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SeminarioAnual

IFA 2017 4 de abril 2017

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US Tax Reform - Expectationsand impacts in Mexico

Peter A. Barnes, Of Counsel - Caplin & DrysdaleRicardo Rendón, Partner - Chevez, Ruiz, Zamarripa y Cía.

Guillermo Sánchez Chao, Partner - Chevez, Ruiz, Zamarripa y Cía.

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U.S. Tax Reform

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1. Objectives` House Republicans’ “A Better Way” Blueprint

� Increase US economic activity, partly through a border tax� Encourage savings and investment� Simplification� Eliminate tax arbitrage� Nothing about treatment of carried interest

` Senate Republicans/Hatch� Integration

` President Trump’s Tax Plan� Similar to House Blueprint � Eliminate carried interest benefit

` Obama/Senate Democrats/Schumer� Eliminate carried interest benefit � Deduction for state income taxes� Fairness

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2. Rates` On Corporate Income:

� Blueprint Æ 20%� Trump Æ 15%� Democrats/Obama Æ 28%

` On Individual Income� Blueprint Æ 33% (no AMT); 50% deduction for investment income� Trump Æ 33% (no AMT); 20% rate on investment income� Democrats/Obama Æ 39.6% (unchanged); increased rate on investment income of 28%

` On pass-through “business income”� Blueprint – 25% rate � Trump – confusion about position, but seems to tax at individual rates

` Revenue Neutrality` Effect on tax planning?

� All else equal, transfer pricing/offshoring less important� General move back to corporate form?

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3. Territoriality` Blueprint – exempts income of U.S.-owned foreign corporations, through

dividend exclusion� Democrats/Obama Æ 19%

` Blueprint Questions:� Will apply to all taxpayers?� Will it apply to all types of income?� Withholding?

• For deductible payments?• For dividends?

` Effect on tax planning?� All else equal, transfer pricing/offshoring more important

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4. Repatriation` One-time tax on U.S. multinationals’ “stranded” foreign earnings �$2.5 trillion (but not all in cash)�Blueprint – taxed at 8.75% over 8 years�Trump – 10% one-time to fund infrastructure�Democrats/Obama – 14% one-time�Foreign Tax Credits likely scaled back

` Effect on tax planning?�Companies brought home high-taxed income in late 2016�Too late in 2017?

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US Manufacturing Output & Employment

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5. Border Adjusted Cash Flow Tax

` Blueprint (and Trump; no proposal from Democrats/Obama)� Border-Adjusted: U.S. exports exempt/subsidized; U.S. imports taxed � Cash Flow: Cap-ex deduction

• But non-deductibility of net interest expense• Trump plan makes cash flow aspect electable

` Predicted U.S. dollar appreciation` Winners and losers` How will other countries react?� Equivalent to a VAT?

` Effect on tax planning?� Transfer pricing ended � Customs pricing takes over

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5. Border Adjusted Cash Flow Tax

Foreign Customers U.S. CustomersExportCo(US Company)

ImportCo(US Company)

U.S. Manufacturing Inputs

Foreign ManufacturingInputs

ExportCo Income StatementForeign Net Sales (€100=) $100U.S. COGS ($80)Operating Profit $20

ImportCo Income StatementU.S. Net Sales

$100Foreign COGS (Yuan 80=) ($80)Operating Profit $20

ExportCo DBCFT Tax Return

Includible Gross Revenue $ 0Deductible U.S. COGS ($80)Taxable Income ($80)

Tax at 20% $16After-Tax Net Income $36

ImportCo DBCFT Tax Return

Gross Revenue $100Foreign COGS

($0)Taxable Income $100

Tax at 20% ($20)After-Tax Net Income $0

Income Statements

DBCFT Outcomes

SLIDE A

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5. Border Adjusted Cash Flow Tax

ExportCo(US Company)

ImportCo(US Company)

U.S. Manufacturing Inputs

Foreign ManufacturingInputs

ExportCo Income StatementForeign Net Sales (€100 =) $80U.S. COGS ($80)Operating Profit $0

ImportCo Income StatementU.S. Net Sales

$100Foreign COGS (Yuan 80 =) ($64)Operating Profit $36

ExportCo DBCFT Tax Return

Includible Gross Revenue $ 0Deductible U.S. COGS ($80)Taxable Income ($80)

