the tax man cometh

[Note: I need to add a disclaimer to this posting. It contains information about legal matters in Mexico. I am no expert in that area, and I do not purport to be giving any legal advice. I cannot even attest that all of the facts I have picked up in writing this post are accurate. Having said that, it is an area I find fascinating.]

Foreigners move to Mexico for various reasons -- some for the weather, some for the culture, some for the cultural values, some for just being somewhere else. The inimitable Michael Dickson says there are only five reasons to move to Mexico from the States: (1) cheaper real estate and rentals, (2) cheaper utilities, (3) lower property taxes, (4) superior health care, and (5) for single men, Mexican wives, "who are a dream come true."

But, for most expatriates, the conversation often turns to a perceived lower cost of living. And housing is always high on that list.

I have recently run across an issue, though, that has raised the hackles of some homeowners when they sell their property: the dreaded capital gains tax. Taxing profits on homes is a hot political issue in every society where home ownership is encouraged. The United States has tried several tax mechanisms. On one hand, it is not fair for profits not to be taxed; pn the other hand, residences are a unique class of property.

Mexico is no different. The language of the Mexican capital gains tax statute is simple and has exactly the same type of social interests at stake as does the law in the States. If the home is the primary residence of the seller, the seller may be entitled to an exemption from the capital gains derived from the sale.

And that is where the simple part ends. The application of the law is starting to cause greater problems for foreigners who sell their Mexican homes.

The first problem is proving that the home is the "primary residence" of the seller. Many foreigners try to maintain a primary residence both in Mexico and in their home country. Primary means just what it says. You can only have one. The people who are affected most often by this are the proverbial snow birds.

In an attempt to give a more consistent application to this portion of the law, some notarios will not allow the ca[iyal gains tax exemption if the foreigner has an FM3 visa; the notario will allow exemptions only with an FM2 visa. That makes sense because the FM2 restricts the number of days the visa holder can be absent from Mexico. During the past year, several areas of Mexico have disallowed the exemption for all FM3 holders.

The second problem in proving residence centers around the foreigner's source of income. Some notarios require proof that over 50% of the foreigner's income is derived from Mexican sources. For retirees (and I am soon to be in that category), if that factor is applied strictly, pensions from foreign sources will not qualify. And that will be a large number of current owners of Mexican homes.

So, what happens if you fail the primary residency test? It simply means that a portion of the money you earned on your Mexican property must be paid to the Mexican government (and, of course, potentially to the foreigner's home country, as well). That strikes me as fair. Homeowners are reaping some very nice profits on their sale of homes. Why shouldn't the Mexican government share in that increase in wealth?

What concerns me, though, is that the definitions appear to be applied arbitrarily throughout the country depending on the notario involved. (Not that the same problem does not arise in the States.) A little more consistency would allow sellers to plan on paying the tax -- and ordering their lives accordingly.

Property taxes are very low (insanely low in some places) in Mexico. I suspect that before long, local Mexican governments will discover that property taxes are a great boon to improve local services. Property taxes are low because the extremely wealthy have been able to prevent them from being imposed. As the middle class grows in Mexico, property taxes will be seen as a good source of revenue -- rather than onerous income tax rates.