Mexico, in attention to the best practices identified and adopted by various international agencies, such as the Organization for Economic Cooperation and Development (OECD), has established within its tax legislation a number of scenarios in which the interests that are derived from some credits, among them backed up, are recaracterizados as dividends. This collaboration discusses the main problems arising from the presumption applicable to the loans backed which does not admit of proof to the contrary (juris et de jure).
INTRODUCTION
Derived from the international efforts to combat tax evasion and avoidance of tax, have been issued to various criteria and regulations that have been adopted by States within their domestic laws, seeking to protect its collection.
In that sense, the OECD, through the Actions against the Erosion of the Tax Base and Transfer of Benefits –Base Erosion and Profit Shifting (BEPS), has sought to effectively limit the erosion of “artificial” of the tax base between them which is performed by way of the excessive deduction of interest and other financial payments.
Within the Action 4 of the Draft BEPS, the OECD urged to formulate recommendations on the best practices in the design of rules to prevent the erosion of tax bases and the transfer of profits through excessive interest deduction.
The recommended approach is based on a standard ratio fixed, which purports to limit in effect the deductions net of a certain company or entity, in respect of interest and other payments economically similar to these, to a certain fixed percentage or certain of its earnings before interest, taxes, depreciation and amortization –Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA)–.
With that approach is intended to ensure that the deductibility of net financial expense of any company or entity is directly related to the income tax, the result of their economic activities.
On the other hand, through the Actions 8 to 10 seeks to ensure that the results of the transfer pricing are in line with value creation.
Well, one of the main planning tax that has been fought internationally is the deduction of excessive interest, which can have the effect of eroding the tax base and prevent the application of the tax on dividends.
In this context there are several special rules antiabuso, among which stand out the thin capitalization or insufficient, and the limitation of interest deduction in excess of a certain percentage of the EBITDA.
In Mexico, in the matter of the income tax (ISR), there are various scenarios in which the interest derived from certain credits –inside of which are backed up (back-to-back loans), are fiscally recaracterizados as dividends, which we consider a kind of rule antiabuso.
The main fiscal impact of recaracterizar interest as dividends is your deductible, as long as that interest is tax deductible, dividends are not, which implies a modification of the fiscal result.
A second fiscal impact consists in the determination of the tax on dividends. Which consists in the retention applicable to the dividend, which will depend on the quality of the subject recipient of the income.
ANALYSIS
Article 8 of the Law on Income Tax (LISR) notes that are treated as interest, whatever the name to designate them, the yields of credits of any kind. For its part, in general terms, the dividends are the profits that are distributed to the shareholders in proportion of the share capital that they have within the society.
Thus, the interest on the debt, generically, are deductible, except as provided by various special rules antiabuso, such as thin capitalization, percentage of EBITDA, etc .. different Situation happens with the utility that a company distributes to its shareholders in the form of dividends, which in Mexico is not deductible.
The foregoing, in practice, encourages multinational firms choose to finance their companies through debt, instead of making contributions to the capital. So, at times, multinational companies prefer to incorporate a particular entity or related party in a jurisdiction of low tax, with the purpose of granting credits or loans to other operating entities that are located in jurisdictions with higher levels of taxation.
With the aim to stop these practices, our tax legislation sets out various scenarios in which the interest derived from loans are considered, for tax purposes as a dividend “fictos”.
Thus, article 11 of the Law on Income Tax (LISR) provides that, in the case of interests arising out of loans granted to legal entities or permanent establishments in the country and living abroad, by persons residing in Mexico or abroad which are related parties of the person paying for the credit, shall be considered, for tax purposes, as a dividend, when you update any of the following circumstances:
- The debtor made a written unconditional promise of payment of all or part of the credit received, to a date as may be determined at any time by the lender.
- The interest will not be deductible, in accordance with what is established by the fraction XIII of article 27 of the LISR, that is to say, the excess of the market price of interest arising out of credits received by the taxpayer.
- In case of default by the debtor, the creditor has the right to intervene in the administration or management of the debtor company.
- The interest payable by the debtor are subject to the obtaining of profits or that your amount is set based on these utilities.
- Interest from loans backed. This, of course, even when they are granted through a financial institution resident in the country or abroad.
Similarly, the cited article 11 of the LISR notes that are considered to be loans backed operations by means of which a person provides cash, goods or services to another, who in turn provides, directly or indirectly, in cash, goods or services to a person referred to in the first place, or to a related part of this.
