Regulatory Changes

What's New

By: Ralph Watkins

    On Oct. 30 and Dec. 31, 2000, the government of Mexico issued changes to the decrees governing the maquiladora and PITEX programs, bringing Mexico into compliance with Article 303 of NAFTA, which restricted duty drawback 28 for goods traded between Mexico and its NAFTA partners effective Jan. 1, 2001.

    As a result, companies importing machinery and components originating from outside North America for use in assembly plants in Mexico began paying duties on such imports. In compliance with Article 303, Mexico will reduce the duty owed to it on the importation of non-North American inputs by the lower amount collected by either Mexico or the other NAFTA party. That is, if the assembled product is exported to the United States and U.S. duties are higher than those calculated when the inputs entered Mexico, no duty will be owed to Mexico on the non-North American inputs. However, if the duties on the inputs in Mexico are higher, Mexico may or may not exempt any duties of its own, depending on the amount of duties collected by U.S. Customs on the assembled product. Duties owed to Mexico must be paid to Mexican Customs within 60 days of export to the United States.

    Mexican duties on non-North American inputs imported by companies not registered under either the maquiladora or PITEX programs are collected by the aduana at the time of entry into Mexico.

    The new regulations allow companies registered under these programs to continue to import inputs for their assembly plants originating in the United States or Canada free of duty, even if the staged NAFTA rates for these inputs are not yet free. Inputs originating outside North America that are imported into Mexico’s maquiladora and PITEX sectors are not subject to duty on entry into Mexico because these imported components are eligible for duty-free treatment if the assembled product is exported to a country other than the United States or Canada. If the assembled good is exported to the United States, the higher of the U.S. or Mexican duty would apply.

Sectoral promotion programs

    In anticipation of the restrictions on duty drawback, a number of companies with maquiladora and PITEX operations have convinced suppliers in Asia and Europe to establish parts production facilities in North America to replace imports from non-NAFTA sources. Some have found or developed alternative suppliers in North America. Nonetheless, non-North American sources supplied 18 percent ($17.3 billion) of the imported inputs used by maquiladoras and PITEX companies in 2000, led by Japan (4 percent), Germany (3 percent), and Korea (3 percent).

    Maquiladora and PITEX operations that continued to rely on non-North American inputs expressed concern to the Ministry of the Economy that Article 303 of NAFTA would increase their costs to the point of making their goods noncompetitive in the North American market relative to finished goods imported directly into the United States and Canada from sources other than Mexico. Many also claimed that they could not find North American producers of certain parts required in their assembly operations. To ease the burden emanating from the effects of Article 303 of NAFTA, the Ministry of the Economy established the Sectoral Promotion Programs (PPS), effective Nov. 20, 2000 for exports from companies registered under the maquiladora and PITEX Programs, and effective Jan. 1, 2001, for products exported from all other companies.

    The PPS unilaterally reduced Mexico’s General Import Tariff  rate of duty for thousands of tariff rate lines in 22 industrial sectors. Import duty rates under the PPS on most qualifying inputs and capital equipment are either free or 5 percent, although a number of products have duty rates of 3, 7, or 25 percent. Most of the product categories for which rates were reduced under the PPS had previously been dutiable at rates that varied between 13 percent and 23 percent. Each program sector lists certain qualifying end-products and inputs by tariff number. If the non-North American inputs are used to manufacture any of the end-products listed, the non-North American inputs may be imported at the import duty rate specified in the particular program.

    The Mexican Ministry of the Economy based its list of articles eligible for reduced duties under the PPS on requests from the assembly industry and reaction from the domestic industry in Mexico. Critics of the PPS have expressed concern that it mitigates the impact of the restrictions on NAFTA duty drawback and may reduce the incentive for maquiladoras still importing parts from suppliers in Asia to find alternative sources in North America. Despite the reduction or elimination of Mexican tariffs under the PPS, maquiladoras using parts that are not of North American origin will be subject to the U.S. duty on the value of those imported parts contained in the assembled article when it enters the United States. If the U.S. rate of duty is lower than the PPS rate, the maquiladora must pay duties to Mexico’s aduanas calculated at the PPS rate minus duties paid to U.S. Customs.

