The complexities and fragmentation of Brazil’s tax system make it particularly onerous to enterprises, making it a priority for reform. The state-level VAT has often been used as an industrial policy instrument, resulting in predatory tax competition among the states. Remaining federal levies on enterprise turnover are detrimental to the competitiveness of Brazilian exports. The burden of payroll taxes and social security contributions encourages labour informality. A reform package is under discussion in Congress. The draft legislation is well thought-out; it proposes to unify the state-level VAT, to replace federal levies on enterprise turnover by a federal VAT and to alleviate the tax burden on labour income. Options for compensating those states that are expected to lose revenue as a result of the VAT reform include an overhaul of the country’s regional development programmes. The authorities’ main policy challenge in this area is to secure political support for reform, especially among the state governments, in a manner that is revenue-preserving, efficiencyenhancing and consistent with ongoing fiscal-adjustment efforts.