In accordance with this paragraph, among other assumptions are also considered to be loans backed those operations in which a person provides financing and the credit is collateralized by cash, cash deposits, shares or debt instruments of any kind, of a related party or the borrower, to the extent that is guaranteed this way.
Of the legislative history that gave rise to the inclusion of the current article 11 in the LISR, as well as the various reforms that happened to him, it’s clear that this special rule antiabuso has sought to eliminate the evasion and avoidance of tax by taxpayers who pay interest on financing, who, in reality, seeking to erode the taxable base and evade the payment of tax on dividends.
Thus, the OECD issued guidelines in which it was established that the simulation of the contribution of capital through interest will take treatment of dividends. Regulation that was adopted by our country in 1997, and has been specifically regulated by article 66 of the Law on Income Tax (LISR) in that year.
Subsequently, in accordance with the statement of reasons to the reform of the LISR, published on 27 December 2006, it was reiterated that the goal of granting the tax treatment of dividends on the interest derived from loans backed was to prevent erosion of the Tax base on Income.
Specifically, with regard to credit-backed, it is proposed to amend the then article 92 of the LISR, to establish expresses its concept, as well as expand on that course of recaracterización.
Of the above, it is insisted, with the aim to prevent tax avoidance and the erosion of the Tax base on Income, that is to say, the goal from its origin, and with the various modifications included, has been to establish a special rule antiabuso.
What is certain is that such article has been heavily criticised, as the provision is too broad and ambiguous, being a presumption juris et de jure, by not admitting proof to the contrary, even in those cases in which compliance with the principle of full competition (arm’s length principle) resulted in the transfer pricing rules.
That is to say, the legal fiction that it is in the article 11 of the LISR not supported by proof to the contrary. So, in either of the cases legal outlined above, the interest paid will be considered as non-deductible, in addition to recaracterizará as a dividend, which implies the reduction of the balance of the Account of Net taxable income (CUFIN) or, pay the Income Tax by applying the corporate tax rate to the amount piramidado, in the event that you do not have balance in that CUFIN, and will detonate the withholding Tax on Income that is appropriate depending on the recipient of this.
This means, in practical terms, the prohibition of certain financial transactions, under the penalty of ignorance prosecutor, and the awarding of the effects themselves a dividend.
Thus, to establish a presumption juris et de jure has generated great reviews, among other things, for being so broad and ambiguous, as, in addition to, not only understand the operations that in fact could imply a certain abuse or a weekend elusive, but also includes various operations real funding that happen day to day, derived from the various international trade relations and business valid, and that not allows be your reason of business and consistent with the principles of full competition.
Among a great number of assumptions, in order to exemplify the above, could recaracterizarse as dividends, interest on loans granted by financial institutions to companies resident in Mexico that are part of multinational groups, and have the endorsement, express or implied, of the group, which allows them to obtain financing in the conditions in which the gain.
This does not necessarily imply a purpose of evasion or avoidance of tax. Hence, it is considered that the course of law is too broad and catches assumptions other than the purpose for which they are implemented special rule antiabuso.
In this regard, it is worth mentioning that by meeting held on 13 June 2019, the Fourth circuit Court in Administrative Matters of the First Circuit, through the judgment of the direct protection 25/2019, performed an interpretation on the scope of the special rule antiabuso in the field of credit-backed, derived from the which were issued various thesis isolated in that it reinforces the figure of the recaracterización to dividends.
Such thesis is clear that the term “credit-backed” content in the fraction V of article 92 of the Law on Income Tax (effective in 2007), has a purpose circumvention or antiabuso, and that the legislator did not intend to frame your definition on the concept doctrinaire traditional, but extend it to other cases, in order not to leave traces where financial strategies and business novel seek to obtain or achieve ends or results analogues, all of this inside of an outline and purpose antiabuso.
Also, it is concluded that this is irrelevant to the object of the operation is considered as credit-backed, because what is important is the effect of circumvention that is attempting to control.
On the other hand, it was determined that the article 92, fraction V, of the Law on Income Tax leads to a legal fiction that are not supported by evidence to demonstrate the existence or non-existence of an evasion or tax avoidance, to treat as a dividend to the interest generated by a credit on the conditions there laid down.
In this sense, it argues that the fiction does not allow the taxpayer to demonstrate that the operations and fiscal mechanisms used and whether or not it originated as an evasion or tax avoidance, much less what was his true intention, as it is not a presumption where is relieved of proof to a certain subject and moves to another, but to a creation rules absolute.
