Mexico Cross-Border Tax Planning
Mexico is one of the more common foreign countries where US Citizens and Permanent Residents conduct business in. When operating a business with a foreign country, there are many tax twists and turns to be aware of – especially on matters involving taxation and reporting. While it may be relatively simple to expand a US business into Mexico, there are various tax implications and reporting requirements that a US person should consider. And, just because there is a tax treaty between the United States and Mexico does not mean US persons can avoid paying taxes on income generated abroad. Let’s take a brief look at five common issues impacting US persons conducting business in Mexico.
Disregarded Entity Worldwide Income
Commonly, a taxpayer creates the equivalent of a US LLC so that they can disregard the foreign entity and avoid paying taxes in the foreign country. Two of the main types of foreign entities are the Sociedad Anonima (SA) and Limited Liability Company (SRL). With a corporation, depending on whether it is CFC or not will impact the immediate vs delayed tax rules. If a taxpayer wants to create a disregarded entity in Mexico, then they are (generally) subject to tax as an individual taxpayer, and the worldwide income tax rules kick in. The United States follows a worldwide income tax model for US Citizens, Lawful Permanent Residents, and Foreign Nationals who meet the Substantial Presence Test. If foreign tax credits are available, it may help to reduce or eliminate US taxation on foreign income.
** If you operate a foreign disregarded entity, you may have to file a form 8858 and 8832 during the initial year of operation and then an ongoing form 8858, unless an exception exclusion or limitation applies.
Forming a Business in Mexico
While there are various different types of business entities that a US person may form, it is important to keep in mind that not all types of foreign entities can be disregarded. The United States developed a per se corporation list, which essentially means that certain corporations that are identified on the list, cannot become disregarded under US tax law — and therefore they have to be treated as a corporation for US tax purposes. When it comes to Mexico, the Sociedad Anonima is identified as one of these types of Per Se Corporations.
Sociedad Anonima, Form 5471 & TCJA
When a taxpayer operates a Sociedad Anonima (depending on whether they fall into any of the categories of filers for Form 5471), they will have to file various other international information reporting forms as well. The taxpayer may have to file Form 5471 and work through more complex tax issues such as Subpart F Income and GILTI.
US Banking Requirements for Foreign Accounts
When US persons form businesses in foreign countries such as Mexico, it is common to obtain a local bank account in order to operate in the local currency. When a US person has control or signature authority over these foreign accounts, they are required to report them on foreign account reporting tax forms such as the FBAR and Form 8938 – when the threshold for reporting has been met. The failure to report foreign bank and financial accounts may result in significant fines and penalties – although there are various offshore tax amnesty programs to try to minimize or eliminate these penalties.
The United States and Mexico have entered into several different tax treaties/agreements. While these tax treaties may help to minimize certain taxes for some, typically if it is a US Citizen or Permanent Resident residing in the United States and conducting business in Mexico, the application of these benefits will be limited. Likewise, taxpayers who are considering relying on the tax treaty between the United States and Mexico will want to always refer to the Saving Clause to assess whether a specific article within the treaty applies to them or not and whether the application of the treaty provision is limited by the savings and/or exempt from the saving clause. While the income tax treaty is the main treaty, other types of treaties between the United States and Mexico include:
Current Year vs. Prior Year Non-Compliance
Once a taxpayer misses various tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a Quiet Disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing untimely prior-year foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist that specializes exclusively in these types of offshore disclosure matters.
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Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure.
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