Related issues may require complementary legal analysis, depending on the transaction and operating structure.
How Mexico taxes non-residents
Mexico's income tax law (LISR Art. 1) taxes residents on worldwide income and non-residents only on Mexico-source income. For a US or Canadian company without a Mexican subsidiary, this means Mexican-source revenue—fees for services performed in Mexico, interest on Mexican debt, royalties for rights used in Mexico, and capital gains on Mexican real estate or shares—triggers a withholding obligation on the Mexican payer.
The withholding rates under domestic law are often severe: royalties at 25%, interest at 15-35%, and management fees at 25%. Treaty rates, where available, are substantially lower, which makes determining treaty eligibility a threshold issue in every cross-border transaction.
Permanent establishment: the central risk
A foreign company becomes a "permanent establishment" (establecimiento permanente) in Mexico when it carries on business through a fixed place—an office, a branch, a factory, or a construction site—or through a dependent agent who habitually concludes contracts on its behalf.
The consequences are significant. A permanent establishment is taxed as if it were a Mexican resident entity, filing monthly provisional ISR payments, annual ISR, and LIVA returns. It must issue CFDI receipts for all Mexican-source revenue.
US-Mexico Treaty Rules: The treaty narrows the PE definition in important ways. A construction or installation project creates a PE only if it lasts more than six months. A company with only a subsidiary in Mexico does not automatically have a PE—the subsidiary must act as a dependent agent. Preparatory and auxiliary activities (warehousing, advertising, purchasing) do not create a PE.
Canada-Mexico Treaty Rules: The Canada-Mexico treaty (2006) uses a similar framework, with a 12-month threshold for construction PEs, slightly more favorable than the US treaty's six months.
Treaty benefits: reduced withholding rates
Both treaties reduce withholding on passive income flowing from Mexico to US or Canadian recipients:
Dividends: Under the US-Mexico treaty, dividends paid by a Mexican subsidiary to a US corporate shareholder holding at least 10% of the subsidiary's voting shares are subject to 5% withholding. All other dividends are taxed at 10%. Under domestic LISR, dividends distributed by a Mexican company to foreign shareholders carry a flat 10% withholding.
Interest: The US-Mexico treaty reduces withholding to 4.9% for interest paid to qualified financial institutions. Other interest paid to US residents is taxed at 15% under the treaty versus domestic rates of 15-35%, depending on the recipient type. The Canada-Mexico treaty provides comparable reductions.
Royalties: Both treaties cap royalty withholding at 10%, compared to 25% under domestic law.
BEPS compliance and country-by-country reporting
Mexico adopted the OECD's Base Erosion and Profit Shifting package into domestic law. The most significant measure for large multinationals is LISR Art. 76-A, which requires Mexican entities that are members of multinational enterprise groups with consolidated revenue above MXN 12 billion to file a country-by-country report (CbCR) with the SAT. The CbCR maps revenue, profit, taxes paid, employees, and assets across every jurisdiction where the group operates.
The CFF now includes a principal purpose test (PPT) as a general anti-avoidance rule. Treaty benefits can be denied if the main purpose of a transaction or structure was to obtain those benefits. This makes substance a compliance requirement, not just a planning preference.
REFIPRE: Mexico's CFC regime
Mexico's controlled foreign corporation rules are found in LISR Art. 4-A under the label REFIPRE (Régimen Fiscal Preferente). Mexican residents—including Mexican subsidiaries of foreign groups—must recognize income earned through entities in preferential tax regimes (broadly, jurisdictions taxing at less than 22.5%, which is 75% of Mexico's 30% rate) on a current basis, regardless of whether that income is distributed.
For foreign investors, REFIPRE affects structures using Caribbean holding companies, including Cayman Islands and BVI entities, when those entities generate passive income that ultimately belongs to a Mexican resident. Careful analysis is required before routing income through low-tax holding structures.
Digital services tax for foreign platforms
Since 2020, Mexico requires foreign digital service providers with Mexican users to register with the SAT, charge and remit 16% LIVA on services, and withhold ISR from Mexican-resident intermediaries. Platforms that do not comply face withholding by Mexican payment processors. This regime applies to app stores, streaming services, advertising platforms, and online marketplaces.
Structuring considerations
The interaction of PE risk, treaty benefits, REFIPRE, and BEPS creates a structured set of tradeoffs in cross-border planning:
- Operating through a Mexican subsidiary eliminates PE risk but subjects profits to 30% ISR plus 10% withholding on dividends distributed abroad—an effective rate of 37% before treaty reduction of the dividend withholding.
- Operating through a branch preserves simpler group accounting but exposes the foreign entity to Mexican tax filing obligations and a 10% remittance tax in lieu of dividend withholding.
- Licensing IP to a Mexican subsidiary reduces taxable income in Mexico but triggers transfer pricing scrutiny and royalty withholding—treaty-reduced to 10% for US and Canadian licensors.
The right structure depends on the nature of operations, the treaty position of the foreign parent, the group's transfer pricing posture, and REFIPRE analysis of any holding layer.
Continue your legal review
Broaden the analysis with our guide to tax optimization for Mexican businesses.
Prepare for the next stage with foreign investment taxation in Mexico.
Explore the related legal considerations in the US-Mexico tax treaty.
Continue with practical guidance on key legal rules on transfer pricing regulations in Mexico.
Frequently asked questions
No. A Mexican subsidiary is a separate legal entity. It creates a PE for the foreign parent only if it acts as a dependent agent that habitually concludes contracts on the parent's behalf without material modification. Normal subsidiary activity—buying and selling on its own account, managing its own employees—does not create a parent-level PE.
REFIPRE applies to Mexican residents (including Mexican subsidiaries) that hold interests in entities subject to preferential tax regimes. If a US company owns a Cayman holding company that owns a Mexican subsidiary, REFIPRE does not directly apply to the US company. However, if the Mexican subsidiary owns an interest in the Cayman entity, REFIPRE analysis is required for the Mexican entity.
Treaty benefits are not automatic. The party claiming a reduced withholding rate must provide the Mexican payer with documentation of tax residence in the treaty country—typically an IRS residence certificate (Form 6166 for US residents) or equivalent Canadian documentation—and the Mexican payer must retain this documentation. Failure to provide documentation results in domestic withholding rates applying.
The limitation on benefits (LOB) clause in the US-Mexico treaty requires that the beneficial owner of treaty-protected income be a "qualified person"—generally a publicly traded company, a government entity, or a company at least 50% owned by qualified residents that meets an active trade or business test. Shell companies and holding entities without substantial business activity in the US may fail the LOB test.
Failure to file a CbCR under LISR Art. 76-A results in fines under the CFF and can trigger a presumptive assessment of the tax position reported by the multinational group. SAT can also deny deductions for intercompany payments made to related parties in jurisdictions where the group has failed to report.