The principal taxes payable by commercial and industrial enterprises operating in Mexico and, in certain cases, by foreign companies and individuals, are those levied by the federal government. State and municipal governments have more limited tax powers and receive allocations of some federal taxes collected within their borders. The principal federal taxes are income tax, value-added tax, Customs duties, social security and excise taxes on oil and gas production, on the extraction of mineral resources, and on some consumer goods (liquor and tobacco) and services (telephone and communications). Local taxes are levied on real property and on salaries.
In addition to these, there are a number of special federal taxes, such as excise taxes on specific products and services, including food products with high-caloric density, soft drinks, alcoholic beverages, cigarettes and petrol. Transfers of real estate are subject to a state tax imposed on acquisitions of real property. The states are not authorised to levy general corporate income taxes, although some states levy a tax on salaries and professional fees.
Tax legislation contains specific anti-avoidance rules similar to those in other countries. In the case of tax fraud, the authorities may look at the way a transaction is structured to determine its true economic substance. General provisions that empower the authorities to reconstruct income on an estimated basis or disallow deductions are quite broad. With the 2014 reform to the Federal Fiscal Code, tax authorities are entitled to request from foreign residents written confirmation showing that the application of a tax treaty is necessary to avoid double taxation.
General rules to avoid abuse through inter-company pricing have been substantially broadened. Payments to related parties must be determined on an arm’s length basis and properly documented in order for them to be deducted. Strict rules ( documentation, withholding taxes, prior authorisation), if not complied with, deny deductibility of costs and expenses. Transactions classified as subject to preferential tax regimes are subject to specific rules to anticipate the accrual of income, restrict deductions or apply higher income tax withholding rates.
In general, the federal income tax system in Mexico is all-inclusive with certain exceptions, most notably those concerning some types of interest received by individuals. Interest from the Mexican financial system is taxed at a flat rate and may be credited in the overall annual personal return. The federal corporate tax rate is 30%. Provisions designed to recognise the effects of inflation for tax purposes in the areas of monetary assets and liabilities (monetary correction) and depreciable assets are incorporated in the law.
Individual residents of Mexico are subject to federal income taxation on their worldwide income, regardless of their nationality, at graduated rates reaching 35% for individuals whose annual income is in excess of MXN3m ($201,000).
Non-resident corporations and individuals are subject to tax on their various types of Mexican-source income treated separately, but if they are considered to have one or more permanent establishments for income tax purposes in Mexico, all income attributable to such establishments must be consolidated in a single annual return.
Non-residents, including Mexican citizens who can prove residence for tax purposes in a foreign country, are taxed only on their Mexican-source income. Business entities that have established their primary administration operations or effective management within Mexico are considered to be tax residents of Mexico.
Types Of Taxpayers
Taxpayers in Mexico are divided into four groups, for which, in addition to generally applied rules, separate sets of rules apply. 1. Permanent establishments of foreign corporations and all their entities (other than specifically designated non-profit organisations) will generally be taxed in the same manner and under the same rules as resident corporations. These include most private business enterprises, as well as public companies and professional service providers. These taxpayers must include all income from all sources, with very few exceptions, in a single annual return. 2. Resident individuals, whether Mexican or foreign, are subject to Mexican taxation on their worldwide income of all types, most of which must be included in an annual personal income tax return. Taxable income is subject to tax according to a graduated rate tax. There is special treatment for capital gains and domestic interest income. 3. Non-residents may be considered to have a permanent establishment for income tax purposes in Mexico under certain circumstances. In these cases the permanent establishments are taxed in the same way as duly registered branches of foreign corporations, basically following the rules for resident corporations. Non-resident Mexican or foreign individuals without a permanent establishment are taxed only on their Mexican-source income, at flat or graduated rates applied separately to different types of gross income without deductions, although under special rules they may elect to be taxed at higher rates on net taxable profits from sales of real property or capital stock or short-term construction and similar work, among others.
Generally, no overall annual return is required from non-residents. Non-resident individuals rendering personal services temporarily in Mexico, who are employees of a non-resident corporation that does not have a permanent establishment in Mexico, are exempt if their services are rendered for less than 183 days, consecutive or not, in any 12-month period. If the duration of their services exceeds 183 days, they are subject to tax.
