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Mexico & Spain conclude new protocol for their income tax treaty

Mexico & Spain conclude new protocol for their income tax treaty
On 17 December 2015 the Protocol that modifies the Convention between the United Mexican States and the Government of the Kingdom of Spain for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income (the “Protocol”) was executed in Madrid. The Protocol will enter into force within three months after the corresponding exchange of diplomatic notes. Given the current political situation in Spain, the date of entry into force of the Protocol is uncertain. Taxand Mexico and Spain takes a look at the main features of the Protocol.

Relevant modifications to the Convention:

1. Dividends (Article 10)

  • According to the treaty in force, the maximum withholding rate on dividend income is 15% and a 5% withholding rate would apply if the beneficial owner is a company that owns at least 25% of the capital of the payor
  • This article is amended to provide that dividend income can be taxed in the State of Source, but if the beneficial owner of the dividends is a resident of the other Contracting State, income tax due cannot exceed 10% of the gross amount of the dividend
  • It is also established that the State of Source may not tax dividend income if the beneficial owner is a company resident of the other Contracting State that owns at least 10% of the capital of the payor or if it is a pension fund resident of the other Contracting State

2. Interests (Article 11)

  • According to the treaty in force, the withholding rate on interest payments is limited to 5% of the gross amount on interest paid to banks and interest derived from debt securities traded on certified stock markets, 10% on interest paid by an acquirer of machinery and equipment to the beneficial owner of such machinery and equipment or 15% in any other case
  • The withholding rate on interest payments is lowered to:
    • 4.9% of the gross amount of the interest if the loan is granted by any financial institution (including investment or savings banks and insurance companies), as well as on interest paid on debt securities traded on certified stock markets
    • 10% of the gross amount thereof in all other cases
  • Additionally, interest can only be taxed in the State from which the beneficial owner is resident if:
    • The beneficial owner is the mentioned State or its Central Bank
    • interest is paid by the State in which the interest income arises
    • interest derives from long-term loans (three years or more), are granted or guaranteed by financing Exim banks, or
    • if the beneficial owner is a pension fund

3. Capital Gains (Article 13)

  • Gains derived by a resident of a Contracting State from the sale of shares deriving more than 50% of their value from real estate property situated in the other Contracting State may be taxed in that other Sate. Real estate used in the industrial, commercial or agricultural activities of a company will not be considered for these purposes
  • The article is also modified to establish that gains derived from the sale of shares issued by a company which is a resident of a Contracting State may be subject to taxation in that State but the tax due may not exceed 10% of the capital gain. According to the treaty in force, the State of Source may not tax capital gains on the sale of shares if the seller transfer less than 25% of the participation in such company. With this change, all transfers would be taxed at the State of Source but the tax due would be limited to 10% of the gain
  • A new paragraph was included which provides that gains derived from the sale of shares can only be taxed in the State of Residence if the seller is a financial entity, an insurance company, a pension fund or a resident who sells regularly traded shares in a recognized stock exchange
  • Additionally, an exemption is established for corporate restructures if certain requirements are fulfilled. According to the treaty in force, a resident of a Contracting State may defer the recognition of a gain triggered as a consequence of a corporate restructure (including a merger, spin-off or an exchange of shares) 

4. Hydrocarbons (Article 22 – newly incorporated)

  • Consistent with recent treaties that have been renegotiated by Mexico an article for exploration and extraction of hydrocarbons is incorporated to the treaty
  • According to this article, if a resident of one Contracting State performs any upstream, midstream and downstream hydrocarbons activities in the other Contracting State for more than 30 days, consecutively or not, within a period of 12 months, such activities would constitute a permanent establishment

5. Anti-abuse rules

  • A business-purpose test is included to avoid treaty shopping.
  • The treaty will not affect domestic provisions such as controlled foreign corporation rules in the case of Spain and preferred tax regimes and thin capitalization in the case of Mexico.  

Your Taxand contacts for further queries are:

MEXICO

Manuel Tamez
T. +52 55 5201 7403
E. mtamez@macf.com.mx

Luis Monroy
T. +52 55 5201 7466
E. lmonroy@macf.com.mx          

SPAIN

Daniel Armesto
T. +34 944 700 699
E. daniel.armesto@garrigues.com

Alvaro de la Cueva
E. alvaro.de.la.cueva@garrigues.com

Taxand's Take

This Protocol will update one of the most relevant and frequently applied income tax treaties that have been negotiated by Mexico. The modifications are in line with those made to other treaties that have been recently renegotiated by Mexico. As of this date, the Protocol has not become effective and it is unclear if it will enter into force before year end. 

Taxand's Take Author

Manuel Tamez
Mexico

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