| | |  Business News | December 2009 
Mexicans Evading Tax Mock Calderon’s Bid to Wean Nation Off Oil
 Thomas Black & Jens Erik Gould - Bloomberg
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In a cramped family printing shop tucked behind a taco stand in downtown Mexico City, a worker named Antonio stacks fake sales slips from popular eateries on an October afternoon.
“We’ve got them for McDonald’s, Burger King, all the restaurants anyone wants,” says Antonio, who declines to give his last name as he shows off the phony papers that smell of fresh ink.
Like many shops that line Santo Domingo Square, the store sells the slips, bogus receipts from hotels and retailers and phony invoices for 20 pesos, or about $1.50, apiece. Customers use them to reduce their tax bills by writing off business expenses they never incurred. Or they file false invoices that show they paid tax when they didn’t.
The Tax Administration Service, Mexico’s equivalent of the U.S. Internal Revenue Service, says such maneuvers cost the country 13 billion pesos ($1 billion) in tax revenue in 2009, a year when the global recession, tourists’ concerns about swine flu and $23 billion in lost oil revenue combined to make the country’s economy the second-worst performer, behind Russia’s.
In the first half of 2009, gross domestic product tumbled 9.2 percent from a year earlier. The economy contracted 6.2 percent in the third quarter.
‘Expand the Tax Base’
In Mexico’s struggle to rekindle growth, a big part of the solution will be fixing the tax system, says Jerome Booth, chief of research at London-based Ashmore Group Plc, which manages $25 billion of emerging-market securities. Mexico has the lowest tax collection as a percentage of its economy among the 30 Organization for Economic Cooperation and Development members, the OECD says.
“Politicians have been talking about this for 10 years, and they haven’t got it done,” Booth says. “They’ve got to expand the tax base.”
Under President Felipe Calderon, the government is challenging resistance to reducing the country’s dependence on oil for the first time since Vicente Fox failed during his first year in office in 2001.
In November, Calderon, 47, an economist with a master’s in public administration from Harvard University, won approval for tax increases to close the 2010 budget gap. The changes do little to either expand the tax base or wean Mexico off oil revenue, says Gabriel Casillas, chief economist at JPMorgan Chase & Co. in Mexico City.
‘Bad Habits’
“It hasn’t been easy,” Calderon said at the Bloomberg Economic Forum in Mexico City on Nov. 5. “It’s necessary to overcome obstacles and bad habits that have been accumulating over many, many years.”
Calderon, who took office in 2006, and his National Action Party, or PAN, are dueling with a lower house of Congress in which the Institutional Revolutionary Party has the most seats.
The PRI dominated Mexican politics for 71 years before Fox won the presidency in 2000. In November, the PRI-led Congress rejected Calderon’s proposal for a new, 2 percent consumption tax on the sale of all goods. The president estimated that the levy would add 71.8 billion pesos of revenue and spread the tax burden. Instead, Congress forecast that the state-controlled oil monopoly would enjoy higher prices, which would allow Mexico to collect less in taxes from other sources than Calderon had hoped for.
Congress adopted portions of Calderon’s plan. It upped the income tax rate by 2 percentage points to 30 percent for top earners and corporations, boosted taxes on cash bank deposits and raised the value-added levy to 16 percent from 15 percent. The value-added tax excludes food and medicine, which would have been part of Calderon’s consumption tax.
‘Using Band-Aids’’
“We don’t have a comprehensive fiscal reform package yet,” says Lorenzo Zambrano, chief executive officer of Monterrey, Mexico-based Cemex SAB, the world’s third-largest cement maker. “We’re using Band-Aids, and that’s wrong.”
Zambrano says companies already pay their fair share. Spreading the tax base has succeeded in South Korea and Ireland, which were each once poorer than Mexico, he says, sitting near a picture window at Cemex headquarters as sprinklers water a manicured lawn outside.
“You have to pay more in consumption tax because that’s what’s working in every successful country,” he says. “Some people might not like it, but it is working.”
Ratings Downgrade
Mexico is underperforming emerging-market rivals by many standards. Foreign direct investment in the first three quarters of 2009 fell 42 percent to $9.8 billion from a year earlier.
On Nov. 23, Fitch Ratings lowered Mexico’s foreign-currency debt rating by one level to BBB, or two steps above junk, from BBB+ because of dwindling oil production and a rising budget deficit. It was the first downgrade since 1995, when a devaluation in the peso prompted the U.S. to lead a $50 billion bailout that kept Mexico from defaulting on its sovereign debt.
Standard & Poor’s has said it also may downgrade its BBB+ debt rating before the end of this year on the same concerns of declining oil revenue and Mexico’s low growth.
The deficit is forecast to grow to 2.75 percent of GDP in 2010, including debt from oil monopoly Petroleos Mexicanos, known as Pemex, according to figures from JPMorgan’s Casillas. The deficit was 2.1 percent of GDP in 2009, the government says.
