Who Is Liable For Income Taxes in Mexico
Resident individuals are taxed on worldwide income. Nonresidents are taxed on Mexican-source income only.
Individuals who establish their home in Mexico are considered resident in Mexico. If individuals also have a home in another country, they are considered resident in Mexico if their center of vital interests is located in Mexico. An individual’s center of vital interests is considered to be located in Mexico in the following circumstances:
- More than 50% of the individual’s income in a calendar year is derived from Mexican sources.
- The center of the individual’s professional activities is located in Mexico.
Individuals who break residency ties with Mexico must notify the tax authorities within 15 business days before such change in their status and no later than a month following the change of residency. For this purpose, they must designate a legal representative in Mexico.
Income subject to tax. The taxation of various types of income is described below. For a table outlining the taxability of income items.
Employment income. Taxable employment income includes salaries, wages, directors’ fees, bonuses, gratuities, allowances, certain fringe benefits, benefits in kind and statutory employee profit-sharing distributions.
Education allowances provided by employers to their expatriate or local employees are taxable for income tax and social security purposes if the allowances are not generally provided to all the employees under the applicable rules for fringe benefits.
Nonresidents who receive salaries paid by resident employers or by employers with permanent establishments in Mexico are subject to withholding tax at source as described in Rates. Salary income and income for personal services paid by a nonresident individual or company are exempt from tax if the services are not related to the nonresident payer’s permanent establishment in Mexico (or the nonresident payer does not have a permanent establishment) and if the services are provided for fewer than 183 days (including Saturdays, Sundays, holidays and vacations). For purposes of this rule, the 183 days need not be consecutive in a 12-month period. If services are provided for more than 183 days, individual tax calculated using nonresident tax rates must be paid from the first day the individual begins to work in Mexico.
Self-employment and business income. A self-employed individual who earns income from business activities or professional services, including real estate rental activities, is subject to tax at the applicable rates established in the law and published by the tax authorities. The tax is calculated on the net income derived by the individual for each of the months corresponding to the periods to which prepayment applies (see Section D). Self-employed individuals also must pay other taxes, such as value-added tax and flat tax (see Section B).
Professional fees paid by a Mexican resident to a nonresident for services rendered in Mexico are subject to withholding tax at a rate of 25%. If the services are rendered only partially in Mexico, income tax is payable on the portion of the income related to the services rendered in Mexico.
Investment income. A company resident in Mexico that distributes dividends to its resident and nonresident shareholders is subject to a 30% tax to the extent that such company has not already paid the tax on the underlying income. Dividends must be included in a resident’s taxable income. The corporate tax paid is credited against the resident’s final tax liability. Dividends paid by foreign resident entities to Mexican resident individuals are included in the individuals’ taxable income and taxed at the rates.
For 2011, interest on time deposits with Mexican banks and on publicly issued debentures is subject to a provisional 0.6% withholding tax on the capital invested that originated the interest.
Interest derived from investments in other entities (other than publicly issued debentures) is subject to a 20% provisional withholding tax on the nominal interest. Gains derived from the sale of publicly issued debentures are also subject to this tax. Other interest income is included in taxable income and taxed at the rates. Individuals accrue as taxable income the real interest gained during the fiscal year. Real interest is equal to the amount by which interest exceeds the inflationary adjustment effects of the tax year. For 2011, interest income received by nonresidents from Mexican banks is subject to a 10% withholding tax. Lower rates may apply under certain tax treaties. Stricter rules have been implemented for Mexican mutual funds. Gains and losses derived from the sale of shares in a fund must be reported in a resident’s tax return and treated as interest.
Income received by nonresidents from the rental of real and personal property is subject to a final withholding tax at a rate of 25%, with no deductions allowed. For the taxation of real estate rental income derived by a resident, see Self-employment and business income. Resident taxpayers are subject to tax on their rental income from real estate located in foreign countries. They may elect to deduct actual expenses incurred to determine the income or claim a flat 35% deduction from rental income. Individuals should consult tax professionals to determine the applicable tax base for rental income, because the flat rate business tax may also apply to such income (see Section B).
