Mexico City, November 20th, 2019.
On October 30, 2019, the Mexican Congress definitively approved important amendments to the tax regime applicable to the investment and asset management structures, which would require the review, adjustment and amendment of the same in order to comply with the new tax provisions effective as of January 1st, 2020.
The most relevant changes in wealth management for Mexican residents are the following:
1. Residents in Mexico are required to pay the Income Tax (“IT”) in Mexico with respect to the income obtained through:
a) Fiscally transparent foreign entities such as a Limited Liability Company (LLC) that choose to be treated as disregarded for tax purposes and other foreign entities that, having legal personality, do not qualify as tax residents in their country of management or incorporation;
b) Foreign legal vehicles, such as foreign trusts, limited partnerships (LP’s), investment funds and similar vehicles, provided they lack legal personality.
In these cases, the income received by residents in Mexico through transparent foreign entities and foreign vehicles must pay the IT in Mexico in the relevant holding proportion, regardless of whether or not a distribution had occurred to the partners, shareholders or members thereof.
It is important to mention that the taxpayer shall pay the IT on income obtained by the foreign transparent entity or foreign vehicle in its relevant proportion of “ownership”, which is determined through the “test” set forth in number 2 below. This means, for instance, that regardless a beneficiary of a vehicle (i.e. trust) would not be entitled to the income of a Trust in any given fiscal year, it could be the case that, as a deemed controlling person (individually or through related parties/persons) the Mexican beneficiary would be required to pay the IT obtained by the Trust structure.
Consequently, it is advisable to review structures that involve trust (revocable and irrevocable), as well as foreign LLC’s and LP’s, among others, in order to determine compliance with their tax obligations as of January 1st, 2020.
2.The rules applicable to Preferential Tax Regimes (also known as income from “REFIPRES”, “tax havens” or “controlled foreign entities”) are substantially modified. As of January 1st, 2020, this regime will only be applicable to income received through foreign entities that are not fiscally transparent (not to foreign vehicles anymore), that is, with their own legal personality, when:
a) The entity is subject to an IT in its own country at a rate below 75% of the IT that would be paid in Mexico, that is, at a rate below 22.5% if the partners or shareholders are Mexican legal entities and 26.25% if they are individuals; and
b) The entity is controlled by the Mexican taxpayer.
It should be noted that in order to calculate the IT actually paid abroad, it is also possible to consider the IT paid at the state level.
A complex new brand “test” was established to determine the cases in which the Mexican taxpayer has «control» over the foreign entity. In general, it will be considered that the taxpayer has control over the foreign entity if it has a participation greater than 50% on the voting rights, on the decision making of the entity or on the value of the shares and assets of the same during the management of the company or if the shareholder, partner or member is entitled to more than 50% of the assets or profits of the entities of the structure upon its liquidation or reduction of capital. The foregoing is applicable if control is exercised even through interposed entities and through related parties and related persons (family members).
In this sense, it will be necessary to review the investments that Mexican taxpayers have in foreign entities, to determine if they are in the cases of “control” and the effective taxation of the same, in order to identify if they qualify as a Preferential Tax Regime under the new rules applicable as of January 1st, 2020.
3.Tax obligations to both tax advisors and clients themselves (including foreigners) were incorporated to the Federal Fiscal Code, in order to mandatory disclose generalized and personalized schemes granting tax benefits in Mexico.
A tax advisor means any natural or legal person (either Mexican resident or a foreign resident with permanent establishment in Mexico or related entities), who ordinarily performs tax advice activities and is responsible or involved in the design, commercialization, organization, implementation or management of a reportable scheme or who makes it available to the client.
The schemes that are considered as reportable are, among others, the following:
a) Those who avoid the exchange of information between tax authorities;
b) Those who avoid the payment of the IT in Mexico by foreign transparent entities and foreign legal vehicles referred to in numeral 1 above;
c) Interconnected payments or transactions that return totally or partially income to the client (including its partners, shareholders or related parties);
d) Income that is not taxed in the recipient’s country or is taxed at a reduced rate; and
e) Those who avoid the identification of the effective beneficiary, including the use of foreign entities or vehicles in which the beneficiaries are not designated or identified at their incorporation or later;
f) Any mechanism that avoids the application of the aforementioned disclosure obligations. It is considered a scheme, any plan, project, proposal, advice, instruction or recommendation expressly or tacitly provided in order to materialize a series of legal acts.
The mandatory disclosure includes the data of the tax advisor, the client and others involved, as well as the detailed description of the scheme, its tax benefit and financial information that is not subject to information exchange, as well as any Information deemed relevant for review. Failure to disclose the reportable schemes may result in fines up to MXP $20,000,000 (USD$1’000,000 approx.) for tax advisors and 50% to 75% of the tax benefit for the client.
The report must be submitted within 30 days after: (i) the first contact was made with the client to commercialize the reportable scheme; (ii) the scheme is available to the client for its implementation; (iii) the design of the scheme is finished. In addition, the client shall inform the reported scheme in its annual tax return.
This fiscal obligation will be effective as of January 1st, 2020, but a transitory provision was introduced for the first disclose to be filed as of January 1, 2021 with respect to schemes implemented from 2020 and on.
Should you have any inquiry with respect to the compliance of these new tax obligations, our tax and private wealth law practice groups will be glad to assist you.