(Adds background, comments from paragraph 2)
By Aluísio Alves and Guillermo Parra-Bernal
SAO PAULO, Aug 14 (Reuters) - Plans by Brazil's ruling party to phase out tax-deductible interest on equity payments in a move to plug a swelling budget gap could harm the nation's capital markets, the top executive at bourse operator BM&FBovespa SA said on Friday.
The government is looking to change the way the payments - a type of dividend publicly traded companies book as an expense to cut taxable income - are calculated to raise up to 18 billion reais ($5.2 billion) in additional, recurring revenue.
A proposal recently introduced by Senator Gleisi Hoffman of the ruling Workers' Party calls for the use of 50 percent of the so-called TJLP interest rate, a below-market rate, for the calculation of the payments next year. That percentage will fall to zero in 2018, meaning that companies will pay interest on equity based on much higher borrowing costs.
"If this proposal is approved, it will obviously have an impact on the market," BM&FBovespa Chief Executive Officer Edemir Pinto said at an event to discuss the company's second-quarter earnings. "But we have to understand that we're going through a fiscal crunch and we'll have to adapt to it."
The tax plan is another setback for a market that has underperformed its peers in recent years as state intervention and political turmoil mounted and capital market activity stagnated. The benchmark Bovespa index is down 4 percent this year, partly on news of the end of incentives for the equity payments.
Credit Suisse Securities analyst Andrew Campbell and others expect Brazil's largest dividend payers to suffer the most if the proposal is approved because a higher base of calculation for the payments could weigh down profits and market value.
Companies that paid most of their dividends in the form of interest on equity include state-run oil firm Petróleo Brasileiro SA, the top three publicly listed banks and Telefonica Brasil SA.
In a recent study, analysts at Banco BTG Pactual found that in a sample of 39 listed companies in Brazil, the elimination of the tax incentive would trigger an 8 percent average decline in earnings by 2018. (Editing by W Simon and Paul Simao)