Royalties received by nonresidents for the use of trade names, trademarks, patents or certificates of invention are subject to a 30% withholding tax. Fees received by nonresidents for technical assistance and royalties for know-how are subject to a 25% withholding tax. Lower rates may apply under certain tax treaties.
Directors’ fees. Directors’ fees received by residents in Mexico from Mexican or foreign resident companies are subject to income tax at the rates. The paying companies may deduct these fees if certain requirements are met.
Exempt income. The following items, among others, are excluded from taxable income:
- Indemnities for accidents and illnesses.
- Retirement benefits and pensions provided by public institutions. Mexican private retirement plans are partially exempt.
- Reimbursement of medical, dental, hospital and funeral expenses incurred in Mexico.
- Social security benefits granted by Mexican public institutions.
- Savings funds (Mexican funds only).
- Travel expenses properly reported by the employee.
- Social welfare and fringe benefits received from Mexican government institutions.
Certain exemptions are subject to limitations and specific requirements.
Taxation of employer-provided stock options. Employer-provided stock options are taxed as salary income for the employee. They are taxed at the time of exercise on the difference between the exercise price and the fair market value of the stock.
Gains derived from the subsequent sale of the shares are subject to tax as capital gains (see Capital gains and losses).
For stock options granted before 1 December 2004, the difference between the fair market value of such shares at 31 December 2004 and the strike price (exercise price) agreed at grant is considered to be acquisition of assets income if such difference is greater than 10% of the strike price. If the difference is not greater than 10% of the strike price, the difference is taxed as salary income. The difference between the fair market value of such shares at 31 December 2004 and the fair market value at exercise is considered salary income.
Capital gains and losses. In general, gains derived from the sale of shares and real estate are created as capital gains. Capital gains are not subject to a separate tax, but are included in ordinary income and taxed at the rates. The gain calculation includes adjusting the cost for inflation. Gains derived from shares sold on the Mexican stock exchange are exempt from tax if the taxpayer does not trade more than 10% of the paid-in stock of the listed company within a period of 24 months. A gain derived from the sale of a personal residence is exempt from tax if the amount of the proceeds does not exceed 1,500 Investment Units (Ps 6,511,200). As of 31 December 2010, an Investment Unit equals Ps 3,408.55. Banking and credit institutions use Investment Units to grant loans at a fixed rate. Gains derived from the sale of a primary residence are exempt from tax if the taxpayer demonstrates that he or she had been living in the residence during the five years preceding the date of the sale.
Capital gains derived from transfers of shares and real estate are taxed using an income-averaging method. The taxable gain is calculated separately for each asset and then divided by the number of years the asset was held, up to a maximum of 20 years. The resulting amount is added to other taxable income. After the graduated marginal tax rates are applied to the total income, the average rate is then applied to the balance of the capital gain. Income averaging does not apply to capital gains derived from transfers of real property used in a trade or business. These gains are added to ordinary taxable business income.
Although computed the same way, capital losses are treated differently. The tax benefit for the year in which a loss is incurred is limited to the tax attributable to the loss, divided by the number of years the underlying asset was held, up to a maximum of 10 years. The amount of the loss equivalent to one year is deductible from the individual’s gain on the sale of other assets or from other income derived in that year, except salary, self-employment and business income. The remaining loss in the relevant calendar year may be carried forward three years and can be used only to offset the tax on capital gains derived from the sale of shares or real estate.
Nonresident taxpayers deriving capital gains from the disposal of shares or real estate may elect to pay tax on the gross amount at a rate of 25% or to be taxed at a rate of 30% on the net gain. An individual electing the second alternative must designate a legal representative who is a tax resident of Mexico.
