The pandemic declared by the World Health Organization has substantially disrupted Mexico’s economic performance as many activities have been interrupted to prevent the SARS-CoV2 virus (COVID-19) from spreading. The Mexican president will direct government efforts and policies to support the most vulnerable population during this crisis. The president goes on to say that the economic and social panorama of Mexico is encouraging, and the Mexican government is committed to continue investing in projects that generate employment. These include the Mayan Train, the Felipe Ángeles International Airport, the New Dos Bocas Refinery and the Interoceanic Corridor of the Isthmus of Tehuantepec.
- Mexican tax effects given to income received by foreign legal figures and fiscally transparent entities or legal figures
- The Mexican DAC-6
- Amendments to the recently enacted Mexican General Anti-avoidance Rule (GAAR)
- Digital economy taxation: the kill switch
- Additional amendments
- Potential labor/tax subcontracting (outsourcing) reform
The Mexican president has submitted to Congress the 2021 Revenue Bill, which along with the 2020 Economic Package aims to achieve the following:
- Expand and strengthen the capacities of the health system, particularly the services oriented toward the care of the most vulnerable.
- Promote a rapid and sustained reactivation of employment and economic activity.
- Continue reducing inequality.
- Lay down the foundations for a balanced and vigorous development in the long term.
It is estimated that the reactivation started in the second semester of 2020 will continue through 2021 as economic units adapt to the new environment and the containment of the disease allows for the gradual removal of confinement measure and, consequently, greater utilization of the productive capacity installed. Finally, emphasis will be made on administrative simplification, legal certainty, tax collection efficiency, and tackling tax evasion and avoidance behaviors.
The public finance projections upon which the foregoing objectives are intended to be achieved are as follows:
- A 4.6% growth in the Mexican economy (a figure that could be adjusted if the availability of a vaccine against disease generated by COVID-19 allows for a widespread reopening early next year)
- Exchange rate of MXN 22.1 per USD 1
- Average nominal interest rate of Cetes at 28 days of 4%
- Price of the Mexican mix of USD 42.1 dollars per barrel
- Expected annual inflation of 3%
- Tax collection of MXN 3.5 billion
- Total income of MXN 6.2 billion
One may wonder if the forgoing is realistic within the current environment. In my view, a much more robust tax reform incentivizing and protecting investments accompanied by a broad stimulus programs to face the current economic crises would secure proper fiscal sustainability and more redistributive public finances that would benefit everybody, including the most vulnerable. Notwithstanding this view, it appears that the current tax policies are more inclined to increase collections through a more aggressive audit activity.
Just very recently, both the lower and upper chambers of the Mexican Congress approved the 2021 Tax Bill. The tax reform of 2021, was officially published on 8 December 2020, will enter into force on 1 January 2021. The main amendments relate to the Income Tax Law (ITL), the Value Added Tax Law (VATL) and the Federal Tax Code (FTC).
Mexican tax effects given to income received by foreign legal figures and fiscally transparent entities or legal figures
In addition to the foregoing, it is important to remember that certain amendments made to the ITL back in January 2020 will enter into effect on 1 January 2021; some of them pose a special challenge for taxpayers and advisors because of the lack of administrative guidelines that were supposed to be issued early in 2020. In particular, taxpayers need to be ready to apply Articles 4-A and 205 of the ITL as of January 2021 and recognize the Mexican tax effects on income received by foreign legal figures and fiscally transparent entities or legal figures.
Taxpayers should be mindful of the tax effects triggered by maintaining, after 31 December 2020, tax transparency foreign vehicles used in private wealth and private equity funds structures resorted to by residents of Mexico to invest abroad. What will be the applicable tax treatment to the Canadian Limited Partnerships, a vehicle widely used by residents of Mexico, as they lose their tax transparency treatment, etc.? Unless otherwise stated in a tax treaty, as of 1 January 2021, Mexico would not recognize the tax transparency nature of foreign entities and legal figures, which under their domestic jurisdictions are considered fiscally transparent. If these entities and legal figures are considered tax residents for Mexican purposes in terms of the FTC (mind and management in Mexico), they will be subject to Mexican income taxation the same way Mexican entities are, according to Titles II, III, or VI of the ITL. In all other cases, these foreign legal entities and legal figures will pay income tax according to Title V of the ITL on any Mexican source income, i.e., via withholding.
It is confirmed that a fiscally transparent entity in any given jurisdiction cannot be considered to be resident in that jurisdiction and, thus, cannot claim treaty benefits. The international tax policy adopted by Mexico is not to recognize tax transparency, except in cases where the specific tax treaty provides for such recognition. Thus, the reform eliminates the tax transparency attribute of foreign entities and legal figures, regardless of whether all or part of their members, shareholders or beneficiaries recognize the income attributable to them in their country of residence.
The Mexican DAC-6
What will happen to the planned and/or implemented reportable schemes that taxpayers or their tax advisors need to disclose to the tax authorities in 2021 for tax years prior to or as of 2020, respectively (Mexican DAC 6), taking into account that the rules were published just a few days ago instead of in early 2020? On 18 November 2020, the Tax Administration published the Administrative Guidelines (AG) 2.22.1 to 2.22.28 setting forth the specific reporting obligations for taxpayers and tax advisors in connection with the reportable schemes they have participated in, in any of the manners described by the FTC.