Non-resident individuals who render personal services on a temporary basis in Mexico directly to Mexican taxpayers are subject to a graduated withholding tax rate. 4. A limited number of organisations and government agencies are exempt from taxes. These include formally registered political parties, the federal, state and municipal governments, and their agencies not engaged in business activities. Other non-profit organisations are generally considered non-taxpayers, rather than as exempt from tax.
Taxable income is gross income, which includes any kind of income unless specifically excluded, less allowable deductions and unexpired net operating loss carryovers from prior years, as well as employee profit-sharing for legal entities. Gross income also includes the taxable annual inflationary adjustment, if any; and the deductible annual inflationary adjustment, if any, is fully deductible.
The government’s fiscal year is the calendar year, which must also be used by all taxpayers for corporate, legal and income tax purposes. Non-profit organisations are also required to use the calendar year.
For companies, no tax is required to be paid on the basis of the value of a company upon incorporation or upon issuance of shares, except for relatively minor state incorporation fees. For individuals, there is no tax payable on total wealth or on the value of assets.
Legal entities are taxed at a rate of 30% of any distributions of profits they carry out in excess of their after-tax earnings account (i.e. entities distributing profits must gross up the distributed amount (of dividends) and thus, a 42.86% effective tax applies). In these cases, the tax on distributions are creditable by the legal entity making the excess distribution.
Moreover, dividends distributed to individual or foreign residents will be subject to a 10% withholding, when distributed on earnings generated from 2014 and thereafter. However, dividend taxes may be lower or nil, under the terms of the tax treaties in place with some countries.
Both individual and corporate residents of Mexico are subject to Mexican taxation on their worldwide income. Tax credit up to the amount of the Mexican income tax that the same income would have triggered if generated in Mexico is allowed for foreign income taxes paid on foreign-source income, and the law is designed to avoid double taxation of international transactions. Mexico has a substantial number of tax treaties in effect and is currently negotiating additional tax treaties with several other countries.
Corporations are required to file an annual income tax return for each calendar year no later than March 31 of the following year and to pay the balance of tax due at that time. In cases where taxpayers have chosen to have their financial statements audited by a certified public accountant (CPA), these must be filed, together with the CPA’s opinion on the taxpayer’s compliance with the federal tax laws, by July 15 of the following year. Penalty interest is payable on any unpaid amount.
Among other concepts, an annual information return regarding transactions with related parties abroad should be filed.
A taxpayer may not file an amended return for a given year more than three times, except when the amendment in question is a result of an audit by the authorities or it results in either an additional tax liability or a reduction in a net tax loss carry forward.
Payment & Collection
Corporate taxpayers are required to make advance payments of income tax on the 17th of each month. Such advance payments should be made on the basis of an estimated annual taxable income, determined by applying to the gross income of the current year the preceding year’s ratio of taxable income to gross income (the “profit factor”), less any loss carry forward of prior years’ still pending utilisation. If business reasons are given, the Mexican Tax Administration has the authority to waive all or part of one or more of the advance payments at the taxpayer’s request, in the last semester of the year. Advance payments are not required during the first year of operation of a business.
The law provides a procedure whereby corporations must make advance payments even when there was no profit factor arising in the previous 12-month fiscal period (e.g., in loss years). Consequently, taxpayers must use the profit factor corresponding to the most recent taxable year that resulted in a profit within the most recent five-year period.
Payments To Foreign Residents
In general, a withholding obligation exists in connection with income paid to foreign residents (whether corporations or individuals) with a source of wealth located in Mexico. The corresponding withholding rate is applied to the total income without deductions, except in certain cases where income tax withholding may be determined based on the net gain, such as when a qualified resident representative is appointed in connection with, for example, sales of real property or shares, or for short-term construction or similar income, among others.
In many cases, a company making payments to third parties is required to withhold and pay to the tax authorities an amount of income tax on account of the recipient. In all such cases, the company is jointly liable for the tax that should be withheld, and on failure to do so it is subject to penalty interest and fines.
The withholding obligation exists in general for all payments to individuals, including employees, and for payments to foreign entities that are not registered in Mexico. This includes most payments sent abroad. In all cases where the income tax law does not establish a specific period within which corporations should remit taxes withheld, the period for payment will be the 17th of the month following that in which the taxes should be withheld.
Income tax returns are considered accepted by the authorities as filed, although the tax authorities are empowered to review or audit in detail any return they may select. There is no rule concerning how the authorities may select a taxpayer for a tax review to be carried out, although the authorities have a system that identifies review candidates based on their risk factors.
