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Financial climate should put Mexican tax reform on the agenda

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Jorge Díaz Carvajal of Escalante & Asociados says that a limited package of economic measures has failed to bring clarity in several areas and stronger tax reform may be needed sooner rather than later.

On September 8 2022, the executive branch of the Mexican government delivered to the Congress the Economic Package proposal for 2023 (the ‘Package’) – which comprised the General Economic Policy Criteria, the Federal Revenue Law, the Federal Fees Law, and the Federal Expenditure Budget – for its review and approval.

Limited change

As expected by high-ranking government officials, the Package does not set forth modifications to any of Mexico’s diverse tax laws – such as the Income Tax Law (ITL), the Value Added Tax Law (VATL), the Special Tax on Production and Services Law (IEPS, based on its initialism in Spanish), or the Tax Code – to incorporate new taxes or increase the tax rates of existing ones.

As a sole exception, an increase in the withholding tax rate applicable to interest paid by financial institutions is included. A rise from 0.08% in 2022 to 0.15% in 2023 represents a significant modification to the tax rate applicable for those kinds of payments.

Even though taxpayers are generally in line with no further modifications to tax laws – as they tend to generate economic uncertainty and hinder, to a certain extent, foreign direct investment – objectively this may not have been the best decision in view of the current and short to mid-term situation of the country and certain in-force tax provisions.

Uncertainty remains

The approach should not necessarily be to consider new taxes, but rather to incorporate informal commerce in the tax system and broaden the tax spectrum and tax base regarding the VATL and the relatively new trust tax regime, just to mention a few measures. In addition, there are already several tax provisions in force that create uncertainty for taxpayers that have not been addressed by the government.

Examples of issues to be clarified by the tax authorities are the obligations related to:

  • The legal framework to determine if a taxpayer forms part of the financial system in accordance with the ITL (Article 7 of the ITL);

  • The framework to act as the legal representative for tax purposes of residents abroad (Article 174 of the ITL); and

  • The way interest source income obtained by foreign tax residents should be applied (Article 166 of the ITL), specifically to determine the withholding tax rate.

This is because the corresponding provisions are worded to allow secondary-type rulings (Omnibus Tax Resolutions) to regulate essential elements of such tax provisions.

Beneficial owner provisions, enhanced as of 2022, are another example of formal tax obligations with tax repercussions that are still unclear, in their applicability and enforceability, despite the potential adverse consequences in the event that the tax authority considers that noncompliance exists.

Looking ahead

In the short term, taxpayers can expect review through audits to continue in the same way as it has been conducted recently. That is, in an aggressive manner and with a special focus on major taxpayers, as the federal government has stated that it aims to continue its revenue collection along the same lines as it has in the past couple of years.

Indeed, from the content of the documents presented before the Mexican Congress, the government expects the tax collection to increase to 11.6% in 2023, despite the current financial environment, in part due to the envisioned removal of tax incentives under the IEPS for gasoline.

A topic that is still uncertain is if, for 2024, tax modifications are expected for the most relevant tax laws. Under normal circumstances, that idea would be discarded because it is an important election year, including a presidential one. However, the country´s finances may not be able to wait an even longer time for tax reform that addresses budgetary issues and tax collection matters with a higher degree of certainty.

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