If you’re considering moving your company’s manufacturing operations to Mexico, you’re likely intrigued by the nation’s cost-effective labor force and geographic proximity. In addition, you probably know that the USMCA agreement has recently replaced NAFTA and will continue promoting free trade between the United States, Mexico, and Canada.

However, it’s important to understand the taxes and fees that may apply when doing business.

Does Mexico have a border tax?

The short answer is yes. Mexico has free trade agreements with over fifty other countries, and these significantly reduce or eliminate barriers to trade including but not limited to tariffs. However, Mexico does have a Value Added Tax (VAT) on imports and exports.

In this short guide, we’ll go over the basics of Mexico border tax rules.

Taxes, Tariffs, and Duties

During the trade wars of the past decade, politicians have threatened to impose various taxes and tariffs on trading partners accused of unfair dealing. However, these discussions can lead to a broad misunderstanding about the differences between fees imposed at the border and who ultimately pays them.

• Tariffs are taxes imposed on a cross-border transaction– either imported or exported goods. They are sometimes viewed as punitive and considered a barrier to free trade. Mexico’s many free trade agreements eliminate and reduce tariffs on exchanges between Mexico and its partner nations. However, in some cases, goods imported or exported to Mexico are subject to tariffs. Tariffed import taxes are payable by the individual importer, not the nation importing them. Importers often pass these fees onto consumers, but they may also ask the supplier for a lower price.
• Value-added taxes are taxes imposed on goods and services when their value increases. For example, a tax could be applied when steel is imported; again when a car part made of that steel is sold to a manufacturer; and again when the car is sold to a consumer. Value-added taxes are not considered a barrier to free trade, and in fact, most countries levy some kind of VAT. The U.S. does not, largely because of tax law discrepancies between the fifty states.
• A border adjustment tax is a type of value-added tax (VAT) based on where they are eventually sold. A border adjustment tax is also payable by the importer (not the government). However, whether or not it is charged depends on the goods’ final destination.
• Duties including customs and excise duties are fees charged to importers and distributors. These are considered indirect tax, and the cost is often passed on to consumers.

Which kinds of fees might apply to your business when manufacturing in or trading with Mexico? This can depend on the following:

• Your company’s location
• Industry sector and product type
• The origin of your products’ materials and parts
• The kind of labor you use and how much you pay your workers
• The place of final assembly
• The nation where you plan to eventually sell your finished goods

Taxes Under USMCA

For the purposes of this article, we’ll mostly discuss the taxes that may affect U.S. companies who host all or part of their manufacturing operation in Mexico. Due to the USMCA trade agreement, these will be similar to the taxes that affect Canadian companies doing business in Mexico.

The United States, Mexico, and Canada have enjoyed preferential trade for over twenty years. Beginning in 1994, the North American Free Trade Agreement (NAFTA) began to significantly reduce tariffs on goods traded between the three nations.

• Mexican goods imported to the U.S. were no longer subject to tariffs as high as 30%. This led to massive growth in Mexico’s manufacturing sector.
• At the same time, goods imported to Mexico were not taxed, either. This meant that some items could be partially produced in the U.S., shipped to Mexico for processing, and then imported again—all without tariffs.
• NAFTA also gave the U.S. and Canada improved access to the market in Mexico, and both countries continue to export consumer goods. 

The new 2020 USMCA trade agreement updated and replaced NAFTA. It preserves the “most favored nation” trading status between the three countries. However, there are some changes to the agreement, and specifically the way these nations may levy tariffs.

The changes affect different industries differently:

• The new agreement eliminates tariffs on electronic goods like downloadable music, eBooks, and other digital products.
• It creates new rule of origin standards for the auto industry such that vehicles may be subject to tariffs if they contain significant material sourced from outside North America.
• There are new provisions for textiles and apparel made with non-NAFTA components. If garments contain elements or finishing done outside of the trade territory, they may be subject to new tariffs.
• Rule of origin standards also apply to chemicals, glass, and other industrial materials.
• The agreement also increases the amount of dairy that can be imported tariff-free from the U.S. to Canada.

Overall, these new provisions encourage the manufacture of products within North America by creating more stringent regulations regarding rule of origin and rewarding compliance with zero tariff trading. For a comprehensive list of Mexico’s free trade agreements, check out our blog. 

However, some taxes will still apply to goods imported to Mexico.

Potential Taxes on Cars and Trucks

As noted above, some tariffs may apply to cars, trucks, and other vehicles that contain raw materials from non-NAFTA nations.

