International worldwide transactions in Mexico face a weakness as a result of an old and outdated provision which disallows for income tax purposes, the deduction of payments made abroad on a prorated basis with other parties that are not subject to Mexican income tax, such as foreign residents with no permanent establishment in Mexico.
The rationale for such prohibition in 1959 was that the Mexican tax authorities did not have the legal means to verify whether such expenses were necessary or even actually made by a foreign resident.
At first hand it might seem that the economic burden of this provision is rather limited, but in practice it does represent an important downside for the Mexican side of worldwide transactions.
This is so because it is customary that the worldwide negotiation and implementation of the transactions are agreed by the parent companies and the cost of the whole transaction is distributed between the subsidiaries of each country on a cost-sharing basis.
Naturally, in a multiple-jurisdiction transaction it can be problematic if the structure of the arrangement is changed due to the cost associated with one subsidiary, unless it is significant to the whole transaction. Normally the cost associated with this provision is accepted as part of undertaking the whole transaction, but clearly, this prohibition does represent an additional economic burden to multinational transactions in Mexico.
Since this provision was first conceived of, many things have changed. New technologies and new legal instruments allow tax authorities to review cross-border transactions, such as the double tax treaties, agreements for automatic exchange of information and more recently the FATCA agreements entered into with the United States, which were unthinkable 50 years ago.
In addition, the means of communication are now more efficient than they used to be in the past, so the information the tax authorities need to verify the existence of a transaction is available without much effort as it is now a trend to exchange such information on an automatic basis.
Further, cost-sharing agreements, which allow multinational groups to share cost between their different subsidiaries, are widely used and accepted throughout the world. Even the Organisation for Economic Cooperation and Development (OECD) has accepted the existence of this kind of agreement, as they are specifically dealt with in chapter VIII of its Transfer Pricing Guidelines for...