A brief description of the trust agreement
mechanism to hold real estate in Mexico
INTRODUCTION
Several issues arise for foreigners wishing to purchase real estate
in Mexico.
Under the Mexican Constitution, real estate located in the "restricted
zone" may not be owned outright by foreign individuals or entities. The
restricted zone consists of the strip of land 50 kilometers along the
shores and 100 kilometers from the borders. However, as
previously informed, under current changes in the Law, ownership of real
estate in the restricted zone by foreign owned Mexican companies, for
non-residential purposes, is now allowed. To circumvent
the prohibition of purchasing real estate in the restricted zone for
residential purposes, foreign individuals or entities may enter into
an agreement known as trust agreement (Fideicomiso).
II. LEGAL FRAMEWORK.
Trust agreements are governed by the provisions of the Negotiable Instruments
and Credit Operations Law (Ley General de Títulos y Operaciones
de Crédito), the Credit Institutions Law (Ley de Instituciones
de Crédito) and the Foreign Investment Law (Ley de Inversión
Extranjera). All of the above legislation is of a federal
application (throughout Mexico).
III. SCOPE.
Simply defined, a trust is an agreement whereby a party named settler
entrusts (transfers) certain property to be used for a legal and specific
purpose to be carried on by a commercial (private) bank. For asset
purposes, the bank holds the property as the fiduciary owner, and, thus,
is not deemed the owner. Therefore, should the bank fold or be
declared bankrupt, assets held in fiduciary property will not become
part of the bank's estate. Other than trust agreements on real
estate, as described below, trust agreements for several other purposes
have been created, the most common of which are the following:
Transfer of ownership trust (Fideicomiso traslativo de dominio): Whereby
the bank shall transfer the entrusted property to a beneficiary upon
compliance of the conditions set forth here under.
Trust in execution of will (Fideicomiso testamentario): Whereby an individual
transfers certain property to the bank, which upon decease of the settler
shall distribute the entrusted property as indicated in the deed.
Administration trust (Fideicomiso en garantía): Whereby the bank
will invest the entrusted funds as indicated by the settler, to be transferred
again to the settler or a third party at the expiration of the trust
agreement.
Security trust (Fideicomiso en garantía): Whereby the bank holds
the entrusted property as security for a previously appointed beneficiary,
in the event the settler or a third party defaults a certain obligation. It
is commonly used in lieu of a mortgage, with the advantage that as soon
as the bank is notified of the default, it sells the entrusted property
and pays whatever is owed to the beneficiary, without the need of a court
judgment or governmental ruling. Should no default occur and upon
the compliance of the secured obligation, the entrusted property is transferred
to the settler.
Any combination of the foregoing may also be entered into.
TRUST ON REAL ESTATE LOCATED IN THE RESTRICTED
ZONE FOR
RESIDENTIAL PURPOSES
Under this mechanism, a Mexican individual or entity (settler), holder
of the property, will transfer the ownership of the property located
in the restricted zone to a Mexican bank, who will hold it as trustee
for the benefit of a foreign individual or entity.
The nature of this trust is irrevocable and of transfer of ownership
(as discussed above), therefore, the settler, upon transferring the property
to the trust will hold no interest there under. There are certain
tax benefits for holding the property in a foreign entity, inasmuch as
upon transfer of the beneficial interest under a trust to a third party. The
stock of the foreign entity may be sold and, said sale would not be taxed
in Mexico.
An alternate beneficiary may be appointed at the time the trust is created,
in the event of decease of the beneficiary or beneficiaries there under.
To constitute the trust, the following must occur:
1. The trust agreement must be granted before a public notary or broker;
2. A permit from the Ministry of Foreign Affairs (Secretaría
de Relaciones Exteriores) to create the trust must be obtained. Trusts
are now granted for 50 year renewable terms;
3. The trust agreement must be recorded in the Public Registry of Property
(Registro Público de la Propiedad) where the property is located
and in the National Foreign Investment Registry (Registro Nacional de
Inversiones Extranjeras);
4. Bank fees must be paid, consisting of the bank's acceptance fee and
the first annual trust fee; and
5. The notary must have evidence that the taxes of the transfer have
been paid (please refer to the article in this magazine on taxes applicable
to real estate transactions).