Under NAFTA, 62.5% of an automobile’s parts must originate within North America for the vehicle to be traded without tariffs.

To qualify for zero tariffs, vehicles and their manufacture are subject to the following requirements:

• Vehicles must be produced with a minimum of 75% North American content
• 70% of the vehicle’s steel and aluminum should be melted and poured in North America
• Vehicles must also be 40-45% produced in high-wage factories paying at least $16/hr

If vehicles do not meet these guidelines, they will be subject to tariffs.

USMCA lays out new procedures for verifying points of origin and certifying goods as eligible for zero tariffs. 

• Goods with appropriate certification can bypass assessment upon import to Mexico
• Other goods may be subject to processing, assessment, and tariffs

Value Added Tax (VAT)

While some goods are eligible for zero tariffs upon entry to Mexico, the Mexican government does place a Value Added Tax on most imports. There are some exceptions.

We’ve already discussed the basic difference between a VAT and a tariff. However, to go into more detail, a VAT is a specific kind of tax applied to goods at every stage of their production. Each time a value is added, the tax is applied. 

In Mexico, a 16% VAT is usually applied after a good is:

• Used 
• Imported
• Sold
• Exported

For a garment, this increase in value takes place—and is taxed—multiple times:

• A company sells fiber to be woven into textiles. The buyer pays the VAT.
• The textile is sold to another company. A VAT is applied, and the new buyer pays.
• The fabric is cut for a garment and sold to a retailer. The retailer pays a VAT.
• The retailer sells the garment to a consumer. The consumer pays the VAT.

At each stage, the cumulative VAT is greater (in effect reimbursing others who are lower down the supply chain).

The VAT for goods imported from the U.S. is calculated based on their pre-shipment value, plus freight charges, duties, and any other fees incurred during its shipment to Mexico.

However, there are some notable exceptions.

VAT Exceptions

As we’ve noted, there is a long history of temporarily importing goods to Mexico for final processing and assembly. This practice is especially prevalent at the Northern Mexico border with the U.S.

VAT exceptions may apply to the maquiladora program and other temporarily imported goods.

• The Northern border region is home to a lower 8% VAT rate
• VAT is due upon import; however, a credit is automatically applied to some certified vendors and programs
• There is no VAT payable upon a product’s re-export

There are several levels of certification that can help manufacturers receive an appropriate VAT credit or a refund for VAT paid on temporarily imported goods.

Avoiding Taxes and Tariffs in Mexico

While Mexico has extensive free trade agreements, there are some situations in which your company’s imports and exports from Mexico will likely be subject to taxes.

If you’re considering nearshoring, you may have questions like the following:

• How can I receive appropriate certification to receive a VAT tax credit?
• How can I ensure my company’s manufactured goods receive certifications of origin that bypass processing for tariffs and duties?

As you get acquainted with the legal and economic landscape in Mexico, you can choose between several solutions that may keep your costs low while expanding your footprint in Mexico.

These include:

• Establishing a foreign subsidiary – A foreign subsidiary will be subject to VAT taxes associated with the production and sale of goods. However, you may enjoy savings on import and export tariffs, which can lower your overall Mexican tax liability. 
• Using shelter services – Rather than creating a foreign subsidiary, you may choose to do business under an extant Mexican corporation. This way, you can enjoy lower taxes without establishing a legal presence and the liabilities that come with it.

NAPS: Your Guide in International Manufacturing

If you’re considering nearshoring, don’t start from scratch. NAPS’ extensive experience in Mexico makes it possible to quickly find the manufacturing solution that’s right for your company. Our experts can guide you through the process, from understanding the Mexican government’s tax law system to making the right site selection.

Contact us today for more information about manufacturing in Mexico.

 

Sources: 

1. Office of the United States Trade Representative. UNITED STATES–MEXICO–CANADA TRADE FACT SHEET Rebalancing Trade to Support Manufacturing. https://ustr.gov/trade-agreements/free-trade-agreements/united-states-mexico-canada-agreement/fact-sheets/rebalancing
2. The New York Times. Why a Tax the U.S. Hasn’t Embraced Has Found Favor in Much of the World. https://www.nytimes.com/2019/05/17/business/value-added-tax-enforcement.html
3. Investopedia. Value-Added Tax Examples. https://www.investopedia.com/ask/answers/042315/what-are-some-examples-value-added-tax.asp