    In addition, because a country’s temporary duty relief, including the new PPS tariff reductions, is not bound at the World Trade Organization, Mexico can again raise duties (to the higher bound or intermediate rate) without violating WTO rules. According to an industry observer, a key feature of Mexico’s Sectoral Promotion Programs is that they are policy instruments often subject to change; frequent revisions of existing programs should be expected.

    Domestic producers in Mexico can ask the government to remove specific articles from the PPS, and industry observers suggest that the Ministry of the Economy is likely to remove articles from the PPS list if a request is made by a company that initiates production anywhere in North America. At the same time, manufacturing companies can seek the inclusion of their critical inputs in the programs.

    Many maquiladora representatives from Japan, Korea, Taiwan, the United States, and Mexico reportedly have been unable to locate suitable component suppliers in North America. These officials claim that the PPS as currently constituted is inadequate to meet their competitive needs, and have requested Mexican officials to consider additional financial incentives. Without incentives to compensate for increased costs due to NAFTA Article 303, some companies currently using maquiladora operations reportedly will start searching for opportunities in other countries. For example, industry observers point to an assertion by the president of the Korean maquiladoras of Baja California that Article 303 forces some maquiladoras to purchase raw materials from suppliers that do not meet required quality standards. However, Mexico’s economy minister reportedly has encouraged the maquiladora industry and members of the Industry Chambers Confederation to design a program to develop suppliers for the industry.

Maquiladora taxation

    U.S. companies operating under Mexico’s maquiladora program have expressed concerns about changes to Mexico’s tax laws that went into effect on Jan. 1, 2000, that reclassified many maquiladora operations as permanent establishments and could have resulted in double taxation. Mexican and U.S. tax authorities reached agreement on an “Addendum to the United States-Mexico Competent Authority Agreement on the Maquiladora Industry” that entered into force on Aug. 3, 2000. The addendum provides for an indefinite extension of the previously agreed exemptions from Mexican asset tax and permanent establishment exposure for U.S. companies that use the processing services of a maquiladora. The initial agreement, signed in October 1999, had established new standards for Mexico to impose in determining the income tax liability of a Mexican maquiladora company as a condition for maintaining the Mexican tax exemptions for the U.S. company. That agreement only provided for application of the specific standards through taxable year 2002, and created uncertainty for maquiladora operations, which the addendum announced in August 2000  was intended to address. Some experts on Mexican tax law note that significant uncertainty still remains regarding the manner in which Mexico will implement the terms of the mutual agreement for 2000 and later years, and the industry awaits the outcome of talks between the United States and Mexico on this subject.

Domestic market access

    Mexico committed in NAFTA to phase out the maquiladora program by each year increasing the share of its production that a maquiladora operation could sell to the domestic market in Mexico, until a maquiladora could sell 100 percent of its production domestically on Jan. 1, 2001. Instead of being a phase-out of the maquiladora program, the NAFTA provision appears to have resulted in further evolution of the maquiladora industry’s access to the Mexican market. This provision facilitated intra-maquiladora sales, which were not allowed prior to NAFTA. Further, the ability to sell to both the U.S. and Mexican markets attracted additional investment in the industry, particularly among parts producers and companies in the durable goods sector. Instead of the maquiladora program being phased out, employment in the maquiladora industry grew from 468,000 at the end of 1993 to 1.3 million in December 2000.

    To comply with NAFTA, the Maquiladora Decree published in 1998 ordered the termination of all restrictions regarding maquiladora sales to the domestic market as of Jan. 1, 2001. In order to maintain certification as a maquiladora operation and, therefore, be eligible for exemption from the value-added tax, a company’s exports in the current year must be equivalent to at least 10 percent of the value of its previous year’s production. If a maquiladora is not involved in the manufacture of goods for export markets, then a U.S. company that owns machinery and equipment used in the maquiladora operation cannot claim eligibility for exemption from Mexican asset tax and from Mexican income tax applicable to permanent establishments; moreover, value-added tax applies on sales of finished products into the domestic market.

 Reprinted from Industry Trade and Technology Review, a publication of the United States International Trade Commission.