International Tax Planning White Paper

Tax Issues: How to integrate your Mexican property purchase with your tax situation at home

Maurice M. Glazer, Chief Executive Officer, The Glazer Group & All Subsidiaries

International Tax Planning

Proactive Income and Estate Tax Planning are Essential to Building Wealth

Coordinating Tax Laws in Foreigh Countries with the U.S. Tax Codes
Designing Business Plans to Utilize Maximum Deductions
Utilizing Creative Concepts for Asset Protection and Tax Planning
Planning Before You Sell or Buy any Property or Investment and Before Each Year End is Imperative

"Our High Net Worth Clients have been Benefiting from our Expertise and Experience for 46 years."

Frequently Asked Questions

Q: A person selling a Mexico property (not a primary residence) for a gain, is he liable for both U.S. & Mexico capital gain taxes?
A: Generally, a person will get tax credits on his U.S. tax return, for Mexico taxes paid (no double taxation).

Q: Can a Mexico property be bought as a second home? What is deductible for tax purposes?
A: Yes, Mexico property can be considered a second home, thus interest & property taxes are deductible on U.S. returns.

Q: Are there wage & housing exclusions for U.S. citizens working in Mexico?
A: Yes, wage exclusion (up to $80K) & housing exclusion (for expenses over $34/day) apply for employees working abroad.

Q: Can one invest Mexico real estate in a retirement plan?
A: Yes, with restrictions (annual appraisal / audit, bond coverage).

Q: Can we do a 1031 exchange between Mexico and the U.S. if it is similar property?
A: No — Section 1031, (h) 1.

Q: Can we do a 1031 exchange between Mexico and other foreign countries?
A: Yes — International for International is appropriate. However, You would still be liable for the tax in the foreign country where the sale is made.

Q: Are real estate income and capital gains exempt from income taxes in Mexico, if done in a US IRA or Qualified Plan.
A: No — However any taxes paid in Mexico or another foreign country can be offset on the US tax return via a Foreign Tax Credit.

Taxes in United States

U.S. Expatriates and Lawful Permanent Residents (Green Cards) Filing of U.S. Tax Returns

Do not move to a foreign country and forget or choose not to file a U.S. tax return.
Required filing on worldwide taxable income when residing in or outside the U.S.
- Statute of limitations never runs out.
- Live abroad for 10 years and return penalties and interest may exceed the actual tax.

If you have W-2 income or self employed income you have to file.
* Reductions available against foreign income:
- Foreign earned income exclusion $82,400 for every tax payer.
- Deduction for living expenses in excess of $34 per day.
- Foreign tax credit – Form1116
* Almost 50% filing show no tax liability because of these items.

Self Employed

If no foreign social security withheld from earnings you must file a Schedule C and pay self employment tax of 15.3%
Cannot be reduced by items on D.

Special forms required:

More than 10% ownership in foreign corporation — Form 5471
If controlled foreign corporation (over 50%) tax on prorata share of profits.
If beneficiary or trustee of a foreign trust (i.e. Fideiomiso) — Form 3520
Have a foreign bank account or other financial account over $10,000 — Form TDF 90-22.I.

Special tax on former citizens and long-term permanent residents who leave to avoid U.S. taxes, regardless of intent. Section 877

Owning A Foreign Corporation

If you own 10% of the shares of a foreign corporation that operates your business or owns real property you need to file Form 5471. Failure to file can result in a $10,000 penalty.

If you own over 50% of a foreign corporation and are at least a 10% shareholder you should include your prorata share of the foreign corporation's income in U.S. tax return.

You must supply the IRS with:

Income Statement
Balance Sheet
Data on its Loans
Data on its Operations
Data on its Other Shareholders

Foreign Trust (Fideicomiso)

Owning property if it is residential real property in a fideicomiso (Mexican Trust) requires you to file Form 3520 when the trust is established and Form 3520A each year thereafter (also applies if you are a beneficiary or creator of any foreign trust). Penalty for failure to file is 35% of the value of the property.

If you purchase property outside of the "restricted zone" and you own title in your name you do not have to file form 3520.

Real Estate As A Plan Asset

Real Estate as a Plan Investment

"Investing in real estate within a qualified retirement plan is a nontraditional investment that requires careful consideration."