The tax authorities are empowered to review the taxpayers’ accounting records in order to determine compliance with tax obligations. In so doing, the authorities can review any kind of federal tax, including foreign trade taxes.
Penalty interest (surcharges) up to the amount accrued over a period of five years and in some cases 10 years (based on the statutory limitation period and therefore generally limited to five years) is payable on delayed payments or additional assessments as from the date the tax should originally have been paid. Interest is calculated on the tax deficiency as adjusted for inflation.
Moreover, fines may also be assessed in the case of tax omitted, unless the taxpayer voluntarily pays the omitted tax or corrects the obligation not complied with prior to a formal request for payments or to a receipt of a notification of a tax inspection for the year in question. In certain cases of failure to pay, incarceration can be imposed if smuggling or tax fraud is proven.
In general, the tax system relies on withholding and self-assessment tax payments from individuals as the basis for enforcing compliance with the income tax law. In addition, annual personal income tax returns are required for most situations.
Imputation Of Taxable Income
When individuals spend more than the income shown in their income tax returns during a calendar year, the tax authorities are authorised to consider the excess of such expenses over the income declared as additional taxable income for the individual.
After notification, the taxpayer is granted a period of 15 days within which to file a protest and 20 days to prove a case. Otherwise, the authorities will issue the corresponding additional tax assessment.
In addition, certain non-taxable items must be disclosed in the annual tax return, otherwise they will be considered taxable.
Most individuals receiving income during the calendar year are required to file an annual tax return by no later than April 30 of the succeeding year. Individuals with less than MXN400,000 ($29,600) of salary income, in most cases, are not required to file an annual tax return.
Under current tax provisions, except in specific cases, annual tax returns must be filed using the electronic system established by the Mexican Tax Administration. For that purpose, in most cases the taxpayer must have an electronic tax compliance password called the Advanced Electronic Signature.
Tax Withholding On Salaries
Mexican employers are required to withhold income tax on any remuneration paid to employees at the rates established, and they must remit the withheld taxes generally by the 17th of the following month.
Since most employees whose total taxable wages for the year do not exceed MXN400,000 ($29,600) are not required to file an annual tax return, employers are required to true-up the tax withholdings by determining the total tax payable for the year and withhold any balance due.
Any net balance due must be paid at this time, and overpayments are recovered by reducing withholdings for subsequent months. An adjustment of the withholding for December is authorised by the law to avoid overpayments. This true-up procedure does not apply to employees who leave the employer before December 1 or who confirm in writing that they will be filing their own annual returns.
The regulations establish special procedures for calculating monthly withholding when, in addition to normal salary, an employee receives bonuses or payments covering several months, other than for severance compensation.
Employers are also required to file an information return no later than February 15 of the following year. The return requires a detailed disclosure of taxable and exempt compensation paid to each employee and the corresponding income tax withheld.
The employer must also indicate which employees were subject to the true-up mentioned above and which ones received any cash payments corresponding to the salary subsidy.
The tax to be withheld, if any, is calculated at the effective rate of tax withholding on the most recent normal monthly salary or, if less, by applying monthly tax rates separately to the taxable portion of the severance compensation.
Individual tax returns are subject to the same type of audit and appeals procedures as those for corporations.
Before the final departure of a tax resident, an appropriate notification must be filed in order to have the authorities suspend the individual’s registration and obligations for tax purposes and to notify the authorities of the termination of the individual’s status as a tax resident in Mexico. No formal tax clearance has been established as a condition for boarding or exiting for departing citizens or foreigners.
The following are some rules governing taxation in Mexico that potential foreign investors may wish to consider.
- Mexican corporations are taxed on worldwide income.
- A 30% corporate tax rate is imposed on net taxable income.
- Net operating losses may be carried forward for 10 years. Capital losses (i.e., losses on the sale of shares) can be carried forward only against the same kind of income.
- Thin capitalisation rules provide for a debt to equity ratio of 3:1. Interest arising from excess indebtedness is not deductible.
- Interest paid to a related party may be treated as a dividend in certain circumstances (e.g., on backto-back loans).
- Although inflation rates have decreased in recent years, leveraged corporations must recognise an inflationary gain as additional taxable income and must recognise an inflationary loss as a deductible expense.
- Residents abroad and Mexican individuals will be subject to an additional 10% withholding tax on dividends paid from profits generated as from 2014, considered a definitive payment. However, it is also important to note that this may be lowered by a double tax treaty.
