THE ENTITY CLASSIFICATION (“CHECK THE BOX”) ELECTION FOR MEXICO CORPORATIONS

An eligible entity (i.e., an entity that is not on the list of entities prohibited from electing their status) may affirmatively elect its classification by filing Form 8832 with the IRS.  iN Mexico the only type of corporation that can make this election is know as a Socidada Limitada (SRL de CV) This election effectively overrides the entity’s default classification as a corporation for US tax purposes only. It does not effect the classification as a corporation in Mexico. The election is commonly referred to as a “check the box” election, because you put a check in the box on the form next to the entity classification you have chosen for your company.

It’s important to note that the election, if not made to correspond with the company’s incorporation or creation date, can trigger U.S. tax implications. A tax advisor should be consulted if you are considering tax planning that involves a check the box election.

A foreign entity that is required to file a federal tax or information return for the taxable year for which an election is made (e.g., the company has taxable activities within the U.S.) must attach a copy of the Form 8832 to its return. If the entity is not required to file, a copy of the Form 8832 generally must be attached to the return of an owner of the entity. The failure to comply with these filing rules does not invalidate the election, but may trigger penalties.

The advantage of this election for US tax purposes is:

• All of the corporations net income flows through to the US owners and is taxed on their personal return.
• If the corporation pays Mexican income taxes the US owners can claim those taxes as a tax credit on their US return.
• It avoids double taxation of the gain on the sale of any assets of the corporation.
• Will avoid the Mexican corporation from become a personal holding company.

Email us if you have questions. ddnelson@gmail.com

NEW TAX LAW HAS SURPRISE FOR THOSE WHO OWN MEXICO CORPORATIONS - YOU MAY NOW HAVE TO PAY TAX

By Kyle Lodder, CPA

President Trump has signed significant U.S. tax legislation into law today, namely the “Tax Cuts and Jobs Act”.

There are many favorable tax provisions that will benefit many taxpayers, for individuals and businesses. But there are also some quite unfavorable international tax provisions which may adversely impact business owners of non-U.S. corporations.

One specific new provision relates to U.S. persons who own an interest in a non-U.S. corporation.

Under prior law, U.S. shareholders generally are taxed on all income, whether earned in the U.S. or abroad. Foreign income earned by a foreign (non-U.S.) corporation generally is not subject to U.S. tax until the income is distributed as a dividend to the U.S. shareholder.

Under this new law, certain U.S. shareholders owning at least 10% of the foreign corporation generally must include in income starting in 2017 the shareholder’s pro-rata share of the net post-’86 historical earnings and profits “E&P” (i.e. accumulated unrepatriated earnings) to the extent it hasn’t been previously taxed in the U.S.  This is a one-time tax as the U.S. attempts to transition from a worldwide tax system to a territorial type of tax system.

The portion of the historical earnings comprising of cash or cash equivalents is taxed at a reduced rate of 15.5%, while any remaining E&P is taxed at a reduced rate of 8% (it works out to a bit higher rate in some cases). The lower tax rate is intended to recognize that non-cash assets are illiquid and/or in productive use in the business. Nonetheless, this could be a significant tax hit for this upcoming tax season, although there is an option to elect to defer the payment over eight years.

Another problem with this tax is that it’s on deemed income. There isn’t an actual dividend. Rather, it’s deemed income for U.S. purposes. In most foreign countries, this deemed income isn’t considered taxable income. The challenge then is that it’s taxed in the current year for U.S. purposes but not in the foreign country. And when the money is distributed in the future, it typically is treated as a dividend in the foreign country, but not in the U.S. It causes a mismatch and often the lack of use of foreign tax credits, resulting in true double taxation.

 
What to do by year-end?