Finally, the beneficiary of the trust may transfer its beneficial interest
to other foreign individuals or entities, by instructing its will to
the bank. Should the transfer be made to a Mexican national capable
of purchasing the entrusted property, the transfer may occur through
either an assignment agreement or the bank may be instructed to transfer
the ownership of the property to the Mexican individual or entity and
the trust agreement would be terminated.
Any transfer of beneficial interest would have to be granted before
a public notary or broker and, other than the permit from the Ministry
of Foreign Affairs, the requirements set forth above must be met.
TAXES APPLICABLE TO REAL ESTATE TRANSACTIONS
The following describes the several federal and local taxes applicable
to real estate transactions, such as sales, trusts or assignment of beneficial
rights under a trust.
A) Income or Capital Gains Tax (Impuesto Sobre la Renta).
a.1. Individuals. This tax must be always paid
by the party (whether seller, purchaser, assignor or assignee) obtaining
an income. For said purposes, an appraisal on the property must
be practiced by an authorized appraiser. Capital gains will be
paid on the higher of the transfer value or the appraised value. Any
contractual provision stating otherwise is null and void.
Because
most appraisals are lower than the actual price, many transactions are
fixed according to the former and the balance is paid "on the
side." This constitutes tax evasion and fines as well as imprisonment
may be imposed by the tax authorities. The income tax rate varies
depending on the circumstances of the transaction, and certain exceptions
apply.
Sellers have an option to either pay a 20% (twenty percent) rate on
the total sales price, or 35% (thirty-five percent) on the income as
determined in the following paragraph. The income is determined
by updating the original purchase price to the date of sale or transfer,
and applying the inflation factors determined and published by the Banco
de México (Mexico's central bank) on a monthly basis. The
land must be separated from the construction in order to determine the
depreciation of the latter. Sellers may also deduct the following
expenses:
1. The adjusted original purchase price as determined
above;
2. Investments made on constructions and improvements;
3. Notary’s expenses, taxes and fees (including
appraisals) incurred in the original
purchase; and
4. Commissions and mediations paid on the sale of
the property.
The
transfer of real estate used by individuals as their residence for
the past two years is exempt from capital gains tax. In this
case, foreigners must prove their residence by means of either certain
FM-3 or FM-2 visa, evidencing residence for said period of
time. Capital gains tax is determined and paid by the Public
Notary attesting to the transaction. Public Notaries are jointly
liable before the tax authorities for the payment of taxes.
Assignment
of beneficial interest under a trust, before the transaction has been
formalized in favor of the assignor, is also taxed; therefore a tax analysis
must be made in order to determine capital gains.
a.2. Corporations. Corporations
or entities residing and owning real estate in Mexico are not taxed on
a per transaction basis for the transfer of real estate. A Mexican
corporation can have 100% foreign ownership; it can take title
of any real estate properties, regarding of its location, under an Escritura,
which is the equivalent of a Deed, if it is for commercial purpose, such
as rentals.
Mexican
corporations must accrue their net income to their annual income and
by deducting all of their expenses relating to the corporation (but not
necessarily relating to the property) for said fiscal year, pay an annual
capital gains tax at a rate of 34% (thirty-four percent). They
may also carry over losses for past fiscal years.
B) Acquisition Tax (Impuesto Sobre Adquisición de
Inmuebles). The purchaser or assignee of the property upon transfer
or assignment must pay a one time 2% (two- percent) acquisition tax. Said
tax is also determined and paid by the Public Notary attesting the transaction.
C) Real Estate Tax (Impuesto Predial). A percentage
determined by local tax authorities, which may vary depending on the
conditions of the property (if said property is vacant, has constructions,
etc.), must be paid annually by the owner. Upon transfer of the
real estate, the public notary attesting the transaction, as well as
a certificate evidencing that there are no outstanding debts thereon
requests a copy of the most recent payment. Real estate tax may increase
substantially by any construction or improvement made on the property.
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Value Added Tax (Impuesto al Valor Agregado). A 15% (fifteen
percent) valued added tax is payable by the purchaser only in the event
of purchase of constructions used for non-residential purposes, such
as commercial structures. All other sales are exempt from value
added tax. However, services are taxed; therefore, notary,
legal and other closing fees are taxed with a 10% (ten percent) rate.
Francisco Cossu, who practices law in Cabo San Lucas,
wrote this brief narration of the Real Estate Law in Mexico. |