- Dividends from after-tax earnings are not subject to additional taxation at a corporate level.
- Capital gains are wholly includable in gross income and are taxed at the same rate as ordinary income.
- All inter-company transactions are subject to con temporaneous documentation requirements to support inter-company prices.
- The deduction of cost of goods sold was re-introduced as of 2005, replacing the deduction of purchases.
- The Business Flat Tax, which was an alternative tax to the income tax, has been repealed as from 2014.
- The Cash Deposit Tax has been repealed as from 2014. However, entities belonging to the financial system must report annually on cash deposits received by taxpayers in accounts opened in their name when the total amount exceeds $15,000 per month.
- As from 2014, the tax consolidation regime has been eliminated. However, a new regime of “integration” has been created for corporate groups, based on a shareholding participation of 80%, to defer a certain amount of income tax over a maximum of three years.
- Tax holidays are not available for federal taxes.
- Employee statutory profit-sharing payment is deductible for corporate income tax purposes.
- As from 2014, the special regime for Real Estate Investment Corporations (SIBRAS) has been eliminated. The deferred gain on SIBRAS should be paid no later than 2016.
- Specific rules are applicable for recognition of un-remitted income arising from investments in preferential tax regimes.
- Mexico does not recognise any transparency for foreign corporations for domestic taxation purposes.
- Mexican-source income obtained by foreign non-taxed corporations is considered as income obtained by an entity resident in a preferential tax regime (tax haven).
- Deduction for payments to foreign-related parties and entities resident in tax havens have specific requirements.
- Other deduction limitations and requirements were included in the 2014 tax reform.
- A similar 10% corporate tax is applicable to profits generated by a Mexican branch (permanent establishment) of a foreign entity. Under certain treaties, this rate could be reduced.
- The dividend tax does not apply to profits generated prior to 2014. To apply this benefit, separate accounts are needed for net after-tax earnings accounts (cuentas de utilidad fiscal neta, CUFINs) occurring in the period before 2014 and after 2013.
- Branches are taxed in the same way as corporations, except that payments for interest, commissions, royalties or fees to the home office of the same legal entity are not deductible. However, some branches may deduct reasonable allocations of home office expenses. Mexican tax law generally follows the OECD model treaty definition of a permanent establishment.
- Salespeople or agents with authority to execute contracts may constitute a taxable permanent establishment.
- Goods held in bonded warehouses within Mexico do not constitute a permanent establishment. The Mexican customer is considered the importer at the time goods are released from the warehouse.
- Liaison or representative offices can operate tax-free in certain circumstances. However, if they employ local personnel, they are subject to normal payroll obligations.
- Mexican-source income that is not connected with business through a permanent establishment is generally subject to specific withholding tax rates, although tax treaties may reduce or eliminate withholding taxes in some cases.
Corporations & Shareholders
The tax rate for corporate taxpayers is 30%. Profits taxed are included in the CUFIN, from which dividends can be paid out free of additional corporate taxes. The CUFIN balance must be restated for inflation. When dividends are not paid out of the CUFIN, they should be grossed up by a specific factor (1.4286) in order to determine the additional corporate tax payable by the company. This additional corporate tax can be credited in the year of payment and in the following two years. Individuals and parties who reside abroad are by law subject to an additional 10% tax on dividends or earnings that are distributed by Mexican companies or by permanent establishments located in Mexico. This tax must be withheld by the distributing entity.
The aforementioned 10% tax is applicable only to profits arising from 2014. In this regard, the entity or permanent establishment is required to track the CUFIN balance with earnings generated up to 2013 and those generated as from 2014 (i.e., the post-2013 CUFIN balance). When these two accounts are not handled separately or profits cannot be identified, the earnings distributed are deemed to be generated as from 2014.
Taxable entities include different types of companies, such as corporations, limited liability companies, Mexican partnerships and organisations of a civil nature other than those specifically designated as non-profit organisations. Under certain circumstances, non-resident corporations or individuals may be considered to have a permanent establishment in Mexico for income tax purposes, including branches of foreign corporations duly registered to operate in Mexico.
The Federal Tax Code provides that corporations are to be regarded as residents of Mexico if their principal administration or effective management is established in Mexico.
All partners and shareholders of Mexican companies must therefore 22be registered for tax purposes, except those who acquire their shares on recognised stock markets or markets with high trading volumes. This requirement is met by corporations or entities providing the relevant information on partners and shareholders.
