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Income tax from thee sale or transfer
of a residential home by Foreign Individuals
By Jose Maria Gallardo Tamayo • Robles Lazo y Gallardo Law Firm •Photos by Jesús de Avila· March 2009

The Subject

The objective of the present study is to analyze the fiscal treatment with regards to income tax (“ISR”) applicable to the sale or transfer of residential homes by foreign individuals.

Some notaries have sustained and applied a criteria consisting in that foreigners were exempt from the payment of ISR on income derived form the sale of their residential home, if they were able to show their legal stay in the country with the corresponding immigration documents and proof of address which showed their stay in the country for more than six months.

Applicable Legal Dispositions

Article 109, fraction XV, paragraph a) of the Income Tax Law (“LISR”) provides the exemption from the payment of ISR for income derived from the sale of a residential home of the taxpayer. This exemption is limited to 1,500,000 UDIS (Investment Units), which is equivalent to approximately 6,300,000 Mexican pesos. If the sales price is higher than that, ISR must be paid on the excess, with certain deductions.

Those who have applied the exemption have alluded that they base it, in part, that the Fiscal Code of the Federation (“CFF”) provided, in its article 9 (before the amendment of 2004), that it considers as residents in national territory, those individuals that have established their residential home in Mexico, except if during the calendar year, they remain in another country for more than 183 natural days, consecutive or not, and that they evidence that they have acquired residency for fiscal purposes in this other country; and in part, that in the Regulation of the LISR (Reglamento de la Ley del Impuesto Sobre la Renta) in its article 129, indicates the documents that are necessary to prove that it is the residential home of the taxpayer (requisites that are contemplated in the Miscellaneous Resolution for 2003, before the publication of the new LISR Regulation).

With the recent changes in the CFF, the criteria based on the number of days to remain in the country in order to determine fiscal residence, was eliminated. Article 9 of the current CFF indicates as the first criteria for the determination of fiscal residence the establishing of ones residential home in Mexico and in the case of having a residential home in another country, to have ones center of vital interests in national territory of Mexico.

For such effect, the CFF considers that one’s center of vital interest is found in national territory if more than 50% of one’s income comes from sources in Mexico during the calendar year or when the individual in question has their principal center of professional activity in this country.

Inexplicably, the amendment of article 9 of the CFF has generated confusion regarding the application of the exemption.  In reality, the provisions of  the CFF only refer to the form in which fiscal residency is determined, adhering to the system used in other countries and incorporating, although only partially, the provisions contained in some of the treaties to avoid double taxation, treaties which Mexico has entered into with various countries.

The determination of residency for fiscal effects is important in order to analyze the applicability of the exemption indicated in Article 109° of the LISR. Remember that said article is contained in Title IV of the LISR, applicable only to individuals, and that article 106° of the LISR (First article of such Title IV) establishes that:

“Article 106. The persons obligated to the payment of the tax established in this Title, are those individuals that are residents in Mexico that obtain their income in cash, in property, accrued when the terms of this Title indicate, in credit, in services in cases that the Law indicates, or any other kind. Also, those obligated to pay the tax are individuals that are residents abroad that conduct business activity or provide personal independent services in the country (Mexico), through a permanent establishment for income attributable to this.”

It is clear that the provisions set forth in Title IV of the LISR, apply solely to individuals that are residents in Mexico or those that not being residents in Mexico, conduct business activities or provide personal independent services in Mexico, through a permanent establishment.  For this reason, the exemption can only be applied to those that fall into one of these two categories.

Reinforcing the above, the fact that the same LISR in Title V especially regulates those individuals that are residents abroad that obtain income from a source here in Mexico. In particular, article 179° indicates:

“Article 179. – Those obligated to pay the income tax according to this Title, residents abroad that obtain income in cash, in property, in services or in credit, even when they have been determined presumptively by the tax authorities, under the terms of articles 91, 92, 215 and 216 of this Law, that come from sources of wealth located in national territory, when there do not have a permanent establishment in the country or if they do, the income is not derived from such establishment.  It shall be considered to form part of the income mentioned in this paragraph, those payments made with regards to acts or activities referred to in this Title that benefit the resident abroad…...”

Also, article 189 of the LISR indicates, in summary, that the sale or transfer of real property located in national territory, is subject to a withholding of 25% of the income, without any deductions, or applying a rate of 28% on the gain obtained, which shall be calculated according to Chapter IV of Title IV.

