Mexico Eyes Tax Reform

http://www.latimes.com/business/la-fi-mextax17mar17,1,1889036.story?coll=la-headlines-business

Mexico needs to overhaul tax collection
As oil production drops, the nation must tackle loopholes and rampant evasion to raise revenue.
By Marla Dickerson
Times Staff Writer

March 17, 2007

MEXICO CITY — President Felipe Calderon has sent federal troops to hot spots around the country to combat drug traffickers in recent months. But another group of scofflaws may prove even tougher to bring to justice: Mexico's tax cheats.

In the next few weeks Calderon's administration will unveil a revenue-raising plan that will probably prove as divisive as it could be pivotal for Mexico's future.

Mexico needs better tax collection — and fast. Production at Pemex, the state oil monopoly and Mexico's biggest taxpayer, is falling. Evasion among businesses and individuals is rampant. At a time when Pacific Rim trade rivals such as China are investing billions of dollars in superhighways and research centers to speed economic growth, Mexico is struggling to fund basics such as sewers and police.

Experts across the political spectrum concur that Mexico needs significantly higher tax receipts to improve its competitiveness and fight poverty. The tough part for Calderon, who took office Dec. 1, will be getting people here to agree on who should pay.

His predecessor, Vicente Fox, was stymied by a gridlocked Congress in his attempts to implement fiscal reforms. Calderon, a conservative who won the presidency by a narrow margin, likewise lacks a strong mandate.

On one hand, he risks alienating the businesspeople who helped elect him if he attempts to close corporate loopholes. On the other, Calderon could inflame leftist opponents if he tries to crack down on off-the-books workers or relies too heavily on consumption taxes that would hit low-income Mexicans the hardest.

Groups on the right and the left are maneuvering to protect their turf. Some have already served Calderon with a tax notice of their own: Hands off.

"The biggest fear is that it won't be equitable," said Rogelio Ramirez de la O, an independent Mexico City economist who advised Calderon's populist rival Andres Manuel Lopez Obrador during the campaign. "Everyone thinks the other guy should pay."

The stakes are high. Ramirez de la O says foreign companies are looking to see whether Mexico is serious about investing in itself as they contemplate where to put their next offshore factories or service centers. Mexico's crumbling infrastructure and rising crime have persuaded some to go elsewhere. At the same time, Mexico's poor, who nearly delivered the presidency to Lopez Obrador in an extremely tight election, want to see their lives improved.

Mexico's tax crunch has been decades in the making.

The world's 13th-largest economy raises tax revenue about as effectively as Sri Lanka and Kazakhstan as a percentage of its gross domestic product, World Bank data indicate. The rate of evasion by individuals and businesses is running at about 50%, according to some estimates.

Mexico's tax collectors are so ineffective that the government has resorted to gimmicks, including prize giveaways, to entice citizens to pay their share.

Experts point to a variety of factors for the country's poor showing, including its vast underground economy, complex tax laws and overburdened auditors. Government waste and corruption have sapped the public's willingness to pay.

So has the lack of local control. The federal government collects most tax revenue, then redistributes it back to Mexico's states. The top-down approach means citizens and local officials have no assurance that their taxes will stay in their communities to improve streets and schools.

But the biggest culprit is oil. Petroleum sales and related taxes have generated more than $335 billion in the last six years alone. That gusher of riches has removed the urgency for legislators to act. It's far easier to squeeze more money out of Pemex than to enrage voters with tax increases or tougher enforcement. Oil revenue last year funded nearly 40% of public spending.

Now production at the country's largest oil field, Cantarell in the Gulf of Mexico, is declining rapidly.

With nothing on the horizon to replace it, Calderon knows that Pemex must be allowed to reinvest more of its earnings to fund exploration and development — and contribute less to the public till.

Mexico has a little more than a decade's worth of proven reserves remaining, increasing pressure on Calderon to make some headway on the nation's tax mess during his six-year term.

His financial team has been meeting quietly with legislators to start hammering out a consensus.

One of the biggest potential conflicts centers on Mexico's value-added tax, a 15% levy that functions as a sales tax for consumers. Calderon wants legislators to consider lowering the tax but applying it to items that are currently exempt, including food and medicine.

Such a strategy would raise billions of dollars quickly and easily. Consumption taxes, however, are regressive, hitting low-income households harder than rich ones. Mexico's Congress rejected a similar measure proposed by Fox.

Lopez Obrador, who charges that he was cheated out of the presidency by vote fraud, has been steadfast in his opposition to value-added taxes on staples. Mexicans already are steamed over rising food costs. Thousands took to the streets this year to protest skyrocketing tortilla prices. Lopez Obrador wants to eliminate loopholes and lucrative deductions for businesses and the wealthy.

"We won't permit more taxes to be levied on the poor and middle classes while the powerful and influential maintain their fiscal privileges," he said at a massive rally late last year.

Calderon won't have any easier a time tapping businesses. He has been in office barely three months, but companies have already rejected two attempts by his administration to raise their taxes.

The first, a 5% levy on soda pop, was defeated after heavy lobbying by soft-drink makers. The second, the elimination of some deductions that business filers can claim to reduce an asset tax, has swamped Mexico's courts with thousands of appeals by companies saying they will be irreparably harmed.

"We pay a number of taxes already," said Juan Manuel Lopez Diaz, an accountant for a mid-size home builder in Mexico City that faces an increase of $60,000 this year. "That's why we're fighting this one."

Critics say Mexico's tax code is riddled with loopholes for companies. They point to New York-based Citibank's tax-free acquisition of Mexico's Banamex in 2001, a $12.5-billion deal, as a prime example of how corporations avoid paying their fair share.

Business leaders counter that the government should focus on increasing Mexico's tiny base of contributors instead of punishing existing filers. Untold billions of dollars of commerce go untaxed in the underground economy. Entire industries, such as retail music sales, have succumbed almost completely to piracy.

As many as half the nation's workers are believed to be toiling off the books. Many of them are low-income street vendors. But plenty of doctors, dentists and other professionals aren't filing returns either, tax officials say.

Bringing tax evaders into the fold won't be cheap or easy. The effort would require an army of auditors and systems that Mexico doesn't have. Calderon has proposed simplifying the filing process to entice more people to contribute.

But entrepreneurs such as Mexico City fruit vendor Gabriel Moreno say they won't volunteer a peso.

"The government gives us no employment, no pensions, no healthcare," he said. "Why should I pay?"

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marla.dickerson@latimes.com

Times staff writer Cecilia Sanchez contributed to this report.

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(INFOBOX BELOW)

Lax enforcement

Mexico ranks among the world's big economies, but it's a laggard when it comes to tax collection.

Taxes as a percentage of gross domestic product*

France: 43.7%

Italy: 42.2%

Britain: 36.1%

Spain: 35.1%

Germany: 34.6%

Canada: 33.0%

Turkey: 31.1%

United States: 25.4%

Japan: 25.3%**

South Korea: 24.6%

Mexico: 18.5%

*All taxes, all levels of government in 2004

**For 2003; 2004 not available

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