Domestic taxpayers (both corporations and individuals) are taxed on their worldwide income from whatever sources derived unless specifically exempt, with a limited foreign tax credit for foreign taxes paid on foreign-source income. Permanent establishments of foreign entities are generally subject to taxation only on the income that is attributable to such establishments in Mexico.
Payments made to residents of tax havens are considered non-deductible, unless it can be demonstrated that the price of the transaction is the same as would be set between or among unrelated parties in comparable transactions and other requirements are met, such as remitting the corresponding withholding tax as applicable.
In determining the amount of taxable gain or loss on the sale of real estate property, the historical cost basis of land and buildings may be adjusted (i.e., increased) for inflation, according to the time period that the assets have been held. This is done by applying inflation-adjustment factors to the net undepreciated balance.
Similar rules apply to non-residents who elect to pay 35% tax on net gain, by appointing a legal representative in Mexico. Otherwise, the 25% final withholding tax on gross income generally applies to non-residents. A specific tax regime is applicable for Real Estate Investment Trusts.
Machinery & Equipment
Gains or losses occurring from the sale or disposition of machinery, equipment and other fixed assets are also calculated by deducting from the sales proceeds the net undepreciated balance as adjusted for inflation.
In the case of certain kinds of company-owned assets whose cost is generally not depreciable for tax purposes – such as personal residences, yachts and airplanes, which may be depreciated only in very limited circumstances – the entire sales price will be considered as the taxable gain without deduction of the original cost. When only part of the cost of an asset is depreciable for tax purposes, as in the case of some automobiles, the non-depreciable part of the cost will not be deducted in determining the amount of gain on a sale.
Interest income is taxable on an accrual basis, whether or not it is collected in the same period, except in the case of penalty interest charges (imposed for failure to meet designated obligations on time), in which case the creditor is required to recognise the income when he or she issues a formal invoice or receives the revenue in cash, in kind or in services.
Income Tax Withholding
Income tax withholding is required to be remitted to the government by the payer of interest either at the time the interest is due, or on the date on which the interest is paid, whichever is earlier. Withholding tax rates on interest payments differ according to the type of loan, the beneficiary of the interest and the effect of any tax treaty in force.
Dividends from foreign corporations are fully taxable. A foreign tax credit is allowed for the foreign income taxes paid on such dividends, if certain conditions are met.
The 2014 tax reform includes new rules and procedures to determine the applicable foreign tax credit in Mexico, one of the significant changes being that the tax credit should be computed separately on the basis of jurisdiction. Undistributed earnings of foreign corporations are not taxable until actually received by the Mexican shareholder, except in the case of CFC entities.
Dividends that are received by Mexican corporations are not includable in gross income, but they must be added to the CUFIN account at the corporation that is receiving the income. Up until 2013, dividend income was subject to 10% compulsory profit-sharing. However, as from 2014 the profit-sharing base became the same as that used for income tax purposes.
Stock dividends are not taxable to the recipient in Mexico. However, these dividends are generally subject to the 10% mandatory employees’ profit-sharing regulations.
Inter-company dividends received in-kind instead of in cash are also non-taxable. The recipient treats them in the same manner as cash dividends for all purposes, including employee profit-sharing. However, the distributing corporation may be required to recognise income when it makes a distribution-in-kind.
Distributions Or Payments-In-Kind
When a corporation effects a payment-in-kind or distributes assets that have appreciated in value, it must include, as regular taxable income, the excess of the appraised value over the net tax basis of the property transferred. In the case of stock distributions in corporate reorganisations, the transactions may be tax-free or the tax may be deferred until the shares are sold out of the group.
Royalties & Service Fees
Royalties for the use of patents, trademarks or trade names as well as fees for services of any kind are fully taxable.
Exchange Gains & Losses
Foreign exchange gains and losses arising from assets or debts in foreign currencies are taxable or deductible, respectively, on an accrual basis. There are specific rules on the methodology to be applied in determining these gains or losses that frequently differ from the treatment given in the financial statement. However, the effects of the related inflationary gain or loss should be considered.
