Mexico’s president, Andrés Manuel López Obrador, recently announced his much-anticipated border free zone program.
Its formal name is “Decreto de Estimulos Fiscales Region Fronteriza Norte,” or “Decree of Tax Incentives for the Northern Border Region.”
For all of us in the international trade industry, it is very clear that it is not what was initially thought. Products and raw materials will not flow into the Mexican border free of any duty, VAT, or customs clearance, and Mexican customs facilities will stay where they are right now.
In essence, this is a tax reform for the northern border of Mexico which includes 43 municipalities in the northern states of Baja California, Chihuahua, Nuevo Leon, Sonora, Coahuila, and Tamaulipas. Our neighboring cities are all included: Reynosa, Miguel Aleman, Camargo, Rio Bravo, Valle Hermoso, and Matamoros.
These are the main components of the border free zone program:
- Reduction of corporate tax (ISR) from 30 percent to 20 percent.
- Reduction of VAT (IVA) from 16 percent to eight percent.
- Increase in minimum wage to double the national level to $176.20 Mexican pesos per day or approximately $9.50 dollars.
The first two components may sound familiar to you as the United States also recently reduced its corporate tax rate to 20 percent. Even as the tax systems in both countries are not the same, sales tax in Texas is an almost identical 8.25 percent, so, yes, this measure is intended to make taxes equal or almost equal between the United States and the Mexican border region. The ultimate objective is to make the Mexican border region attractive to investment from the United States and the interior of Mexico.
Without getting too technical, you should know that there are some requirements for the border free zone program and that its application is not widespread to all economic activity in the border. It is mainly intended to benefit small- to medium-sized businesses. Also, individual working citizens will only pay a lower sales tax and maquiladoras will not benefit from it. It will also be valid for two years (it could be extended if successful) and also has requirements to prevent abuse such as that 90 percent of revenue has to be from the border to qualify for the program. This is to prevent companies from the interior of Mexico establishing their business in the border solely for these benefits.
Was the increase in minimum wage a positive? Interestingly, it seems that most businesses do not pay the minimum or double the minimum, but some maquiladoras do. They will not benefit from the lower IVA or ISR but will need to abide by the higher minimum wage. Believe it or not, many people make less than $9.50 a day in Mexico.
As expected, feelings are mixed about the new program’s probable benefits. Do you think the U.S. is divided in its support of President Trump? You should try having a discussion about AMLO’s measures in Mexico!
Some executives in industry have complained of its limited impact.
Salvador Dominguez, trade compliance manager for Emerson in Reynosa, told me:“The benefits in VAT and corporate tax are very limited to certain persons with business activity and some companies with previous registration and authorization. The average employed citizen (who is the vast majority) will not see the benefit of these ‘measures’.”
Rodolfo Garza, director of finance for Contec in Matamoros, stated that the benefits are almost nil for maquiladoras as they are exempted. He also mentioned that the measure will make VAT rules more complex for them when explaining the cash flow impact it will generate.
Others remain optimistic. Even Cienfuegos, the business owner of Real Ferretera in Reynosa, said: “We are yet to see the specific rules for its application but I am optimistic. Back in 2010 when the border region had a lower IVA economic activity was much better in the city. As I recall many small businesses closed since then.”
Octavio Garcia, owner of Materias Primas in Reynosa, told me he did not see it as a real incentive to reduce purchases by Mexican residents in the United States. Garcia stated: “To me, whoever wants to shop in McAllen will continue to do so, regardless of the reduction of IVA in Reynosa.” When I asked him about impact on his business, he said: “It is hard for me to see that the eight percent reduction in the IVA will spur more sales, but I hope it does.” Regarding the reduction in the ISR, Garcia said: “I do see myself investing more in my business.”
Another contact, who preferred not be mentioned by name, told me: “Since we also have sales activity in Monterrey and our income in the border is less than 90 percent of the total, we don’t qualify for the benefits. I think this was not very well structured to be honest. For businesses that import or buy from the interior of Mexico cash-flow could be a problem. You pay VAT of 16 percent on your purchases, then you charge eight percent to the customer. Sure, it should spur more sales, but what about the eight percent that you should get back from the government. When will they pay it back?”
As economists usually point out, whatever gives the region an edge is positive, but the ultimate success in this measure will depend on how citizens spend their savings from the reduction in the VAT and how the savings in corporate taxes are used. More consumption from VAT savings and more investment from the reduction of the corporate tax is ideal.
On the other hand, tax laws in Mexico are complex and the new program’s implementation is bound to cause confusion and problems for many. Still, as I have pointed out in the past, the main detractor of business investment and growth in the Mexican border is the lack of security. If people do not feel confident enough to spend their money or if businesses do not feel safe to invest, the benefits will be minimal, if any. I remain eager and optimistic to see AMLO’s proposal on this important matter as well.
Editor’s Note: The main image accompanying the above guest column shows Mexican President Andrés Manuel López Obrador making a presentation of his border free zone program in Reynosa on January 4, 2019. Tamaulipas Governor Governor Francisco Garcia Cabeza de Vaca is pictured sitting third from the left. The photo was provided courtesy of the Governor’s office.