The AGs, although quite extensive, have for the time being not set forth the long-expected economic thresholds per scheme that would trigger the report. Since there is no threshold, all reportable schemes need to be disclosed, regardless of the amount involved in the scheme. These guidelines are intended to provide an itemized description of requirements that the corresponding report needs to satisfy. Also, a number of annexes were published for the filing of the information requested in the AGs. The AGs specify the reportable information to be disclosed by taxpayers and tax advisors in connection with each of the reportable schemes described in Sections I through XIV of Article 199 of the FTC.
Amendments to the recently enacted Mexican General Anti-avoidance Rule (GAAR)
Paragraph 7 of article 5-A of the FTC has been amended to expressly include the possibility of giving criminal effects to the conclusions reached through the application of the GAAR in those cases where the tax authorities do not agree with the strength of the business reasons argued by the taxpayer. We need to remember that through the application of this provision, the effects that taxpayers are giving to their operations may be ignored for tax purposes only, albeit without prejudice to the criminal investigations that may arise in relation to the commission of criminal offenses. In our view, this amendment was not necessary because in terms of a holistic interpretation of the statute, criminal investigations could have been initiated when the facts under analysis, either under the scope of the general anti-avoidance rule or otherwise, gave rise to the criminal actions.
As such, in terms of Article 5-A of the FTC, legal transactions lacking business reasons and generating direct or indirect tax benefits to the taxpayer will have the same tax effects as those corresponding to the transactions that would otherwise have been carried out to obtain the economic benefit reasonably expected by the taxpayer.
Digital economy taxation: the kill switch
Articles 18-H BIS, 18-H TER, 18-QUÁTER and 18-H QUINTUS are added to the VATL to penalize, with the temporary blockade/suspension of internet/digital services, all those non-residents without a PE in Mexico providing digital services to recipients located within the Mexican territory failing to comply with the obligations set forth in Sections I, IV, VI and VII of 18-D and Section II (b) and II of Article 18-J of the VATL as described below:
- Failure to comply, within the next 30 days as of the date on which the digital services were rendered for the first time, with the obligation to register before the Federal Taxpayers Registry (Article 18-D, Section I)
- Failure to have a legal representative and a domicile in Mexico (Article 18-D, Section VI)
- Failure to secure their advance electronic tax signature (Article 18-S, Section VII)
- Failure to compute and pay the corresponding VAT and to remit the taxes withheld, as well as to file the corresponding tax returns and informative returns referred to in Articles 18-D, Section IV and 18-J, Sections II, subsection b) and Section III for three consecutive months or two consecutive quarterly periods in the case of informative returns referred to in Article 18-D, Section III
In addition to the blockade of digital services, the cancellation of the taxpayer’s ID number and their removal from SAT’s list may take place. The foregoing is independent from the application of other provisions of the tax statute penalizing the failure to pay taxes, remitting withheld taxes and the filing of regular and informative returns.
A number of amendments to the ITL and the FTC have been made to address new obligations for authorized donees and hypotheses upon which they may lose their authorization to receive exempted donations deductible for the donor.
New hypotheses are now included, extending the joint and several liability of shareholders. Emphasis is also made in connection with the documentation supporting the economic substance of transactions in general and in particular when tax losses are transferred
Finally, important amendments are included this time around in connection with the following:
- Preventive measures within the context of tax audits
- The Mexican alternative tax dispute resolution mechanism (acuerdo conclusivo)
- A number of the formal procedural aspects regarding the attachment of assets within the context of tax inspections
- Tax refunds
- Presumption of income levels
Potential labor/tax subcontracting (outsourcing) reform
A draft bill was submitted to Congress with the objective of prohibiting the subcontracting of personnel and regulating the performance of specialized services and works. The draft bill, if passed, would reform the Federal Labor Law (FLL), the Social Security Law, the Law of the Institute of the National Workers’ Housing Fund (INFONAVIT), the FTC, the ITL and the VATL. Our Labor Practice Group, along with our Tax Practice Group, are closely following up on this matter and have identified the following main features of this bill:
- Subcontracting of personnel would be prohibited.
- The provision of specialized services and execution of works would be limited, and the activities of placement agencies would also be regulated.
- The ability to provide specialized services would require an authorization from the Ministry of Labor and Social Welfare (STPS) and will be subject to additional requirements.
- Compliance with obligations regarding subcontracting and the provision of specialized services and works would need to be verified by the STPS and the Mexican Social Security Institute, which could impose higher penalties and also an obligation to report to the tax authorities when companies fail to comply.
- The deduction of service fees for income tax purposes would not be allowed, and the VAT credit would be disallowed when personnel are subcontracted.
- The beneficiary of the services provided under a subcontracting of personnel would be jointly and severally liable for the required contributions to outsourced employees. If contributions are omitted, tax penalties would increase.
- Tax fraud resulting from subcontracting of personnel would be considered a criminal offense.
Taking the foregoing into account, companies that subcontract personnel services, as well as those that provide and benefit from specialized services and works, should remain attentive to any developments and review their structures and operations in Mexico in light of the draft bill.
This bill was intended to become effective on 1 January 2021. However, due to the importance of this matter, the reduced window of time to discuss it at Congress, and the willingness of all parties to reach a consensus, discussions on the bill had to be postponed until February 2021. We also understand that one of the main topics under analysis is the petition from the employers’ sector to negotiate a profit-sharing cap, i.e., three or four months of salary.