Non-Taxable Corporate Income
The relatively few types of corporate income that are not subject to income tax include the following:
- Dividend income from Mexican resident corporations, and proceeds from stock redemptions associated with investments in shares of Mexican corporations. However, the redeeming corporation is subject to tax in certain cases;
- Income from certain investments made by foreign-funded pension plans whenever the funds are exempt from taxes in their home country and these funds are registered;
- Capital contributions or repayment by shareholders of losses sustained by a corporation;
- Premiums charged upon the issuance of new shares; and
- Income recognised for financial purposes by using the equity method for valuing shares of investee corporations, or income recognised for financial purposes as a result of revaluing assets or capital to recognise the effects of inflation.
Deductions of corporations are a matter of legislative grace, and many specific rules or limitations are established in the tax legislation and its regulations. The general requirements for deductibility are:
- Deductions should be for expenses considered as strictly indispensable for the conduct of the business, except for charitable contributions. They should be adequately documented by supporting evidence, in the name of the taxpayer, other than credit card charge notes, and duly recorded in the accounting records.
- Invoices supporting expenses and the acquisition of fixed assets must be issued electronically and must satisfy a series of very strict requirements. For example, the tax registration number of the client must be shown, and if the payments are for items subject to value-added tax, the amount of such tax must be shown separately on the bill. We should note that there is a strict procedure for requesting and allowing companies with certain controls to self-print invoices that comply with the above requirements.
- Deductions exceeding MXN2000 ($134) paid via electronic funds transfer must be made from accounts in the name of the taxpayer. Provisions for estimated expenses, such as severance pay, vacation and accrued expenses in general, are not deductible until actual payments are made.
- Generally, all requirements for any particular deduction must be satisfied no later than the last day of the year to which the deduction applies, although the invoice supporting the expense may be provided up to the date on which the tax return for the period in question is filed. An invoice received for an item constituting an expense must contain a date falling within the year for which the deduction is claimed. However, payments of fees and rent to individuals may be deducted only when actually paid within the taxable year. Amounts representing taxable income to individuals should have been actually paid, and payment of the withholding tax on taxable income of individuals or foreign corporations must be proved.
- Payments to foreign corporations (e.g., royalties or interest) are deductible only when withholding obligations are satisfied. Supporting documentation should be issued and preserved.
- For the deduction of salaries and wages, the corresponding tax should be withheld and paid, social security and welfare payments should be made, tax returns should be filed and the employees must be registered in the federal registry.
- Contributions made to pension and retirement funds as well as disbursements for remunerations qualifying as exempt income for employees (e.g., welfare dues, savings funds, severance pay, annual bonuses, overtime, holiday and Sunday premium) may be deducted at the rate of 53%. The deduction will be 47% when the taxpayer varies exempt employee benefits between years.
As noted above, all “strictly indispensable,” fully documented business expenses are deductible, with the restrictions, exceptions and special requirements for specific expenses noted in each case below.
Deduction Of Doubtful Accounts
Losses on uncollectible receivables are deductible if the statute of limitations for enforcing collection has expired, or earlier if the accounts can be proved to have become obviously or practically uncollectible. For relatively substantial balances to be deductible, the existence of bankruptcy or other legal proceedings is normally required. Estimated provisions for bad debts are generally not deductible. Banks may no longer deduct the creation of or increases in the global preventive reserve as from 2014. They may deduct doubtful accounts only when the portfolio is written off, as per the provisions established by the National Banking and Securities Commission (NBSC).
Doubtful accounts arising from the creation of or increase in global preventive reserves that have been deducted by the bank in the terms of the 2013 law are not deductible.
In this regard, banks must control the balance of the global preventive reserve as of December 31, 2013, so that cancellations of the reserve not corresponding to write-offs ordered or authorised by the NBSC must be included in taxable income.
Excess global preventive reserves still non-deducted at December 31, 2013 may:
- Be subtracted from the taxable income specified in the preceding paragraph.
- Be deducted in each period up to the amount of the difference between 2.5% of average loans for the period and the losses arising from uncollectible loans deducted in the period, although this in no case implies duplication of the deduction.
Once excess global preventive reserves have been deducted, the bank may deduct quit claims, pardons, rebates and discounts on current loans, as well as losses on the sale of the portfolio and payments-in-kind, except those conducted between related parties, provided this does not give rise to a double deduction.
Cost Of Goods Sold
From 2005 onwards the deduction for merchandise purchased was replaced by a deduction for the cost of goods sold. Several inventory accounting methods are acceptable to determine the cost of goods sold.
Depreciation & Amortistion
The income tax law permits the deduction of the costs of investments in tangible property or intangible assets only through annual charges for depreciation or amortisation. The straight-line method, without recognition of estimated salvage values, is the only acceptable method for tax purposes.