Casillas and executives from some of Mexico’s biggest companies say that the November tax legislation helps boost public finances in the short term.
Cash Cow
During previous tough times, Mexico could count on Pemex, a cash cow that brings in 37 percent of public-sector revenue. Now Cantarell, the world’s biggest offshore oil field, is drying up faster than the government expected.
In September, daily production at Cantarell fell 39 percent from a year earlier to 573,760 barrels. Total Mexican production tumbled by 850,000 barrels a day as of October 2009 since peaking at 3.45 million barrels in December 2003. The government is spending almost $20 billion a year on exploration to keep Mexico from becoming a net oil importer, which could occur as soon as 2015, the Energy Ministry said in 2008.
Ashmore’s Booth says opening Pemex to outside investment would help ignite growth. It’s another area where Calderon, who campaigned as the “president of employment,” has failed to get his agenda through Congress.
Longtime Taboo
In 2008, Calderon wanted Pemex to seek partners for deep- water exploration and pushed for private companies to build refineries in Mexico, a longtime taboo. Congress instead gave Pemex leeway to hire companies without granting these outside firms the ability to market Mexican crude and nixed private investment in refining.
Without the income from oil, Mexico’s tax revenue would account for only about 10 percent of the country’s economy instead of the 17.5 percent it did in 2008, the Finance Ministry says.
To shore up Mexico’s economy, Calderon has taken an opposite tack from the U.S. and China’s. In 2009, he cut expenditures by 85 billion pesos instead of unleashing spending as many countries have done.
Even before the recession, Mexico lagged behind Brazil, Russia, India and China, with GDP expanding an average of 2.4 percent from 2001 to 2008 and then collapsing in 2009. Brazil, the slowest-growing economy of the BRIC nations, averaged 3.6 percent growth in that period.
‘Weak Income Tax System’
Herbert Bettinger, who helped create the Tax Administration Service, blames tepid growth in part on the bad tax policy. With rampant evasion and dependence on dwindling oil revenue to fund the government, the system has evolved to where too few taxpayers foot the bill for 107 million people, says Bettinger, now a managing partner at Ernst & Young International in Mexico City. About 14 million Mexicans pay income taxes out of 46 million in the workforce, he says.
Mexico’s cash-based and unregistered businesses further plague tax collectors. The so-called informal economy was about 28 percent of the legitimate economy in 2003, according to a 2008 International Monetary Fund study. Instead of going after scofflaws, the government has chosen to tax 58 percent of Pemex’s total revenue.
“When you’re dependent on revenue that’s easy to collect, you tend to take the easy route and not bother your citizens by taxing them,” Alfredo Gutierrez, head of the Tax Administration Service, says. “It’s just a very, very, very weak income tax system.”
‘Worried as a Taxpayer’
Mexico’s corporate tax rate, which is based on income, profit-sharing payments to employees, social security and other taxes, was 51.2 percent in 2006 compared with 46.2 percent in the U.S., PricewaterhouseCoopers LLP and the World Bank reported in 2007.
Benjamin Gonzalez, who teaches English in a small office in Monterrey, pays taxes. He’s angry that Congress is increasing his income tax and the value-added tax on his service as he struggles to keep his startup going. He says he may look for customers who don’t require a receipt and underreport his income, which would add him to the pool of tax evaders.
“I’m worried as a taxpayer,” Gonzalez, 30, says, pulling out one of the official documents he has to file. “It’s going to force me to look for activities that aren’t regulated by the tax authority.”
Calderon’s inability to win consensus on taxes is threatening the PAN’s already tenuous grasp on Mexican politics. Calderon beat Andres Manuel Lopez Obrador by less than 0.6 percent in the 2006 election.
‘Lack of Vision’
At first, Calderon and the PRI worked together to cut the cost of government pensions. The PRI proved less agreeable on taxes and Pemex. It may be even less inclined to give Calderon legislative victories after winning back its position as the biggest party in the lower house of Congress in July.
A September poll showed state of Mexico Governor Enrique Pena Nieto of the PRI backed by 49 percent of voters in the 2012 presidential race. The PAN’s Santiago Creel Miranda had 18 percent. Calderon is prohibited by law from running again.
Marcelo Canales, part owner of Mexican airline Grupo Aeromexico SA, says Calderon and lawmakers are letting down the country.
“I’m upset with the lack of seriousness and lack of vision from both the president and the Congress,” says Canales, 52, who is also president of the state of Nuevo Leon chapter of Coparmex, a business trade group. “Mexico is going to have hard times.”
To contact the reporter on this story: Thomas Black in Monterrey at tblack(at)bloomberg.net; Jens Erik Gould in Mexico City at jgould9(at)bloomberg.net
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