If you have significant retained earnings, it’d be worth contacting us to see if there are some planning moves to be made prior to year-end. Perhaps it makes sense to withdraw money from the company before year-end to trigger an actual dividend in the U.S. and the foreign country. This will trigger income in both countries to allow for utilization of foreign tax credits. Furthermore, simply withdrawing the money by year-end will allow for us to then determine after year-end how to classify the withdrawal (as a dividend, wage or loan for example).

If there remains tax exposure after considering foreign tax credits, it could make sense to gift shares to a non-resident alien spouse before year-end to a smaller ownership percentage level to avoid this tax.

This is a very new tax concept and not a lot of time has been granted to us to plan around this matter.  Yet, it makes sense to look at this before year-end to see if any moves can be made prior to year-end to put you in a better tax position.

If you require additional information on any aspect of these complex rules, please contact Kyle Lodder CPA at 360.599.4340 or kyle@loddercpa.com.  You can also contact Don D. Nelson International Tax Attorney at ddnelson@gmail.com or 949.480.1235. Kyle works with our firm.

The material appearing in this communication is for informational purposes only and should not be construed as legal, accounting, or tax advice or opinion provided by Lodder CPA PLLC. This information is not intended to create, and receipt does not constitute, a legal relationship, including, but not limited to, an accountant-client relationship. Although these materials have been prepared by a professional, the user should not substitute these materials for professional services, and should seek advice from an independent advisor before acting on any information

Complete Form 8938 and TDF 90-22.1 Guidance In Simple Chart Form

The IRS has just published further information on when to file forms 8938 (to report foreign financial assets) and TDF 90-22.1 (FBAR) to report foreign financial accounts. Their guidance clarifies when foreign currency and precious metals located in foreign countries must be reported. The Chart is easy to understand and can be read HERE.

If the value of  the assets in your Fideicomiso, Mexican bank accounts and Mexican corportion exceed the thresholds set forth in this table, they must be reported on this form as well as on Forms 5471, 3520, 3520A, etc.

If you wish assistance in preparing these forms or wish to have your own self prepared forms reviewed by an expert contact us.

Best Mexican Corporate Forms for US Tax Purposes

Which Type of Mexican Corporation to use?

There are two types of Mexican corporations as listed below. When, as a US Taxpayer, you chose a type for your Mexican business or real estate, the US Tax Consequences can differ and have significant affect on your US taxes. Below we discuss the US income tax consequences of each type of corporation.


1. Sociedad Anonima (S. A.) and Sociedad Anonima De Capital Variable (S. A. De C. v.) are
negotiable stock corporations of two or more persons whose liabilities for acts of the corporation
are limited to their capital contribution.

This type of corporation will always be taxed as a foreign corporation.  The corporation will pay taxes in Mexico on its income and if it pays out dividends to you the owner, you will have to pay taxes again on those dividends on your US tax return.  Therefore its income  is subject to double taxation.  You as shareholder do not get to deduct is losses on your US income tax return or claim any foreign tax credits the taxes the corporation pays in Mexico to offset any of its income distributed to you.

If the corporation sells its business or assets, it will pay tax on that gain on its Mexican corporate tax return and when those funds are distributed to you, you will have to report that distribution as income on your US return and cannot claim any tax credits for taxes paid against that income in Mexico unless you make a Section 962 election which will allow you to claim the foreign tax credit, but will subject that income to taxes at the US corporation tax rates (which can be higher than your individual US income tax rate). Form 5471 may have to be filed for this entity depending your ownership percentage.


2. Sociedad De Responsabilidad Limitada (S. De R. L.) and the Sociedad De Responsabilidad
Limitada De Capital Variable (S. De R.L. De C.V.) are nonnegotiable stock limited liability
corporations of two or more persons whose liabilities for acts of the corporation are limited
to their capital contribution.

The tax consequences of this type of Mexican corporation are the same as stated above unless you make an election (which is only permitted for this type of corporation) to treat it for US tax purposes as a a disregarded entity(if you are the only shareholder) or a flow through partnership.  This election must be timely made with the IRS. Only a  S. De. R. L. can make this election.  Mexican attorneys have stated that it is possible to convert to this type of corporation if you erroneously incorporated as a S.A. de C.V.

