For taxpayers with complex or unique intercompany transactions, advance pricing arrangements (APA) are an attractive way to obtain certainty regarding their pricing methodologies, as the taxpayer’s intercompany transactions are negotiated with the corresponding local tax authority for a given period of time. In Mexico, APAs can cover up to five years—including the fiscal year when an APA is requested, the immediately preceding year and up to three fiscal years following the year of the corresponding request.
APAs can be unilateral, bilateral or multilateral instruments. In Mexico, bilateral, i.e., involving two tax authorities, or multilateral APAs can be requested only when Mexico has a tax treaty with the foreign counterparties to the subject intercompany transactions. APAs are governed in Mexico by Article 34 of the Código Fiscal de la Federación (CFF), which grants Mexican tax authorities rights to resolve a taxpayer’s request to review the transfer pricing methodologies for its intercompany transactions. Taxpayers can request an APA by submitting Form 102/CFF to the Servicio de Administración Tributaria (SAT), Mexico’s tax authority, and a payment of 216,308.51 pesos (approximately $11,330), with a fee per annual review of 43,261.70 pesos (approximately $2,266). Before submitting an APA application, taxpayers in Mexico also can request the SAT to review their draft methodologies and comment on the sufficiency of their supporting information to help ensure a smoother APA process. This preliminary review can be completed without disclosing the taxpayer’s name by the petitioner.
When filing an APA to the SAT, taxpayers should disclose extensive and detailed information about the taxpayer, its affiliates and the subject intercompany transactions and provide certain supplemental information, such as current audit disclosures—all of which must be submitted in Spanish. The information required as part of the APA request is intended to help tax authorities understand the taxpayer’s operations and global footprint, as well as the financial performance of the Mexican taxpayer and the multinational enterprise (MNE) group. It also is intended to provide details about how value is created within the MNE group, the nature of subject intercompany transactions, governing agreements, potential internal comparables and the proposed methodology to analyze each transaction.
Taxpayers are required to disclose information about payments to related parties over a three-year period, along with information on the MNE group’s expenditures related to the creation of intangibles. In addition, tax authorities may request an analysis of the development, enhancement, maintenance, protection and exploitation of intangibles (so-called “DEMPE” functions) within the MNE group and a functional analysis (functions, assets and risks analysis) of the Mexican taxpayer. Lastly, the Mexican taxpayer should provide information supporting the proposed transfer pricing. This should include an explanation of how comparability was achieved and any proposed adjustments to the comparables, as well as the taxpayer’s reasoning on why the elected methodology is appropriate for each subject intercompany transaction.
Taxpayers requesting an APA should expect regular meetings with the SAT and follow-up inquiries, including on-site functional analysis interviews, to understand and corroborate the information provided by the taxpayer. The duration of the APA negotiation process depends on a number of factors, including the quality of the information provided, complexity of the taxpayer’s business and intercompany transactions and, for bilateral or multilateral agreements, the negotiation process between the Mexican tax authorities and their foreign counterparties, including any voluntary arbitration procedures. APA negotiations typically last more than two years in Mexico.
There are special provisions for APAs for the maquiladora industry in Mexico. The 2014 Mexican Income Tax Law introduced a safe harbor for those maquiladoras that sought to obtain certainty from the SAT with respect to their transfer pricing positions. As part of the changes introduced in 2014, maquiladoras can request an APA through a similar process to the one described above, which would result in the determination of arm’s-length prices using market comparables, or they can opt for the safe harbor regime, under which the determination of the returns that should be earned by the maquiladora is based on its total costs or total assets. Under the safe harbor regime, the maquiladora should earn a return of at least the minimum of 6.5 percent over total costs and expenses or 6.9 percent of the total assets used in the maquiladora operation. This safe harbor is a streamlined process that takes less time than a typical APA.
To alleviate the lag faced by the SAT on its review of 700 pending unilateral APA requests involving U.S.-based entities with maquiladora operations in Mexico, the SAT negotiated with the IRS over the course of two years to create a methodology under which the IRS and SAT would recognize the results of certain maquiladoras as arm’s-length for U.S. and Mexican federal income tax purposes. The IRS announced on October 14, 2016, that certain Mexican taxpayers ultimately owned by U.S. entities would be eligible to apply a transfer pricing framework, commonly known as the fast track methodology, to determine their taxable income in Mexico. The methodology derives formulary return apportionments for the Mexican maquiladoras based on their industry, expenses and assets and was not widely disclosed to the public. The methodology was primarily applied to the 2014 to 2017 tax years of eligible taxpayers, and it is unclear if it will continue for future tax years. The SAT still has to issue further guidance and regulations on this matter to ensure a fast and efficient resolution of APA requests for 2018 and beyond. Taxpayers should expect further guidance from both the SAT and IRS on this matter.
APAs provide certainty in an era of increased uncertainty, as most tax authorities have revamped their transfer pricing rules and increased their scrutiny of intercompany transactions.
Contact Rodrigo or your trusted BKD advisor for more information.