Depreciable costs are defined as including not only the purchase price of the assets but also freight and handling charges, insurance, commissions, fees, Customs duties, and taxes, except value-added tax. In general, all types of fixed assets except land are depreciable for tax purposes, as long as they can be shown to have been acquired for the business purposes of the corporation itself.
Depreciation of personal residences and ships or airplanes not licensed for commercial use may be deducted only if specific authorisation is first secured, based on factual evidence that such assets are necessary for the conduct of corporate activity. Depreciation of recreational property is prohibited.
Different methods of depreciation, as well as different straight-line rates, may be used for financial purposes. The rates used for tax purposes may be less than the legal maximum straight-line rates but, once adopted, may be changed only once in a five-year period. In addition, a second change within five years may be made only in special circumstances, such as in the case of a merger. Depreciation may commence either in the fiscal year in which the assets are placed in use or in the following year, at the election of the taxpayer.
Leasehold improvements are depreciable by the lessee in accordance with the depreciation rates established by the tax law (in general, at 5% per year). If the related leases are effectively terminated before the leasehold improvements are wholly depreciated, the undepreciated balance will be deductible by the lessee. When leasehold improvements become the property of the lessor upon termination of the lease, the lessor will be required to include the appraised value of such improvements as taxable income.
Interest on loans can be deducted if the proceeds of the loans have been invested in the business of the company and proper withholding taxes, if applicable, have been paid. Deductions for interest expense may be partially or wholly disallowed if a company makes non-interest-bearing loans to third parties or if such loans bear interest at rates lower than those paid by it. The amount disallowed may not exceed the amount of additional interest that should have been charged to the borrower, calculated on the basis of the average interest rate paid by the company on its loans. Also, very broad rules classifying loans as back-to-back loans result in the disallowance of interest deductions.
Correction For Inflation
Corporations in Mexico are required to determine an annual income adjustment and a deductible loss for income tax purposes, by applying the percentage increases in the National Consumer Price Index to essentially all monetary assets, including bank balances and investments (except in shares).
Even though Mexican inflation has been significantly reduced in recent years, highly leveraged companies may have restrictions on the deductibility of their interest expense and foreign exchange losses as a result of the inflation adjustment. Because of this monetary correction, investors should evaluate the negative effects of financing their operations in Mexico through debt instead of equity.
Thin Capitalisation Rules
Interest generated by excess debt coming from a related party is nondeductible for income tax purposes if the amount of debt is more than three times the shareholders’ equity (a debt-to-equity ratio of 3:1), according to the taxpayer’s balance sheet.
All liabilities are considered for purposes of calculating the disallowed interest expense amount in determining the annual average liabilities (in 2005 and 2006, the Mexican Income Tax Law appeared to refer solely to liabilities arising from loans).
Certain liabilities may be excluded if certain requirements are met. In general, the thin capitalisation rule still includes the possibility of taxpayers applying for a ruling from the tax authorities that allows them to apply a higher leverage due to the characteristics of their activities (higher than the 3:1 debt-to-equity ratio). Also, the thin capitalisation rules still do not apply to the financial sector. In addition, as from 2007, a provision is in place granting the possibility of the taxpayer using, instead of its shareholders’ equity, the sum of the average balances of the capital contributions account (cuenta de capital de aportación, CUCA) and the CUFIN to determine the 3:1 debt-to-equity ratio.
The taxpayers that opt for this calculation must continue using it for at least five years. This alternative computation is mandatory for those taxpayers that do not account for capital following Mexican Financial Reporting Standards.
The 2014 tax reform introduced new rules which consider the Base Erosion and Profit Shifting plan and guidelines announced by the OECD, under which a number of expenses are not deductible. 1. Interest, royalty or technical assistance payments made to a party resident abroad that controls or is controlled by the taxpayer, when: a) The company receiving the payment is considered to be transparent, except when the operation is carried out at market value and its stockholders or associates are subject to income tax on income received through the company located abroad; b)The payment is considered to be non-existent (disregarded) for tax purposes in the country in which the foreign party is located; c) The recipient does not include the payment as part of its taxable income under the rules of its jurisdiction; and 2. Payments that are also deductible for a related party resident in Mexico or abroad, unless the related party includes income generated by the taxpayer in its own taxable income, in that period or in the following period.
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