VAT_ Intercompany netting between the US and Mexico

 Intercompany netting between US and Mexican affiliates and how it relates to applying the zero-rate VAT (IVA - Impuesto al Valor Agregado) in Mexico.

1. What is Intercompany Netting?

Intercompany netting is essentially a financial process used by multinational companies to manage and settle mutual debts between their various subsidiaries or affiliates. Instead of each entity making separate payments for every single invoice owed to another related entity, they:  

  • Calculate the total amount each entity owes to others within the group.
  • Offset these amounts against each other.
  • Only pay the final net difference.

For a US parent and a Mexican affiliate:

  • The Mexican affiliate might owe the US parent for management fees, royalties, or imported goods.
  • The US parent might owe the Mexican affiliate for manufactured goods, services rendered (like IT support, call center operations, maquila services), etc.
  • Through netting, they determine the net amount owed and by whom, resulting in fewer actual cross-border cash transfers.  

Benefits: Reduces transaction costs, simplifies cash management, minimizes foreign exchange risk, and streamlines internal accounting.  

2. What is Zero-Rate (0%) VAT (IVA Tasa 0%) in Mexico?

Mexico's VAT system has several rates, including a standard rate (currently 16%), a reduced border rate (currently 8%), exemptions, and a zero rate (0%).  

  • Zero-Rated (0%) Transactions: These are activities considered taxable, but the applicable rate is 0%. Crucially, businesses making zero-rated supplies can still credit (recover) the input VAT they paid on their own purchases and expenses related to generating that zero-rated income. This is a key advantage over VAT-exempt transactions, where input VAT recovery is generally not allowed.  
  • Who it Applies To: The 0% rate primarily applies to:
    • Exports of Goods: Tangible goods physically exported from Mexico.
    • Export of Certain Services: This is the key area for US-Mexico intercompany transactions. The Mexican VAT Law (LIVA) specifies certain services that qualify for the 0% rate when provided to a non-resident (like the US parent) whose activities are utilized outside of Mexico. 1 Examples include:
      • Technical assistance and related services.
      • Maquila and sub-maquila operations (when goods are ultimately exported).  
      • Certain IT services (development, maintenance, data processing, hosting) provided the infrastructure is mainly in Mexico but utilized abroad (e.g., client's IP address is foreign).
      • Call center services for calls originating abroad, contracted and paid by a non-resident.
      • Export of intangible assets under specific conditions.
       
      1. Value Added Tax (VAT) Guidelines: Mexico | Rödl & Partner
      소스 아이콘
      www.roedl.com
    • Other specific items: Basic foodstuffs, medicines, books, agricultural/fishing activities, etc.

3. How Netting and Zero-Rate VAT Interact (The Crucial Part):

It's essential to understand that intercompany netting itself does not qualify a transaction for the 0% VAT rate.

  • Eligibility is based on the Transaction: The Mexican affiliate can only apply the 0% VAT rate if the underlying transaction (the specific service provided or goods sold to the US parent) meets the legal requirements for being classified as a zero-rated export under Mexican VAT Law.
  • Netting is the Settlement Method: Netting is merely the mechanism used to settle the payment obligation arising from that qualifying zero-rated transaction (along with other intercompany debts).

How it works in practice:

  1. Qualifying Transaction: The Mexican affiliate provides a service (e.g., IT support) to its US parent. This service meets the criteria for "export of services" under LIVA (e.g., contracted and paid by non-resident, utilized abroad).
  2. Invoice (CFDI): The Mexican affiliate issues a formal Mexican electronic invoice (CFDI) to the US parent for the service. This CFDI must correctly state:
    • The service provided.
    • The US parent's details (including potentially their foreign tax ID).
    • That the VAT rate is 0% (IVA Tasa 0%).
    • The payment terms/method.
  3. Netting Process: When settlement time comes, this 0%-rated invoice amount owed by the US parent is included in the intercompany netting calculation along with any other outstanding payables/receivables between the two entities.
  4. Settlement: The net difference is paid. The 0% VAT invoice is considered 'settled' through this netting process.
  5. VAT Declaration: The Mexican affiliate reports this revenue as a 0%-rated activity in its monthly VAT return to the Mexican Tax Administration Service (SAT). This allows the affiliate to potentially claim refunds for input VAT paid on its own related costs.

4. Potential Issues and Considerations:

  • Strict "Effective Payment" Rules: Mexican tax authorities and courts have become increasingly strict about what constitutes "effective payment" for VAT purposes, particularly concerning the crediting of input VAT. Recent rulings (like SCJN Contradicción de Criterios 413/2022) have stated that compensation (which includes netting) is not considered a valid means of "paying" VAT for the purpose of allowing the payer to credit that VAT.
  • Impact on 0% Rate: While these rulings primarily target the payer's ability to credit standard-rate VAT when payment is made via netting, the strict interpretation of "payment" could potentially invite scrutiny from SAT regarding 0%-rated transactions settled via netting. The authorities might question if the requirement for payment to originate from a foreign source (often needed for 0% services) is adequately met if only a net amount settles.
  • Documentation is Critical: To support the 0% VAT rate, especially when using netting, the Mexican affiliate must maintain meticulous documentation:
    • Contracts clearly defining the exported service/good.
    • Properly issued CFDIs with all required details (foreign tax ID, 0% rate).
    • Proof that the service was utilized abroad.
    • Clear documentation of the netting process, showing how the specific 0%-rated invoices were included and settled within the net amount.
    • Evidence that payment requirements (e.g., funds originating from foreign accounts for certain service exports) are conceptually met even if settled via netting. Some companies ensure some related cash flow occurs or structure agreements carefully.

In Summary:

Intercompany netting is a payment method that can be used to settle invoices between a US parent and a Mexican affiliate. The Mexican affiliate can apply the 0% VAT rate only if the underlying transaction qualifies as a zero-rated export of goods or services under Mexican law. Netting facilitates the settlement but doesn't create eligibility for the 0% rate. Due to recent strict interpretations of "effective payment" in Mexico, meticulous documentation supporting both the qualification for the 0% rate and the settlement via netting is crucial for compliance.

It is highly recommended to consult with tax advisors specializing in Mexican VAT and cross-border transactions to ensure compliance with all requirements when using intercompany netting for transactions intended to be zero-rated.

  • https://www.roedl.com/insights/vat-guidelines/mexico-rate-registration-declaration-requirements#:~:text=The%20export%20of%20services%20is,such%20service%20is%20utilized%20abroad.

<=> The export of services is also taxed at a 0 percent VAT rate. It is considered as an export of service when such service is utilized abroad. 

  • https://taxsummaries.pwc.com/mexico/corporate/other-taxes
  • https://www.avalara.com/blog/en/north-america/2021/07/what-is-vat.html
  • https://napsintl.com/mexico-manufacturing-news/mexico-vat-tax-benefits-when-manufacturing-in-mexico/


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