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Mexico Signs Protocol to Avoid Double Taxation with the UK and India, and Concludes Tax Treaty with Panama

27 May 2010

Following with the trend to renegotiate tax treaties, Mexico signed a new Protocol of the Convention for the Avoidance of Double Taxation entered into with the United Kingdom and concluded a Tax Treaty with Panama. Taxand Mexico looks at the treaties signed and benefits to investors.

The Protocol includes the business flat rate tax (IETU) to prevent double taxation to UK tax residents, provides some amendments to the Dividend and Exchange of Information Provisions, and adds an article on the Assistance in the Collection of Taxes.

A novelty of this new Protocol is that distributions paid from Mexican real estate trusts (REITS or FIBRAS as per its initials in Spanish) or distributions made by any other immovable property investment vehicles incorporated under the Mexican legislation, are subject to a reduced withholding tax rate of 15%, instead of the 30% rate applicable under domestic law, since domestically, such distributions do not benefit from the Mexican domestic dividend exemption. The aim of this amendment is to promote UK investments in the Mexican real estate market and the reduction in withholding tax will certainly be welcome from a UK perspective.

Mexico has also finally concluded a Tax Treaty with Panama, which may enter into force on 1 January 2011. This treaty is in line with the OECD Model Tax Convention and provides reduced withholding tax rates for dividends (5%-7.5%), interest (5%-10%) and royalties (10%). Capital gains provisions are in line as well with OECD standards, except that they do not include restructuring provisions.

Likewise, the Convention for the Avoidance of Double Taxation entered into between Mexico and India came into force recently. Among the most important points are the 10% withholding rate on dividends, interest, royalties and technical assistance and the inclusion of provisions related to exchange of information, assistance in the collection of taxes and limitation of benefits.

Finally, it is important to mention that the Maquila Decree, which is the Mexican manufacturing law framework that provides significant tax benefits to foreign investors with manufacturing companies in Mexico, is about to be amended.

The proposed amendments establish that in order to maintain income tax benefits, the raw materials used in the manufacture process should be mainly imported from abroad (although no reference is mentioned yet as to what to understand as "mainly", we expect that the Ministry of Economy clarifies the definition soon). Additionally, the new bill requires that all assets used in the manufacturing activities shall be owned by the principal and that these assets were not previously owned by a Mexican Maquila, although some exceptions may apply.

Taxand's Take

The reduction in withholding tax applicable to UK investors in Mexican real estate assets may well encourage further investment from the UK.

We believe that the main reason that Mexican Government signed the Tax Treaty with Panama was to get access to a comprehensive exchange of information channel, which may provide to both governments information not only in connection with taxes covered by said treaty, but also for the application of local law in connection with the determination of every type of federal, state or municipal taxes. In this sense, it is worth mentioning that this particular treaty does not include a provision for the assistance in the collection of taxes.

Should amendments to the Convention for the Avoidance of Double Taxation entered into between Mexico and India enter into force foreign investors with Maquilas in Mexico should be aware that they may:

(i) constitute a permanent establishment in Mexico for the operations performed by the Maquila's head office

(ii) lose the benefit to pay income tax by applying safe harbour provisions (tax base equal to 6.9% on the assets used in the manufacturing activity or 6.5% of total Maquila's cost and expenses)

(iii) lose VAT and customs duties protection, due to the fact that assets, goods and raw materials are imported into Mexican territory under a temporary basis.

Foreign and Mexican investors are pushing the Mexican Government to stop such amendments to the Maquila's Decree. Taxand Mexico will keep you posted in connection with future developments.

Your Taxand contacts for further queries are:
Manuel Tamez Zendejas
T. +52 55 5201 7403

Kevin Hindley
T. +44 207 715 5235

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