Mexican Land Trusts are Not Trusts for US Federal Income Tax Purposes
In a recent Revenue Ruling, the IRS concluded that a fideicomiso or Mexican Land Trust (“MLT”) arrangement is not a trust for U.S. federal income tax purposes. This was welcome news to many U.S. citizens that own land located in Mexico through an MLT. As you may be aware from our previous blog entries, interests in non-U.S. trusts by U.S. citizens can create costly annual compliance burdens because of the disclosure requirements under U.S. federal tax law for U.S. persons with interests in non-U.S. trusts. The penalties associated with failure to file these disclosures can be significant.
MLTs are used in Mexico because the Mexican Constitution prohibits non-Mexican persons from holding title to residential real property located in specified areas (typically near Mexican coastlines). MLTs allow non-Mexican persons to have beneficial interests in residential real property located in these areas if a qualified Mexican bank holds legal title to the property. Under this arrangement, the beneficiary of the trust arrangement may sell the property without permission from the bank. The beneficiary also pays all taxes, receives all rent if the property is leased and is responsible for all taxes and liabilities associated with the property. The beneficiary has the exclusive right to possess the property and make any modifications to it without needing approval from the bank. Although the bank is identified as a fiduciary, it disclaims all responsibility for the property and has no duty to defend or maintain the property.
U.S. Treasury Regulations provide that whether an entity is classified as a trust under local law is not determinative of whether the entity should be treated as a trust for U.S. federal income tax purposes. The Regulations define a trust as an arrangement in which trustee(s) take title to the property for “protecting or conserving it for the beneficiaries.” An arrangement purporting to be a trust will be respected as such for U.S. federal income tax purposes if the purpose of the trust relationship is to vest responsibility for protection and conservation of the trust property with trustees on behalf of beneficiaries who cannot retain this responsibility.
The IRS concluded that although MLT arrangements are organized as trusts under Mexican domestic law, these arrangements did not qualify as trusts for U.S. federal income tax purposes. Applying the analysis noted above, the IRS concluded that because the “beneficiary” has exclusive responsibility to maintain, conserve, protect and manage and control the property, the owner of the property was the “beneficiary” for U.S. federal income tax purposes and not the bank.
The IRS did not draw any further conclusions than those raised by a MLT arrangement.