Deductions
Personal deductions and tax credits. Resident individuals are granted the following personal deductions:
- Insurance premiums for medical coverage
- Fees and other payments for medical, dental and hospitalization services for the taxpayer and his or her dependents
- Payments for the school bus transportation of dependent children if required by the school
- Funeral expenses limited to annual minimum salary
- Certain donations to public works or utilities, charitable or welfare institutions, and promoters of the arts or culture, capped to 7% of taxable income
- Real interest paid on mortgage loans with respect to the principal residence
- Voluntary contributions made to the individual retirement account, limited to five times the annual minimum salary
- School fees paid with checks or electronic transfers, except materials and registration fees, up to the following amounts:
— Preschool: Ps 14,200
— Elementary school: Ps 12,900
— Junior high school: Ps 19,900
— Technician school: Ps 17,100
— High school: Ps 24,500
Business expenses. Ordinary expenses, including salaries, fees, rent, depreciation, interests and other general items, may be deducted from the amount of gross revenue to compute taxable net income. Instead of deducting actual expenses incurred, individuals with rental income may elect to deduct an amount equal to 35% of rental income.
Employment subsidy. The employment subsidy is calculated on a monthly basis. It is a tax credit that is subtracted from the monthly tax due. No employment subsidy applies when calculating tax in the annual tax return.
Relief for losses. Losses incurred in business or professional activities may be carried forward for 10 years against future earnings of the same type of income, restated by inflation.
B. Other taxes
Flat-rate business tax. The flat-rate business tax (impuesto empresarial a tasa única, or IETU) is a minimum alternative tax. For 2011, the IETU tax rate is 17.5% on income from self-employment, and rental of properties. Income and deductions for IETU purposes are determined on a cash basis.
The tax base for IETU purposes is calculated by subtracting certain deductions (in general, payments effectively made in cash that are attributable to purchases of goods and services and payments of rent) from taxable income from the sale of assets, rendering of services and rental of property. Dividends, interest, royalties received from unrelated parties and income from financial derivative transactions are generally not included in the IETU base. As a result, these items are neither taxable nor deductible.
Deductions are allowed if an item is used to carry out activities subject to IETU or to manage such activities or if an item is used in the production, sale or distribution of goods and services and such activities result in income subject to IETU.
The IETU rate is applied to the tax base described above. The resulting amount is then reduced by certain tax credits. If allowable deductions in a year are greater than income for IETU purposes, the taxpayer is granted a tax credit that may be carried forward for 10 years and applied against future IETU tax liabilities. The amount of the tax credit equals the excess of allowable deductions over income received, multiplied by the IETU tax rate for the year. An excess amount could occur in years in which the taxpayer makes a high level of capital expenditure because capital expenditure effectively paid is deductible for IETU purposes, as opposed to depreciation for income tax purposes.
The IETU Law provides for a tax credit equal to the amount calculated by applying the IETU rate to the amount of taxable salaries paid, including social security contributions. If not fully used, this credit may not be carried forward.
A tax credit is also granted for the income tax paid by the taxpayer during the fiscal year. Monthly estimated payments of IETU must be made during the fiscal year, and tax credits for these payments are allowed when calculating the annual amount of IETU.
Estate and gift taxes. No estate or inheritance tax is levied except for a local real estate property tax.
Gifts or donations from direct line family members (ascendants or descendants) are exempt from income tax if certain requirements are met.
C. Social security
Contributions
Social security. The maximum rate of the social security contribution payable by employees is approximately 2.775% of the integrated salary. The contribution is withheld by the employer from wages. The maximum rate of the social security contribution payable by employers can reach 36.15% (including the percentage for job hazard). The maximum amount of salary that may be used to compute the social security contribution equals 25 times the minimum wage. These contributions are all subject to caps that are determined based on a multiple of the minimum daily wage in the area in which the work is performed. For 2011, the maximum annual social contributions per employee are approximately Ps 103,890 for the employer portion and Ps 14,886 for the individual employee portion.
Housing Fund. Employers must contribute 5% of salaries (limited to 25 times the minimum wage) to the Housing Fund which provides funds for the construction of housing for workers.