Tax at 20% $16After-Tax Net Income $16

ImportCo DBCFT Tax Return

Gross Revenue $100Foreign COGS

($0)Taxable Income $100

Tax at 20% ($20)After-Tax Net Income $16

Income Statements

DBCFT Outcomes

Foreign Customers U.S. Customers

SLIDE B

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6. Deductions and Credits` Corporate �No to net interest�No to special interest deductions (or credits)�Yes to cap-ex�Yes to R&D deduction (but not credit)

` Individual�Yes to home interest and charitable deductions�No to state and local income tax deduction (“SALT”)�No to everything else

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6. Deductions and Credits` 2015: 32% of SALT

deductions claimed by NY (13%) and CA (19%) residents, who pay only 23% of federal tax payments.*

` Eliminating SALT deduction would save $1.3 trillion over 10 years.*

* From “Revisiting the State and Local Tax Deduction”, Frank Sammartino and Kim Reuben (Mar. 31, 2016).

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7. Integration` Eliminate/reduce double tax on corporate income� Eliminates preference for debt financing� Eliminates tax on savings and investment

` Senate Republicans/Hatch:� Dividend paid deduction� Maybe 35% withholding on dividends and interest

` Trump: 15% rate on corporate income and 20% rate on investment income Æ integrated rate of 32%

` Blueprint: 20% rate on corporate income and 16.5% rate on investment income Æ integrated rate of 33.2%

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8. Chances of Passage` Likely:�Rate reductions for corporations and individuals�Elimination of AMT�Territoriality, perhaps with a permanent minimum tax�Repatriation, perhaps with a compromise rate (10%?)

` Unlikely:�Border Adjusted Tax• Maybe replaced with a VAT?

�Elimination of SALT deduction?` What about a . . .

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9. Carbon Tax Alternative` “A Conservative Answer to Climate Change” � James Baker III; George Shultz (WSJ, Feb. 7, 2017)

` Four pillars:� Carbon tax (e.g., “sensibly priced, gradually rising”)� Carbon dividend (e.g., $40 per ton Æ $2,000 for family of four)� Border adjustment

• U.S. exports to countries without comparable tax Æ rebate of tax • U.S. imports from countries without comparable tax Æ pay tax on “carbon

content”� Eliminate other regulations (EPA; Obama’s Clean Power Plan; federal and state tort

liability for emitters)

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Repatriation of Funds

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Repatriation of Funds` Temporary program during first semester of 2017� In force until July 19, 2017

` Applicable to Individuals, Corporations and Non-residents with PE� Reduced rate - 8%� Direct and indirect offshore investments held until December 31, 2016

` Obligation to keep investments in Mexico at least 2 years - notice to the tax authorities

` Transactions through Mexican financial system

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Repatriation of Funds` Prove effective income tax payment of offshore investments

` 15 calendar days to pay (starting from the date of repatriation)

` Mexican legal entities will increase CUFIN Account

` Tax obligations are deemed complied

` Resources under benefit will not be considered for “Discrepancia Fiscal”

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Special Economic Zones(SEZ)

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Special Economic Zones` June 1st, 2016 – Issuance of the Federal Law of SEZ

� Regulations issued on June 30, 2016

` Object� Rule planning, establishment and operation of SEZ� Boost economic growth of Designated Zones considered under-developed (socially and economically)� Creation of employments

` Integral Managers or Investors that operate throughout SEZ may receive tax, customs and financial benefits

` Federal Tax Laws and Federal Tax Code will be applicable regarding tax and customs matters

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Special Economic Zones` Ministry of Finance will issue a report containing, among others, a letter of

intent executed by the State and Municipal Governments to establish a Zone

` Presidential mandate declaring Zones, as well as administrative benefits, and applicable tax, customs and economic incentives

` Coordination Agreement to be executed between the Federal Government and State and Municipal Governments

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Special Economic Zones

` Non-official designated zones

� Lázaro Cárdenas (Michoacán-Guerrero)

� Salina Cruz (Oaxaca-Coatzacoalcos)

� Puerto Chiapas (Chiapas)

* These are Designated Special Economic Zones; however, the locations have not been made official yet through the Official Gazette

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Special Economic Zones` Special Permit or Assignment to develop and manage a SEZ

� Permits will be granted to Mexican Entities for up to 40 years with possible renovation for an equal period

� Assignments will be awarded to Government Entities

` It is not allowed to assign, mortgage, stamp or transfer Permits or Assignments to Foreign Governments� Including participation in the Entity to request Permit

