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Tax considerations applicable to consortiums in the upstream sector in Mexico

02 February 2018

ITR Correspondent

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Derived from the implementation of the energy reform in Mexico, the Mexican Government is carrying out diverse biding processes to award contracts for exploration and production of hydrocarbon activities. Round 2.4., in which 29 deepwater blocks were offered, was carried out on January 31 2018 and was extremely successful.

Companies may participate in the bidding rounds for exploration and production of hydrocarbons in Mexico individually or as consortiums. For companies participating as consortiums, it is relevant for all parties to understand the legal and tax obligations and requirements as they are jointly liable from a contractual perspective and may also be impacted financially if one of the members of the consortium is not complying with tax obligations, especially the operator.   

Since the energy reform was enacted in Mexico back in 2013, diverse bidding rounds for exploration and production of hydrocarbons have taken place. In addition, many others are yet to come. 

According to the Hydrocarbons Law and the Hydrocarbons Revenue Law, companies may participate in the aforementioned rounds individually or as consortiums. When companies want to participate as consortiums, they have to register first in the bidding processes individually, either as operators or non-operators. Afterwards, they should obtain authorisation from the Hydrocarbons National Commission to participate and file their proposals as a consortium. Pre-qualification requirements for operators and non-operators are different and depend on the specific round.

To regulate the participation and operation of consortiums in Mexico, the Mexican Government enacted a specific legal and tax framework that has been evolving throughout the last years. The diverse modifications in recent years attend to practical issues that arose when the corresponding provisions were put into practice, showing that some amendments or further regulations were needed to adapt to the upstream companies operation. 

The first requirement applicable to consortiums is that the interested parties must enter into a joint operating agreement (JOA) in which:

  • An operator is appointed;
  • The interest participation of each member is established; and
  • An obligation for the operator to issue electronic invoices on behalf of the members is included.

The operator has to act on behalf of all members of the consortium and lead the implementation of the exploration and development plan for hydrocarbon exploration and production activities in a contractual area. When two or more companies participate in a consortium, no separate legal entity is incorporated.   

As no separate legal entity is incorporated and specific rules for consortiums are applicable, terms and conditions established by the parties in the JOAs may have different tax implications that have to be analysed in detail. For example, ownership of the assets by the parties, establishment of carried interest, establishment of payments between the parties such as bonuses, indemnities, among others.

Regardless of the fact that the operator in a consortium is the one responsible for the compliance with legal and tax provisions related to the exploration and production of hydrocarbon activities on behalf of the consortium members, all parties involved should be aware of the applicable provisions as all parties are jointly liable for the contractual obligations. In addition, if the operator does not comply with certain tax obligations, the other members may have an adverse impact.   

The exploration and production contracts establish that each participant in a consortium should be responsible for complying with its own tax obligations individually, except in cases in which the operator is responsible according to Mexican tax provisions.

The main tax provisions applicable to consortiums and operators are included in the Hydrocarbons Revenue Law. Among these provisions are the following:

1)      Tax obligations for operators before tax authorities and members of the consortiums;

2)      Invoicing process;

3)      Tax return filing and compliance of tax obligations by each member; and

4)      Computation of income tax by members of consortiums.

In addition, the Administrative Tax Rules for 2018 include diverse rules for consortiums.  Specifically on the determination of the VAT by the members of the consortiums, electronic invoices for expenses incurred by consortiums and considerations obtained and filing of an informative return including all transactions carried out by the consortiums.

As it can be seen, many of the tax provisions applicable to consortiums verse on the invoicing process and provision of information by operators to members of consortiums and tax authorities. This, as explained above, is due to the fact that the operator only acts on behalf of the other members and no separate legal entity is incorporated.

Even though the tax and legal framework for consortiums has been evolving and new rules have been enacted, in practice, upstream companies are still facing some practical issues when performing the invoicing process since certain formats and rules are still pending to be issued.

Taking into consideration how significant the upstream projects in Mexico are becoming for the country, the Mexican tax authorities should make the corresponding clarifications sooner rather than later.

When carrying out transactions as consortiums in the upstream sector, their members should carefully review the application of the tax rules for the deductibility of expenses for income tax purposes and VAT recoverability since they are directly linked; otherwise non-compliance with these rules may have an adverse financial impact on consortium members. Also, members should be fully aware that, as described herein, specific tax rules for consortiums are applicable, thus the general tax regime in Mexico does not necessarily apply.

Santiago Llano (sllano@ritch.com.mx)

Alberto Anguiano (aanguiano@ritch.com.mx)

Ritch, Mueller, Heather y Nicolau, S.C.

www.ritch.com.mx






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