Real estate includes but is not limited to Limited Partnerships, land, buildings, etc;
Some issues do not take into account issues such as changes in law or government policy or unforseen events.
Please feel free to contact

Taxes in Mexico

Income Tax Laws Applicable to U.S. Citizens Living in Mexico

Husbands and wives report income separately:
1. No standard deduction
2. Personal allowance and credits per Mexican IRS
3. Quarterly estimates must be paid
Full time residents in Mexico are taxed on worldwide income:
1. Resident over 183 days considered tax resident
2. Credit for any taxes paid in Mexico
Dividends from Mexican corporations and interest paid from Mexican banks need not to be declared on Mexican tax returns.
Personal deductions :
- Medical, insurance, dental and hospital costs
- Funeral expenses with some limits
- Certain gifts — charity and welfare institutions
- Voluntary contributions to personal retirement accounts or mandatory employer retirement systems
Unincorporated Individual Business
- a) Can deduct related expenses
- b) Fixed assets must be depreciated
- c) Business expenses cannot exceed gross receipts
- d) No loss carry forward is allowed
- e) Business entertainment and most business meals are not deductable
- f) Estimated tax payments must be made monthly
Rental Income:
- a) Actual expenses are not deducted
- b) Expense is 50% of rental income if used for housing and 35% for all other types
- c) Depreciation 5% per year of cost indexed for inflation
- d) Value added tax must be paid on the rental income
- e) U.S. residents will be taxed at 30% of the net rental payments

"If you spend more than the income shown on your tax return the IRS is empowered to consider the excess of expense over revenue as income."

Capital Gains Pointers

Capital gains tax law in Mexico states that tax is owed on the profit you receive when you sell your home or property (not a primary residence).

By law there are two options for you.

Option 1 : 28% of the net profit. (variety of deductions included in this option)
Option 2 : 25% of the gross sales amount with no deductions.

Rule Number 1: Always record the full value of your purchase.

You purchase a lot for $1 million, but record a value of $500,000. In the eyes of the Mexican tax law, your cost basis is now $500,000. If you sell the lot for $1.2 million you see a profit of $200,000. However, according to your recorded cost basis, Mexico sees a profit of $700,000.

Recording the real value benefits you and establishes your cost basis in Mexico.
The Amount you pay for a property has no impact on your yearly property taxes.
Capital gains taxes you pay in Mexico can be applied to your U.S. taxes

Structure the Purchase and Sale

Sales price is the higher of:

Current Appraisal Value
Property Tax Value
Current Selling Price

"When you sign your new trust, ask the Notary to jot down the exchange rate on the document itself. This will come in handy years later. It is also important to make a note of the purchase price in dollars."

As soon as you pay your 2% acquisition tax to receive your trust, you are eligible to receive an inflationary credit from the Mexican Government for every year you own the property.

This credit is added to your cost basis when you decide to sell your property.
The credit is based on consumer index adjustments (inflation) and can be quite significant. We have seen credits in excess of 15 percent per year applied to a cost basis. On a million-dollar property, this can be as much as $200,000 USD per year added to your cost basis, significantly reducing your capital gains tax should you decide to sell in the coming years;
You are not eligible to receive the inflationary credit unless you have paid your 2% acquisition tax; and
You can receive the inflationary credit based on the date of your buy/sell agreement, provided you paid the 2% acquisition tax for the property.

The tax incentive in Mexico states that if you sell your "primary residence" after five years, you pay no capital gains.

This law is in place for "residents" (Mexicans nationals or foreigners) of Mexico only, and there are several items required to establish residency status. In order to claim your home as your primary residence in Mexico, you must be able to prove that it really is your primary residence.

At the closing, you will be required to provide the Notary with a residence visa (FM2), as well as a bank account, water, phone, and electric bills, paid tax receipts and your trust, all in your name, all with the address of the home and all in place for more than two years.

"You cannot have two primary residences at the same time. Therefore, if you claim the home in Mexico as your primary residence, you give up your primary residency status in the United States."

The capital gains tax exclusion is intended for residents of Mexico, not for persons owning second homes or vacation homes.

Summary of Canada and U.S. Taxes

	U.S.	Canada	Mexico
Deduction of interest/tax on personal residence	Yes (including 2nd residence	No	No
Top federal personal income tax rate	35%	29%	28%
Foreign income/housing exclusion (or tax credits) for residents working abroad	Yes. ($80,000 max income exclusion, housing exclusion for expenses over $31.64 per day stayed abroad)	Yes ($80,000 max tax credit for work in resource/construction/installation/agriculture/engineer project, "reasonable" housing exclusion for residents working abroad)	X
Gain exclusive for sale of principal residence	Yes ($500,000 exclusion for joint filers that have stayed in the residence at least 2 years our of the 5 year period ending on date of sale)	Yes (Any gain amount is tax exempt)	Yes Exempt if occupied 2 years before sale
Mexican real estate in retirement plan	Yes (With restrictions like annual appraisal / Audit, bond coverage)	No (Only Canadian real estate, or limited partnership listed in Canadian stock exchange qualify)	X
Rental Loss	Limited to $25,000 passive loss if income exceeds $150,000 or 100% if real estate broker in the business	Limited to zero passive loss	No Loss Limit