Mexico approves significant changes for subcontracted services

April 2021

In brief

The Mexican Senate approved legislation on April 20 that will modify the tax and labor law treatment of subcontracted services in Mexico. These law reforms may result in significant financial impacts to Mexican investments, as well as human resource considerations.   

The Labor Law modifications will be effective the day following their publication in the Official Gazette. However, the legislative changes to the Income Tax Law, Value Added Tax (VAT) Law and Federal Fiscal Code will be effective August 1, 2021.

The takeaway: Failure to comply with the new rules could result in significant penalties, including potential characterization of tax fraud.

In detail

Mexico’s Executive branch proposed significant tax and labor law modifications to outsourcing structures on November 12, 2020.  These outsourcing structures were defined to occur when a Mexican entity contracts with a related or unrelated legal entity/individual for services and the employees of the service provider are at the disposition and benefit of the service recipient (‘Outsourcing’). Please refer to our Tax Alert dated November 16, 2020.

The government, business sector, and labor representatives spent several months negotiating the modification terms, culminating in Congress’s April 2021 approval of material modifications to various laws, including the Income Tax Law, VAT Law, and Labor Law.

The most significant modifications to Outsourcing include the following:

  • Labor Law generally will prohibit Outsourcing. 
  • An exception allows for the rendering of specialized services or the execution of special projects that are not within the business purpose stated in the formation documents, or are not part of the primary economic activity of the service recipient (‘Specialized Services’), so long as the service provided is duly registered (see below).
  • Entities that will provide Specialized Services must comply with a new registration procedure with the Secretary of Labor. The registry will be made public. 
  • The profit-sharing obligation will be capped at an amount per employee.  The maximum profit sharing payable will be the higher of three months’ salary or the average profit sharing received over the last three years.
  • Significant penalties will apply for failure to comply with the Outsourcing limitations, including potential characterization as tax fraud.
  • Payments for Outsourcing will not be deductible for income tax purposes unless they qualify as Specialized Services and comply with all relevant formalities.
  • Payments that are not deductible for the Income Tax Law also will not be creditable for VAT law.
  • Payments for simulated Specialized Services or Outsourcing may be considered as tax fraud.

Although the tax law changes will not become effective until August 1, 2021, the other legal provisions will be effective the day after they are published in the Official Gazette.  Given the tight timeline for compliance, taxpayers should analyze the effect of these new rules on their Mexican operations and determine if changes to their Outsourcing framework are warranted.  

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Bernard Moens

US International Tax Inbound Leader, PwC US

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