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 Mexico has a federal system, copied from that of the United States of America and, just as in all federal systems, there are powers reserved for the Federal Government, powers reserved for the States, and concurrent powers.
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This federal system is also reflected in the ability to impose taxes in Mexico, since in accordance with our Constitution, certain taxes can only be imposed by the Federal Government, others can only be imposed by the States, and others can be imposed by either the Federal Government or the States.
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As a result of the above, tax matters in Mexico can be analyzed from three angles: (a) federal taxes, (b) local taxes, and (c) the international aspect.
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Federal taxes are generally direct taxes, particularly the income tax, the primary failing of which is the relatively small number of taxpayers who must carry the greatest part of the tax burden.
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In order to avoid the excessive burden that double taxation can cause taxpayers, the Federal Government has entered into fiscal coordination agreements with each of the States and the Federal District, through which the Federal Government shares certain revenues with the States, provided that the States do not impose any tax on specified items. As a result, local taxes are minimal, the most common being the real estate tax (for owners of real estate), the payroll tax (on salaries paid to employees), and the real estate purchase tax.
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In addition, regardless of who imposes the tax, the tax guarantees contained in our Constitution must be respected and therefore, only taxes that are set forth in the law, that respect the economic capacity of the taxpayer, and that do not establish privileged treatments, are legal; as well, all taxes collected must go towards paying for government expenditure.
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Mexico’s participation in the international tax context has been very significant, having executed several treaties to avoid double taxation, in accordance with the model of the Organization for Economic Cooperation and Development (OECD) and others for the exchange of information and the elimination of tariffs. Below we will discuss very generally the primary federal and local taxes existing in Mexico.
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Income Tax
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In contrast to other countries, Mexico has not been able to increase the importance of its indirect taxes such as the Value Added Tax (VAT), and therefore currently the largest portion of tax revenue comes from direct taxes, the most important of which is the income tax (Impuesto Sobre la Renta, ISR).
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Persons Obligated to Pay Income Tax
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According to the Income Tax Law (Ley del Impuesto Sobre la Renta, ISR Law), tax residents in Mexico are obliged to pay income tax on all income (in cash, credit, goods, services, or of any type) earned in Mexico and in any other part of the world.
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Tax residents of a foreign country only have to pay income tax in Mexico when they have a permanent establishment in Mexico or when they obtain earnings that are considered to come from a source of wealth located in Mexico. In view of the above, the concepts of tax resident and permanent establishment should be clarified.
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Tax residency in Mexico
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Individuals are considered to have tax residency in Mexico when their residential home is in Mexico. When individuals have several houses in different countries, they will be considered to be a resident in Mexico when they have their vital center of interest in the country.
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Legal entities are tax residents in Mexico when they have established in Mexico the principal corporate headquarters of their business or their actual center of decision making. Tax residency is a concept that can be affected by the double taxation treaties that Mexico has signed, as these treaties contain specific conflict resolution rules to resolve the problems that arise when both contracting countries consider the same person to be a tax resident.
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Permanent establishment
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The general concept of a permanent establishment set out in the ISR Law refers to when a nonresident falls into one of the following three categories:
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a) Having a place of business in Mexico in which some or all of his/her business activities are carried out;
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b) Having an employee who exercises the power to enter into contracts on behalf and in the name of the nonresident intended for the carrying out of the activities of the nonresident in Mexico;
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c) Engaging in activities in Mexico through an independent person when such services to the nonresident are outside the normal scope of the independent person’s activities.
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In addition, certain special cases exist in which trusts, insurers, and real estate construction or assembly services also create a permanent establishment in Mexico. In the case of maquiladoras (in-bond manufacturing plants), there are special rules related to the generation of a permanent establishment in Mexico.
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The ISR Law also sets out certain circumstances under which a nonresident would not be considered a permanent establishment, regarding places that store, exhibit, and buy goods and, in general, the use of a place of business only to carry out preparatory or auxiliary activities for the activities of the nonresident.
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It is important to take into account that the double taxation treaties signed by Mexico have specific rules applying to permanent establishments which, while very similar to those set out in the ISR Law, must be reviewed if the nonresident is a resident of a country with which Mexico has entered into such a treaty.
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When it is considered that a nonresident has a permanent establishment in Mexico, this fact must be registered in the Federal Taxpayers’ Registry and the nonresident must comply with all of the tax obligations as would a tax resident in Mexico. With regard to income tax, the foreigner will incur such tax as if he/she were a legal entity, but only over income attributed to the permanent establishment.
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Information provided by Von Wobeser & Sierra, S.C. |
