On September 17, 2015, Mexico’s Ministry of Finance (Secretaría de Hacienda y Crédito Público) published tax rules setting forth the features of a new, exchange-traded vehicle designed to incentivize private investment in mature, cash-generating projects from the country’s energy and infrastructure sectors. It is expected that these new investment vehicles (E/I Fibras) will be used by Petróleos Mexicanos (PEMEX), Comisión Federal de Electricidad (CFE) and private companies in the energy and infrastructure sectors to monetize cash producing assets, thereby freeing up resources for use in new energy or infrastructure projects. These new tax rules need to be published in the Mexican Official Gazette.
The new investment vehicle, announced earlier this month by President Peña Nieto, shares some of the characteristics of, and tax benefits available to, Mexico’s successful Fibras (the country’s version of the real estate investment trusts, or REITS, widely used by real estate investors in the U.S. and other jurisdictions). In two significant respects, however, E/I Fibras will differ from traditional Fibras:
- While a traditional real estate Fibra must own its assets directly or through a subsidiary trust, the new E/I Fibras will not directly own the energy or infrastructure assets, but will instead make investments in legal entities (“qualified companies”) owning and operating these types of assets. In order to make it possible for the structure not to result in a double taxation of revenues (i.e., at the qualified company and E/I Fibra investor levels), the new regulations had to substantially alter the tax treatment of the qualified company; and
- Holders of securities issued by an E/I Fibra (CBFs) will be entitled to distributions as provided in the respective trust agreement, and these distributions will have priority over amounts owed to the settlors or managers of the E/I Fibra and parties related to them (other than commissions, fees or other distributions necessary for the operation of the manager, settlor or related person in connection with services rendered to the E/I Fibra).
Entity legal requirements. Like a traditional Fibra, the new E/I Fibras will have to be organized as Mexican fideicomisos (a contractual arrangement similar to a common law trust) and have as their fiduciario (trustee) a financial entity resident in Mexico and authorized to provide fiduciary services in the country. Unlike a real estate Fibra, the business objective of which must be the acquisition or development of real estate to be leased, the new E/I Fibras are required to be organized for the purpose of investing at least 70% of their assets1 in Mexican qualifying companies that are residents of Mexico for Mexican tax purposes and which satisfy several requirements, including:
- Each shareholder of the qualified company (other than E/I Fibras) must be a Mexican legal entity (not an individual) that is a Mexican resident for tax purposes.
- Each qualified company in which an E/I Fibra invests must derive at least 90% of its revenue from one or more specified energy- or infrastructure-related activities. Permitted energy activities include oil and gas projects except for upstream activities (drilling and exploration), as well as power generation, distribution or transmission projects. Infrastructure activities, on the other hand, include toll road, public transportation, telecommunication and water projects that have been structured as concession grants or other contractual arrangements between the government and the private sector, have reached the operational stage, and have a remaining life of at least seven years at the time of the investment by the E/I Fibra.
- The organizational documents of the qualified company must provide for the annual distribution of, or in the alternative, the qualified company’s shareholders must be legally bound to cause the qualified company annually to distribute, amounts that are consistent with the distribution requirements in respect of CBFs contemplated in the E/I Fibra’s trust agreement.
- Each shareholder of the qualified company at the time of the investment by the E/I Fibra must, within 45 days of the consummation of the investment, communicate to the Mexican tax authorities that it agrees to (i) the special tax regime applicable to E/I Fibras (ii) be jointly and severally liable with the qualified company for all of its tax liabilities with respect to tax periods prior to the investment by the E/I Fibra, and (iii) be jointly and severally liable with the qualified company for its pro rata share of the qualified company’s future tax liabilities, including fines. New shareholders of the qualified company are required to satisfy this obligation within 45 days of the date when they buy shares in the qualified company.
- E/I Fibras are meant to monetize developed projects. Therefore, the rules provide that no more than 25% of the annual average of the book value of the qualified company’s non-cash assets may be “new assets” (i.e., assets acquired and operated in Mexico for the first time by the qualified company less than 12 months prior to the date the computation is made), subject to certain exceptions for replacements and repairs.