After the election is filed this type of Mexican corporation is treated for US tax purposes very similar to a  US partnership or LLC.  All income or losses of the Mexican corporation flow through to your US income tax return and are taxed on it. Any Mexican income taxes paid by the entity can be claimed as foreign tax credits against the US tax on the income that you are taxed on.  If it has capital gains, those capital gains will be taxed on your US return the same as US capital gains.  The clear possibility of double taxation is avoided when this election is made.

The S. De R.L. often works out best if the corporation owns Mexican real estate that will generate losses while rented out and capital gains when sold.  It also works out well when an Mexican operating business will generate losses its  early years and  later when profits are made the owner expects to pull them all out from the corporation for his personal use.

The income or loss after the election is filed is included on your personal return if you are the sole shareholder or if there are several US shareholders, the income is reported by filing form 8865. We know Mexican tax law and how to best structure your Mexican business or real estate ownership to achieve he optimum US income tax benefits. www.taxmeless.com 

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Everything You Want to Know About 2011 IRS Voluntary Disclosure Program

The deadline for entering the IRS 2011 Voluntary Offshore Disclosure Program has been extended until September 9, 2011.  The procedures for entering the program are complex and must be followed carefully. You can also prior to the previous mentioned date obtain an additional 90 day extension of time to file all of your past tax returns including the special foreign reporting forms such as 5471, 8865, 5472, 3520 and TDF 90-22.1 (FBAR).

You can read all of the details and latest developments concerning the Voluntary Offshore Disclosure Program at our sister blog:  www.usexpatriate.blogspot.com .  You can read more about the special forms required at our website at www.taxmeless.com.

Remember, if you have failed to file required forms 3520 and 3520A for your Mexican Fideicomiso that means you have until 9/9/11 to file all past forms (if the real property has not produced revenue) without penalty under FAQ 18 in the rule to the program.

You also have until that date to file all past forms for your Mexican Corporation (form 5471) if  you have reported all taxable income from that corporation on your personal tax return without risk of penalty.

Election to Treat Mexican Corporation as a Flow Through For US Taxation if Usually a Good Idea

If you own a business or real property in Mexico in a Mexican Corporation, you should consider making an election for your US tax return to treat that entity as a flow through entity.  Best to do this when it is originally formed, but that can be done at a later date also, though the benefits will not be as great.

Your election has no effect on the taxation in Mexico, but does create benefits in many instances with your US tax return.  The Mexican corporations that end in S.R.L, are the only eligible entity to make this election. If your Mexican corporation ends in S.A. de CV, the election cannot be made unless you work with your Mexican accountant and attorney to revise its type of entity classification under Mexican law.

The benefits of electing the flow through treatment is as follows:

• You can deduct any yearly losses on your US tax return.
• Though your share of the Corporations yearly earnings flow through to be be taxed on your personal tax return, you can claim foreign tax credits for all income taxes paid in Mexico on that income which will offset your US tax on the same income dollar for dollar.
• If your corporation has a capital gain, that capital gain will flow through and be taxed to you on your personal return as a capital gain at the lower US tax rates (this is particularly good for corporations that investment in Mexican real estate and ultimately sell it).
• You avoid the onerous US Foreign Corporation Subpart F income rules which cause many types of income in a regular Foreign Corporation to be taxed to you whether you receive that income or not and to be taxed at ordinary income rates on your personal tax return.  These rules usually prevent individuals from claiming foreign tax credits against that income for taxes paid in by the Mexican corporation on that income.
• Assures in most situations capital gains treatment on your US tax return should you sell your stock in the corporation rather than that gain being taxed as ordinary income under the Subpart F rules which is often the situation.

Please contact us if you have Mexican corporation  and wish to make this election which again if often very advantageous to US shareholders on with respect to their personal taxes in the USA.