Thursday, 25 October 2012

Mexico Transfer Pricing Adjustments

Over the past few years, the Mexican Tax Authority (Servicio de Adminstracion, or “SAT”) has dramatically increased the number and scope of its transfer pricing audits. More often than not, these audits impose hefty adjustments and fines on the taxpayers. There are currently no specific rules governing adjustments; however, based on observed cases, the following general distinctions can be made:
  • Primary adjustments: Defined as those made in order to comply with the obligations established in the Income Tax Law, relative to determining income and deductions in controlled transactions. Primary adjustments are made to adjust the actual pricing of intercompany transactions to align with prices that would have been determined by independent parties in comparable circumstances. Generally speaking, a primary adjustment can be applied either voluntarily by the taxpayer or imposed by the SAT.
  • Corresponding adjustments: As a consequence of a primary adjustment, in order to avoid a double taxation issue, the related party of the entity that recorded the primary adjustment could/should record a corresponding adjustment.
Discussions among Mexican transfer pricing professionals, auditors, unions, and the tax authorities have centered on the scope of adjustments and their implications for other taxes (VAT, Flat Tax (IETU), Excise Tax (IEPS), Custom duties) as well as for profit sharing (given that a change in taxable income has a direct impact on the amount of profit to be shared). To address these concerns, two additional variations with respect to adjustments come into play:
  • Virtual adjustments: Virtual adjustments occur when a taxpayer chooses to recognize an adjustment for income tax purposes only, by either modifying its taxable income or just paying an additional or lesser amount of income tax. Virtual adjustments have no further implications on other taxes; however, these adjustments may affect profit sharing methodologies if taxable income is modified.
  • Transactional adjustments: Transactional adjustments occur when both parties agree to modify the formal terms of a controlled transaction in order to comply with the arm’s length principle (i.e., primary and corresponding adjustments as described above). Transactional adjustments have implications for both non-income taxes and profit sharing.
The SAT is expected to issue specific rules on adjustments in 2013. It remains to be seen how these rules will compare to the observed practices summarized above.
Source: Ceteris' Transfer Pricing Times, Volume IX, Issue 10