Far-reaching labour reform addresses outsourcing arrangements and has tax consequences
On 23 April 2021, the Mexican government finalised new rules to regulate the tax treatment of labour outsourcing arrangements in the country. The reform, which encompasses sweeping changes to eight laws, including the labour and social security laws and the income tax and VAT, may lead multinational groups with operations in Mexico to review their existing structures and consider reorganizing their Mexico operations to ensure compliance.
The tax provisions of the reform initially were to be effective 1 August 2021 (with the other elements of the reform entering into effect on 24 April), but on 31 July, the Mexican government issued a decree announcing that the effective date of the changes to various laws relating to the prohibition of labour outsourcing structures in the country is postponed for a month, from 1 August to 1 September. The postponement aims to give taxpayers more time to take the steps necessary to comply with the new rules.
The general thrust of the reform is to prohibit the subcontracting or outsourcing of personnel, a common practice defined as providing or making available workers for the benefit of another person or legal entity.
The new laws provide some exceptions to the general rule. For example, subcontracting will be allowed when the services provided are specialised in nature and are not part of the core business purpose or the predominant economic activity of the company receiving the services. For this exception to apply, the labour supplier must be registered as a provider of specialised services with the Ministry of Labor and Social Welfare.
The new rules specify that specialised services include shared or complementary services rendered between entities of the same corporate group if those services are not part of the beneficiary's corporate purpose or its economic activities.
The amendments to the income tax law disallow the deduction (or credit, as the case may be) of payments made in connection with the outsourcing of personnel. However, deductions would be allowed for payments related to specialised services if the recipient of the services verifies that the service provider is registered with the appropriate labour authorities. Moreover, the recipient must obtain an array of documentation—which the service provider is obliged to supply—regarding employees’ salaries and evidence of the employer’s social security contributions.
Taxpayers will not be allowed a deduction or VAT credit for payments for subcontracted services if the personnel involved in the rendering of those services were formerly employed by the recipient of the services and transferred to the service provider.
Penalties for noncompliance
The new laws provide various penalties, including criminal sanctions, for companies engaged in outsourcing schemes that are considered illegal. Using deceptive practices to simulate the provision of specialised services would constitute tax fraud, subject to criminal penalties, including prison sentences.
Any individual or legal entity that subcontracts workers to perform specialised services from a contractor that does not comply with the new labour, tax and social security obligations towards those employees will be jointly and severally liable for the amounts due with respect to the workers used for those engagements.
Under the Mexican Constitution and labour laws, employees are entitled to participate in their employers’ profits every fiscal year. To comply with the laws, companies must distribute 10% of their taxable profits to their employees.
Under the new rules, the amount employees may receive as profit sharing is limited to a maximum of three times the employee’s monthly salary or the average of the profit-sharing payments received in the last three years, whichever is higher.
Prior to the reform, a common structure often seen in multinational groups involved two Mexican companies: a “services” entity that employed personnel and an “operating” entity to which workers were subscontracted or outsourced.
The new rules on the treatment of labour outsourcing arrangements will mean that, in many cases, operating using these structures will not be viable. As a result, many groups are expected to reorganize their structures, in particular by consolidating their activities into one Mexican entity or transferring their workforce to a single operating entity.
There are a number of alternatives available for groups looking to reorganize their operations in light of the labour subcontracting reform. The most effective solution will vary depending on each group’s specific circumstances, and it is important that all groups looking to reorganize their operations seek legal, tax and accounting advice before undertaking a merger or similar transaction.
While the delayed effective date of the new tax provisions may give businesses some time to adjust, it is important that affected groups begin to consider their options to reorganize or restructure their operations now.
Jaime Zaga Hadid