G ermany Focused Bulletin: Protocol Amending the Agreement Between Mexico and Germany for the Avoidance of Double Taxation and Tax Evasion with respect to Taxes on Income and Capital

The Protocol was signed on October 8, 2021, and ratified by the German Federal Cabinet on April 13, 2022, and by the Mexican Senate on April 25, 2023.

The purpose of the Protocol is to implement measures to prevent base erosion and profit shifting (“BEPS”) derived from the provisions of the Multilateral Instrument (“MLI”), following the positions adopted by Mexico and Germany regarding the MLI. Mexico did include the treaty as a Covered Tax Agreement whilst Germany did not. As a result, the treaty will not be modified by the MLI.

Below, we highlight the most relevant amendments to the treaty; nevertheless, we strongly recommend reviewing individually the Protocol to promptly identify other potentially relevant topics that may not be covered in this document.

I. Preamble

The preamble was modified to clarify that the purpose of the treaty is to prevent double taxation, without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance, (including through treaty-shopping arrangements)

II. Permanent establishment

The Protocol modified Article 5 paragraph 4 of the treaty to ensure that each of the exceptions to the permanent establishment construct are otherwise of a “preparatory or auxiliary character.”

III. Dividends

Paragraph 2 of Article 10 was amended and now establishes a holding period of 365 days, so that the 5% withholding tax rate on dividends is applicable, whenever the beneficial owner of the shares holds directly at least 10% of the capital of the entity and such holding period is met.

IV. Capital gains

Regarding capital gains under Article 13, paragraph 2 (dealing with shares deriving more than 50% of their value from immovable property), the Protocol considers partnership or trusts as comparable forms of ownership rights to which Article 13, paragraph 2 will apply. It also included a new 365-day threshold to test whether the shares or comparable rights derive their value from immovable property which will need to be considered before the transfer takes place.

V. Mutual agreements

The 10-year limit for implementing mutual agreements was eliminated and it is now established that any agreement reached will be applicable regardless of the time limits stipulated by the domestic legislation of Germany and Mexico.

VI. Special Cases

The Protocol included a new triangular PE provision which allows the denial of treaty benefits whenever a resident derives an item of income and such item of income: (i) is attributable (under the laws of the residence jurisdiction) to a PE in a third jurisdiction, (ii)is exempted in the residence jurisdiction and (iii) the third jurisdiction taxes the item of income at an effective rate which is lower than 60% of the tax that would be due in the residence jurisdiction. An active trade or business exception was also included.

The Protocol also includes a principal purposes test, whenever it is reasonable to conclude that obtaining treaty benefits was one of the principal purposes of any arrangement or transaction giving rise to the benefits, except if it can be established that such benefit is in accordance with the object and purpose of the treaty.

The Protocol will enter into force 30 days after the ratification instruments are exchanged by Germany and Mexico and is expected to apply as of January 1, 2024.

For more information, please feel free to contact:

Omar Zúñiga (Partner)
omar.zuniga@creel.mx
+52 (55) 4748 0665