` Assumptions for cancellation of authorization

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Special Economic Zones` Integral Managers

� Construct, develop, manage and maintain infrastructure of SEZ� Receive tax, customs and administrative benefits � Agree with Investors terms for leasing the industrial lots and rendering of related

services

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Special Economic Zones` Investors – Mexican individuals and entities, as well as non-

resident entities engaged in: � Manufacture� Agroindustry� Processing, transforming and storage of raw materials� Innovation and scientific and technological development � Rendering of support professional services such as logistics, financing,

and informatics, as well as introduction of merchandise for such activities

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Special Economic Zones` Investors may have:

� Tax and labor benefits – to be disclosed in each Decree� Special customs regime� Support programs (human resources, financing, innovation)� Administrative easiness� Competitive infrastructure

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Special Economic Zones` Tax incentives – will be established through Presidential mandate

� At least 8 years� No amendments that affect taxpayers� Decreasing basis

` Income Tax� 100% discount first 10 Y’s – 50% next 5 Y’s � Should boost establishment and development of a Zone� Promote productive investment, human capital creation and training

` Social Security� Tax credit on Employer Fees 50% first 10 Y’s – 25% next 5 Y’s

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Special Economic Zones` Tax incentives – Value Added Tax

� Special regime – similar to foreign trade regime� Reduce burden on goods imported – no effects when exported� 0% rate - introduction of goods or rendering of services by Mexican Entities� Activities performed throughout SEZ – not subject to VAT

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Special Economic Zones` Advantages for Export-oriented Investors

� Special customs regime, with efficient administration and access to imported raw materials

� Reduction or exemption of import duties

� Easy access and more confident infrastructure

� Tax incentives including tax holidays, as well as a simplified administrative environment

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NAFTA

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NAFTA in numbers` Balance of Trade in Mexico - 2016 (MM USD)

� Imports: $189,214 (48.8% of total imports) a) USA: $179,582b) Canada: $9,631

� Exports: $313,081.5 (83.7% of total exports)a) USA: $302,654b) Canada: $10,427

� Balance: $122,867 ↑

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NAFTA in contents

Goods Services(Including financials) Investments

Government acquisitions

Dispute resolutionTelecom

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Proposals of POTUS

` Rise tariff for imports from Mexico equivalent to 35%

` Renegotiation or Withdrawal

` Additional 20% for imports from Mexican products

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Renegotiation

` “The Parties may agree on any modification of or addition to this Agreement"

` “When so agreed, and approved in accordance with the applicable legal procedures of each Party, a modification or addition shall constitute an integral part of this Agreement”

` Potential topics- Access to markets – tariff preferences - Anti-trust- Origin rules – rise of national/regional contents - Environment- E-commerce - Migration- Government acquisitions

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Renegotiation

` Procedure� No deadline� Valid during process� Private sector participation� Requires legislative action (Mexico)

` Analysis to consider� Costs, market participation and enterprise competitiveness

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Withdrawal

` Article 2205 NAFTA: Withdrawal

“A Party may withdraw from this Agreement six months after it provides written notice of withdrawal to the other Parties. If a Party withdraws, the Agreement shall remain in force for the remaining Parties”

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Withdrawal

` American specialists consider that POTUS has powers to unilaterally withdraw from NAFTA –without approval of the Congress

` According to several regulations that empower POTUS to regulate Foreign Affairs and / or Emergencies

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Legal remedies

` There are no established remedies to force any State to stay as part of the Treaty

` Tariff limits� Mexico and USA are members of the WTO� Most-favored-nation Clause (MFN)

� USA average tariff 4.3%� Article II “Schedules of Concessions” 1994 GATT

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MFN by sector

` Average tariff for imports by Sector� Auto parts - 1.24%� Textile and confection - 7.85%� Shoes - 13.46%� Agriculture - 5.18%

` In general, Mexico has a MFN tariff of 35%, except for some specific merchandise

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WTO - Global Rules

` Principles� Non discrimination� Reciprocity� Security� Predictability

` Dispute resolution

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Commercial remedies

` Dumping` Safeguard` Subsidy

` Non-tariff regulations and restrictions

Commercial Protection

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Alternatives

` Supply and acquisitions from / to other States

` Analysis of Free-Tarde Agreements with other States:� Asia� Europe� Latin America