Anticipating that few, if any, operating companies may be willing or able to meet the requirements of a qualifying company into which E/I Fibras may invest, the regulations contemplate the possibility of transfers of eligible assets to entities designed to operate as qualifying companies. Such transfers from pre-existing operating companies to newly created qualifying companies will not be treated as taxable transfers if certain requirements are satisfied, including that (i) the only consideration received by the transferor is in the form of securities issued by the transferee, and (ii) within six months from the date of the transfer, an E/I Fibra acquires shares of the transferee representing at least 2% of the transferee’s voting shares.
Tax regime applicable to the qualified company and its shareholders. On the date the first investment by an E/I Fibra in a qualifying company is consummated, the then-current tax period of the qualified company will end, and a new tax period will begin in which the qualified company will be subject to a new tax treatment as follows:
- The qualified company will cease to be subject to Mexican income tax at the entity level. Income resulting from the operations of the qualified company will be distributed to its shareholders (including the E/I Fibra) on a pro rata basis. Shareholders other than E/I Fibras will be responsible for the payment of taxes on any income so distributed. E/I Fibras will treat such distributions as discussed below. Losses incurred by the qualified company can be offset only from gains arising in future fiscal years from the business of the qualified company.
- Dividend distributions by the qualified company to its shareholders (including the E/I Fibra) will not be subject to withholding.
- The qualified company’s obligation to make monthly temporary payments in respect of taxes that may become due at the end of the fiscal year will be discontinued.
- The issuance of shares by the qualified company to an E/I Fibra will be treated as a sale by the qualified company of a pro rata share of its real estate, fixed assets and deferred expenses in exchange for a purchase price equal to the value of the shares received. Gain or loss must be determined in respect of that deemed sale and recognized in the tax period in which the shares were issued.
Tax treatment of the E/I Fibra and its investors. As it is the case with existing Fibras, E/I Fibras will not be subject to taxation, and their income or losses will be reflected in the tax returns of their investors. In determining the income or loss to be reported on each investor’s tax return, the trustee of an E/I Fibra will take into account the E/I Fibra’s pro rata share in the results of each qualifying company.
Distributions by the E/I Fibra to the investors. E/I Fibras are required to distribute 95% of their tax profit to holders of their CBFs every year. The rules also provide that the qualified companies need to make distributions (and their shareholders need to undertake to make such distributions) on a consistent basis with the terms of the E/I Fibra trust agreement and with the placement documents. We understand this means that the qualified companies are also required to distribute 95% of their tax profit to their shareholders, which include the E/I Fibra.
Energy & Infrastructure trust certificates. In addition to the tax rules, the Mexican Banking and Securities Commission (Comisión Nacional Bancaria y de Valores) published proposed regulations for the securities issued by E/I Fibras, which will be called energy & infrastructure trust certificates (certificados bursátiles de inversión en energía e infraestructura). The issuance of these securities is what ultimately permits the E/I Fibras to act as a vehicle for the monetization of developed energy or infrastructure assets held through qualified companies.
These proposed new regulations deal with corporate governance and disclosures of the E/I Fibras when issuing energy & infrastructure trust certificates, which are based on the regulation of the traditional Fibras. E/I Fibras will be required to be managed by an external asset manager and major decisions will be taken by the technical committee of the trust (similar to a Board of Directors), with ultimate authority resting with the investors, acting through a meeting for extraordinary decisions. Notably, the proposed governance rules would impose certain obligations on the asset managers of E/I Fibras which include having a compensation scheme that incentivizes the protection of the investors as well as fiduciary duties to act diligently and in good faith.
Taxation of non-resident holders. Distributions of tax profits on CBFs to a non-resident holder generally will be subject to Mexican withholding tax at a current rate of 30%. Unlike traditional Fibras, there is no exemption from taxation for foreign pension funds.
Gain from the sale or other disposition of CBFs that are registered with the Mexican Stock Exchange by a non-resident holder generally will not be subject to Mexican federal income tax, provided the transaction is carried out through the Mexican Stock Exchange and certain other requirements are met.
A non-resident holder will not be considered to have a permanent establishment in Mexico with respect to income from CBFs, provided that certain requirements are met.