Mandatory pension plan. Employers’ contributions to a pension plan that is managed by a bank in the employee’s name equal 2% of an employee’s compensation. The maximum amount of salary that may be used to compute the pension plan contribution equals 25 times the minimum wage.
Coverage. The social security system in Mexico provides the following benefits:
- Medical assistance in cases of illness, maternity care and accidents
- Indemnities in cases of temporary disability
- Pensions for disability, old age and death
Medical-assistance benefits extend to the members of an employee’s family, including a spouse, parents and children.
Totalization agreements. Mexico has entered into totalization agreements for social security purposes with Canada and Spain. Under such agreements, employees from these countries may generally work in Mexico without having to pay social security taxes. Restrictions apply and certain requirements must be observed.
Double tax relief and tax treaties
An individual resident in Mexico with foreign-source income may take a credit for foreign tax paid in the source country to the extent that the foreign tax paid does not exceed the individual’s Mexican tax liability on the foreign-source income.
Mexico has entered into double tax treaties with the following countries.
Australia
Greece
Poland
Austria
Iceland
Portugal
Barbados
India
Romania
Belgium
Indonesia
Russian
Brazil
Ireland Federation
Canada
Israel
Singapore
Chile
Italy
Slovak Republic
China
Japan
South Africa
Colombia
Korea (South)
Spain
Czech Republic
Luxembourg
Sweden
Denmark
Netherlands
Switzerland
Ecuador
New Zealand
United Kingdom
Finland
Norway
United States
France
Panama
Uruguay
Germany
In addition, Mexico has signed double tax treaties with Bahrain and Venezuela, which either await ratification or are not yet in force.
Mexico is currently negotiating double tax treaties with various countries including, among others, Aruba, Bermuda, Costa Rica, Hungary, Kuwait, Latvia, Lebanon, Lithuania, Malaysia, Morocco, Nicaragua, Pakistan, Slovenia, Thailand and Ukraine.
To learn more about the history, culture, economy and other information about Mexico
We have been preparing US income tax returns for US Citizens and permanent residents living in Mexico for over 15 years. As a US Citizen or permanent resident (green card holder) you are required to file a US return each year regardless of the fact that you file and pay taxes in your residence country. The expatriate earned income exemption ($100,800 for 2015) can only be claimed if you file a timely tax return. It is not automatic if you fail to file.
We have scores of clients located in Mexico and know how to integrate your US taxes into the local income taxes you pay. Any income tax you pay there can be claimed as a dollar for dollar credit against the tax on your US return on the same income.
As an expat living abroad you get an automatic extension to file until June 15th following the calendar year end. (You cannot file using the tax fiscal year for US tax purposes). You must pay any tax that may be due by April 15th in order to avoid penalties and interest. You can get an extension to file (if you request it) until October 15th.
There are other forms which must be filed if you have foreign bank or financial accounts; foreign investment company; or own 10% or more of a foreign corporation or foreign partnership. If you do not file these forms or file them late, the IRS can impose penalties of $10,000 or more per form. These penalties are due regardless of whether you owe income taxes or not.
There are certain times you may wish to make elections with respect to your Corporation or Investment Company which will give you US tax benefits. There are other situations where forming a US corporation to receive your business income may be more advantageous than using a corporation in your resident country. We can help you with these decisions.
If you are self-employed while working, you will have to pay US self-employment taxes (social security). If you are a bona-fide employee you do not have to worry about paying US social security on your wages earned in Mexico.
We have helped hundreds of expats around the world catch up because they have failed to file US returns for many years. Unfortunately, unlike India, Canada, UK, etc. you must also file so long as you are a US citizen or resident. You can if you follow proper IRS and State Department procedures surrender your US Citizenship and therefore cut off your obligation to pay US taxes in the future. You must surrender that Citizenship for non-tax avoidance reasons and then can usually not return to the US for more than 30 days per year for the subsequent ten years.
Let us help you with your US tax returns, US tax planning and other US tax and legal concerns. Download our expat tax questionnaire or request a request a consultation by phone, skype or email