In addition, it is recognized that the legal fictions in tax matters constitute an instrument of legislative technique that allows you to create realities legal different to those that would accrue normally, with the objective of establishing the tax base and avoid practices of tax evasion or tax avoidance.
Under this logic, the rules circumvention or antiabuso that contain presumptions and legal fictions allow you to define assumptions of fact elusive and incorporate them as facts of generators of taxes, by lifting the veil of simulations legal, in the background, involving another reality financial and economic.
For its part, the Federal Court of Administrative Justice (TFJA) issued to various criteria, which confirms the interpretation of the Fourth Court in Administrative Matters of the First Circuit with relation to the credit-backed, and his recaracterización as dividends.
Of the criteria listed above, it follows that, since its creation, the now article 11 of the Law on Income Tax had as its aim to eliminate the unfair practices that for purposes of evasion and avoidance of tax, using improperly the figure of interest for the purpose of transferring profits abroad, eroding the tax base in Mexico.
However, to establish a presumption, which does not admit of proof to the contrary, and define the concept so broad and ambiguous, we believe that the legislator was beyond the objective pursued by the standard, as affected in a negative way operations that do not involve an evasion or to circumvent tax, which comply with the principle of full competition.
Emphasis: This, in practice, results in the prohibition of certain lawful activities of funding.
It is important to mention that the article 11 of the Law of Income Tax is above the rules of transfer pricing and other provisions governing the principle of full competition, as well as the special rules of the thin capitalization and limitation of interest deduction on the basis of EBITDA, which implies that it is a “standard anachronistic ‘ which has been relined and has not been appropriate to the international standards.
The above is further evidenced by the inclusion of the general rule antiabuso contained in article 5-A of the Tax Code of the Russian Federation, which empowers the tax authority to recaracterizar operations that do not currently have a business reason and generate a tax benefit direct or indirect rule, which clearly would be applicable to cases that are analyzed when they have no business reason.
In our opinion, article 11 of the Law of Income Tax is anachronistic and has been widely exceeded, because its purpose can be achieved by the correct application of the general rules and special antiabuso that currently exist in the law.
Assuming that you will choose to keep the article 11 of the Law on Income Tax, must be changed to a presumption juris tantum, which allows to prove it to taxpayers to comply with the rest of the regulation, mainly in the field of transfer pricing and business reason; or, limit your concept only assumptions are particularly serious, which may not have a purpose other than the avoidance or evasion of tax.
So, to keep this figure, we consider that the precept in said should establish a presumption that it will operate only in the event that the taxpayer does not demonstrate that such operations comply with the principles of transfer pricing, and have a business reason, while guaranteeing maximum protection to both the taxpayers as to the collection itself.
While it is true that, in practice, there are some taxpayers who have shirked and evaded the Tax on Income by the figure of credit-backed, what is certain is that it is necessary to have a regulation regulations and appropriate, which, if well limit these abuses, it also allows them to be able to deduct the expenses arising from real business operations.
Finally, in the current economic context, we do not consider reasonable or regulations proportional to prohibit operations by legal presumptions absolute.
CONCLUSION
The definition of “credit-backed” has received various criticisms of the considered as such virtually any financing transaction held by an independent person that is guaranteed by a related party of the same accredited, as such rule may be limited or inhibited the typical financing operations by credit institutions that are required to develop commercial activities.
In our opinion, the above has brought with it several negative consequences, both to the collection as to the taxpayers, among which we highlight the following:
- The main effect for the taxpayer is the inability to deduct the interest that will be recaracterizados to dividends, even when it has complied with the regulation in the field of transfer pricing and other general rules and special antiabuso, which in practice implies a limitation to the lawful activities that you can perform, and their sources of funding, and
- To be overly broad regulation, include assumptions unrelated to the purpose of the special rule circumvention, without admitting proof to the contrary, what we estimate that does not exceed the test of constitutional proportionality.
In accordance with the opinion of various authors and lawyers, to establish a presumption juris et de jure, with respect to a course, policy is so broad and ambiguous, even, has caused many international companies, they may create disincentives to invest in our country.
Especially, if there are positions, criteria and interpretations, on the part of our authorities in this regard, such as the servicio de administración Tributaria (SAT), or, the Judicial Power of the Federation (FPPS), among others.