approval of their peers, leading to a spate of lawsuits and increasing confusion for investors.

“This is very political, the discussions are very tough,” Sérgio Fontenelle, partner for customs & international trade at Ernst & Young in São Paulo, says of the tax negotiations between states.

In the latest round, Manaus is suing São Paulo for its offer of the tax-related incentives to attract Taiwan’s Foxconn, the maker of Apple’s iPad, to the state in a project the government claims will create 100,000 jobs.

“We have roads, we have logistics and we have a supply of engineers and workers,” says José Clovis Cabrera, a senior official of the São Paulo finance secretariat, of the state’s bid to win the project.

The jury is still out on the case. But Manaus’ industrialists are on edge. They know that their very existence on the verge of the wilderness depends on how well they can defend their cherished system of incentives.

“It is because of the federal tax regime that we are competitive,” admits Mr Lima.