It is evident that foreigners are obligated to pay the ISR according to Title V of the LISR if they are residents abroad and do not have a permanent establishment in the country; and even having that, if the income is not attributable to said establishment.

It is important to indicate that when the internal norms of two countries (i.e. US and Mexico) establish situations under which the same person may be considered as a fiscal resident in both countries, such situation must be resolved in accordance with the provisions of the Treaties on the subject to which both countries are party.

Example: An American citizen, for this reason alone, is considered a fiscal resident of that country. Nevertheless, if they maintain a residential home in Mexico and in the United States, their fiscal residence, according to the CFF shall be determined by the locating of their center of vital interests.

Article 4 of the Agreement Between the US and Mexican Governments to avoid double taxation and to impede the tax evasion with respect to capital gains tax (the “Treaty”) indicates, in summary, that when an individual is a resident in both countries, their residence shall be resolved this way:

1. They shall be considered as a resident in the country where they have a permanent home at their disposition; in the case they have a permanent home in both countries, they shall be considered resident of the country in which they maintain the closest personal and economical relations (center of vital interests);
   
   
2. If their center of vital interests cannot be determined or if they do not have a permanent home in either country, they shall be considered a resident of the country where they usually live.
   
   
3. If they usually live in both countries or in neither country, they shall be considered residents in the country of their nationality.
   
   
4. In any other case, the authorities in both countries will resolve the situation by mutual agreement.

It is very important to indicate that the definition of residency for effects of the Treaty does not include those persons that are subject to tax in the particular country it is exclusively for the income derived from sources located in said country.

It is evident that there are any number of situations that may make it difficult to determine the fiscal residence of a national in any of the countries that are party to the Treaty, but it will inevitably be determined.

It is also important to comment on article 25 (no discrimination) of the Treaty, which establishes a principle of “national treatment”, that is to say:  a national of one of the countries parties to the Treaty may not be subject to any tax or obligation than those that are applied to the nationals of the other country, under the same conditions. 

Such article 25 provides that it cannot be considered that a national of one country that is taxed for his global income in his country, is under the same conditions of a national of other country that is not taxed for his global income in his country.
 
This is the logic that sustains not applying the exemption of the ISR to the foreign individual that sells or transfers their residential home located in Mexico, when they do not fulfill one of the two criteria established in article 106° of the LISR; it is not congruent to exempt from tax caused by a source of wealth, to a person who is not a fiscal resident of Mexico.

As in any rules, there can always be exceptions. Such may be the case of a national or a foreigner that does not have taxable income according to the LISR or the tax laws in the in the country of question, and they only have a home in Mexico.

Conclusions:

1. Income derived from the sale or transfer of a residential home is only exempt for individuals that are residents of Mexico for tax purposes.
   
   
2. Residency for tax purposes implies that the taxpayer is subject to the payment of tax in Mexico on his global income.  For the same reason, a foreigner that only pays taxes derived from the source of wealth (i.e. sale of his house) in the country, even having a permanent establishment in the country, is not exempt.
   
   
3. It is necessary for the notary to accredit not only the residency for tax purposes, but also that the subject property is a residential home.
   
   
4. In order to accredit residency for tax purposes, apart from having the necessary immigration documents, a copy of the inscription in the National Taxpayer Registry should be provided (RFC).
   
   
5. In order to accredit that the property is a residential home, one of the proofs of address indicated in article 129 of the Regulation should be provided.

Final comments:

I have been consulted numerous times about this controversial matter. I have discussed this with a number of tax experts, notaries and accountants. Although many of the professionals mentioned share my personal opinion, each reader must consult tax experts in Mexico and his country, in order to determine the applicability of the contents of this article, and the effects of exemption, if applicable, in the country of residence.

Robles, Lazo y Gallardo - Law Firm
E-mail: jgallardo@rlg.com.mx

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• Robles, Lazo y Gallardo, S.C. is a Law Firm of specialists in various areas of Law, including Corporate Law, Real Estate, Immigration, Foreign Investment, among others. The Firm is integrated with a group of highly qualified attorneys and has offices in Guadalajara (Privada del Niño No. 676, Fraccionamiento Camino Real, telephone number 33-3121-3010) and Puerto Vallarta (Carretera a Mismaloya No. 479 interior 107, Edificio Scala. Telephone number 322 223-3218)• E-mail: jgallardo@rlg.com.mx

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