Entrepreneurs, start-ups and small and medium-sized enterprises have increasingly turned to non-traditional funding sources, such as financial services made available by financial technology (FinTech) companies, to finance their ventures.
As a result, a Financial Technology Institutions Law (FinTech Law) was passed during the early months of 2018 with the intention of providing legal certainty to Mexico’s FinTech companies. It regulates their organisation and operation, while also bringing the activities performed by FinTech companies under the regulatory purview of the Mexican Banking and Securities Commission (CNBV) and Mexico’s Central Bank (Banxico), with the main goal of protecting investors and solicitors, providing stability to the financial system and preventing money laundering activities.
FinTech companies are now required to obtain a license from the CNBV to operate in Mexico, which is only granted if it is pre-approved by an interdisciplinary committee composed of officers of the CNBV, Banxico and the Ministry of Finance. While secondary legislation is still expected, in order to be eligible to obtain such a license under current rules, FinTech companies must be incorporated as Mexican corporations (sociedades anónimas) and specifically include in their bylaws that their business purpose is to perform any of the activities regulated under the FinTech Law.
Prior to the entry into force of the FinTech Law, most Mexican FinTech companies had been operating in a regulatory limbo, struggling to fit their business activities within the scope of Mexican law. The FinTech Law mainly regulates two types of FinTech companies: (i) crowdfunding institutions; and (ii) electronic payment companies.
Specifically, crowdfunding institutions are defined as those that carry out activities to bring together investors and solicitors through IT platforms or electronic means in order to obtain or provide funding. The FinTech Law only recognises three categories of crowdfunding activities that can be performed through licensed FinTech companies: (i) debt crowdfunding (also known as peer-to-peer lending); (ii) equity crowdfunding; and (iii) profit sharing crowdfunding. This seems to leave other types of crowdfunding (e.g. donation-based, reward-based or cryptocurrency-based) in a regulatory grey area.
From a tax perspective, the main challenge that licensed FinTech companies operating in the crowdfunding space are facing relate to being able to set up a corporate structure that allows them to be taxed only on the service fee or commission earned, while also allowing their investors to be taxed according to their specific tax nature, rather than subjecting all investors uniformly to corporate taxes at the level of the FinTech companies and then exposing them to dividend taxes, which can lead to effective tax rates of more than 50% for individuals or foreign investors.
To a large extent, this issue is caused by the requirement imposed by the FinTech Law that all licensed FinTech companies should be incorporated as Mexican corporations, as these are entities with legal personality that are not pass-through for tax purposes (i.e. not tax transparent) from a Mexican perspective. As such, the law does not allow for the taxing of income obtained by FinTech companies in the hands of the investors, as if they had obtained the income directly.
While the FinTech Law does allow licensed crowdfunding companies to act as mandataries of their clients, which could somehow seem to be a solution as the crowdfunding companies would be receiving payments from the solicitors on behalf and for the benefit of the investors and, therefore, should not liable to corporate taxes on such income, this alternative entails many practical difficulties. For instance, solicitors may be required to withhold taxes from payments made to the crowdfunding companies, taking into consideration the nature of each investor, but have no visibility as to the identity of the investors, while at the same time being burdened with having to issue individualised invoices and withholding certificates to all investors.
Other types of vehicles seem more appropriate for these types of ventures from a Mexican tax perspective. For instance, Mexican trusts could be ideal from a tax perspective, as tax transparency can generally be achieved to the extent they do not carry on entrepreneurial activities in Mexico. However, Mexican trusts have rigorous know-your-customer policies that in practice are difficult to meet because most investors in crowdfunding structures are individuals that provide little information about themselves.
A similar result could be achieved using foreign limited partnerships with no legal personality in their country of residence (e.g. Canadian or Cayman limited partnerships). This is because tax transparency can also generally be achieved provided they do not carry on entrepreneurial activities in Mexico, but it is unlikely that Mexican regulators would be willing to issue rules that would have them supervise a foreign vehicle, as opposed to a Mexican entity.
Perhaps the most straightforward solution would be for the Mexican tax authorities to issue rules to extend the tax treatment awarded under Mexican tax legislation for Mexican investment funds to licensed FinTech companies operating in the crowdfunding space, as Mexican investment funds are also required to be incorporated as corporations, but are not considered taxpayers for income tax purposes on certain types of income, which allows their investors to be taxed according to their individual tax nature.
While the regulators seem to be taking the right steps to establish a much needed legal framework to foster innovative financial services, it appears that a similar effort is needed from the tax authorities to issue regulations that are tailored to an industry that is like no other in order to promote its development.
Oscar A. López Velarde (olopezvelarde@ritch.com.mx)
Santiago Díaz Rivera Bravo (sdiazrivera@ritch.com.mx)
Ritch, Mueller, Heather y Nicolau, SC
