Auto Trends Series: Article 7
As manufacturing in Mexico returns to pre-pandemic levels, several recent legal developments may affect those operations. Manufacturers, particularly those in the automotive industry, need to consider new Mexican labor regulations, the recent interpretation of the United States-Mexico-Canada Agreement´s (USMCA) Automotive Rules of Origin, and new requirements concerning transparency of ownership.
Recovery of Automotive Manufacturing in Mexico
North American manufacturers of sophisticated and highly-regulated products that are to be delivered Just-in-Time, such as automotive or aerospace products, benefit from reliable, close-to-home suppliers.
In the USMCA manufacturing region, Mexico has a number of competitive advantages to manufacture labor intensive and sophisticated products—namely several decades as part of North America’s complex supply chains, significant trade promotion programs, and a large number of Free Trade Agreements to name a few. Such advantages are reinforced through USMCA’s market access certainty to both the U.S. and Canada.
Although Mexico’s economy faced extreme difficulties due to the COVID-19 pandemic as there was no governmental program to boost its economy, the country’s resilient manufacturing sector already has surpassed pre-pandemic levels. This boost in manufacturing can be partially attributed to nearshoring of manufacturers into Mexico—many in the automotive industry—in order to be closer to the U.S. and Canada markets. This nearshoring trend has triggered the arrival of new foreign direct investment (FDI).
The Mexican Ministry of Economy recently reported that Mexico captured US$35.29 billion in FDI during 2022, up from $31.54 billion in 2021. Manufacturing reigns as the most influential sector in that increase, accounting for 36% of the country’s total FDI, with the U.S. and Canada standing out as Mexico’s two main trading partners. The Ministry of Economy also noted that automotive part manufacturers were among the largest recipients of foreign investment.1
According to 2022 data, the FDI in the automotive manufacturing sector has not yet recovered to pre-pandemic levels. However, there are reasons to be optimistic that this will change in the near future due to the USMCA’s market attractiveness and the natural advantages of manufacturing in Mexico, such as its highly specialized labor force and its geographic proximity to the U.S.
In anticipation of Mexico’s continued growth as a manufacturing hub for U.S. automotive companies, the following are recent updates and trends in Mexico that your company needs to consider when relocating or operating in the country.
Increase of Labor Benefits
The Lopez-Obrador administration has pushed for increasing labor benefits to employees in Mexico, which investors in Mexican manufacturing should take into account when making their budgets and economic projections. The following are the most recent and relevant changes to existing labor rules:
Vacations
Effective January 1, 2023, the Federal Labor Law increased vacation days in Mexico. Before this amendment, employees had a minimum of six (6) working days’ vacation period per year of service. The new rule increases the period to a minimum of twelve (12) working days per year of service, which will grow by two (2) days per year up until the employee is entitled to twenty (20) working days vacations. As from the sixth year of service, the period shall increase by two (2) working days per every five (5) years of service.
Minimum Wage
Beginning January 1, 2023, the minimum wage for Mexican employees increased 20%. Even though most employees receive more than minimum wage as a starting salary, this increase is expected to impact even Mexican companies that pay above minimum wage, as they commonly index salaries to a minimum wage reference. The effect of rising minimum wage on salaries will become clearer when the common yearly salary revision takes place.
Pension Funds
According to a 2020 amendment to the Mexican Social Security Law, companies’ mandatory contributions to one of the components of employees’ pension funds shall progressively increase from the current 3.15% of the employee salary to 11.87%. This increase shall occur progressively from 2023 up until 2030; during 2023, employers’ contribution will range from 3.15% to 4.24%, depending on the employee’s salary.
Mandatory Legitimization of Collective Labor Contracts
May 1, 2023 is the maturity date for all existing collective bargaining agreements across Mexico to be legitimized through the express support of a majority of the workers covered by the relevant agreement (following a carefully staged process). Legitimization efforts have long been underway as per the relevant rules issued May 1, 2019. However, it is expected that 80% to 90% of current collective labor contracts will not meet the legitimization threshold and, consequently, will be automatically terminated.
When such agreements are terminated, individual labor contracts will be automatically created for every worker; said individual contracts will incorporate the terms contained in the then-terminated collective labor contracts that are superior to the minimum standards established by Mexican laws.2 This measure intended for individual workers to continue under the same labor conditions, though no longer under a collective labor contract.
The lack of a collective labor agreement—the long standing status quo in the country—likely will bring restlessness in the workforce. Though workers’ current rights will be preserved by the individual labor contracts, Mexican workers will need to decide whether to enter into a new collective labor agreement sooner rather than later.
USMCA Automotive Panel
On January 11, 2023, the USMCA Automotive Panel released its views on the correct interpretation of the treaty’s Automotive Rules of Origin.
The key issue in dispute is how to calculate the USMCA’s Regional Value Content (RVC) requirement for passenger vehicles, lights trucks, and their inputs classified as “core parts"3 that are made in North America, to qualify for duty-free treatment.
In accordance with the Panel’s findings, once a manufacturer certifies that its North American Made core parts are originating as per USMCA’s relevant Rules of Origin, the motor vehicle producer can “roll-up"4 the core part’s RVC; that is, count 100% of the value of said core parts when calculating the vehicle’s own RVC.5
The Panel’s Final Report cannot be appealed. The USMCA foresees a 45 day period for the three countries to agree on the resolution of the dispute as per the Panel’s findings. Even though no formal resolution has been announced and the 45 day period has passed, Mexico and Canada by now have the ability (and not the obligation) to retaliate by suspending benefits of equivalent effect on U.S. automotive sector exports. As USMCA’s provisions favor a resolution of the dispute over the suspension of benefits, the countries may continue negotiating until a settlement of the dispute is achieved.6
The Panel’s decision provides certainty that the RVC calculations—an interpretation that may also benefit manufactured products other than automobiles—will be evaluated as per the Agreement´s text, and that its dispute settlement procedures are effective and efficient.
Ultimate Beneficiary Owner
As is common in the international tax arena, transparency of ownership plays an important role to prevent tax evasion and other related activities such as money laundering. To that effect, on January 1, 2022, Mexico enacted new rules that require that any legal entity in Mexico, trusts and any party to a legal arrangement, to identify, obtain and maintain as part of their accounting records, accurate, complete and updated information of their ultimate beneficial owner (UBO).7 Upon request, this information shall be provided to Mexican tax authorities.
Under the new rules, Mexican notary publics currently require information about the UBO to complete the incorporation of legal entities.
Investors planning to do business in Mexico, or that already have investments in the country, should carefully review these new rules to be sure that they obtain and maintain the UBO-related information.
Conclusion
Any company now operating or considering operating in Mexico should evaluate the pros and cons of manufacturing in Mexico and be aware of the key developments highlighted in this article. The authors of this article are located in Mexico City. Foley and its Mexico City office have extensive experience assisting clients in developing the best strategy for doing business, while tailoring any nearshoring solution to meet the specific needs of each company.
3 The following are considered as “core parts” in USMCA: engine, transmission, body and chassis, axle, suspension system, steering system and advanced batteries. See Tables A.1 and A.2 of the Automotive Appendix in USMCA´s Chapter 4.
4 As per USMCA´s Panel, Article 4.5.4´s “Roll-up applies when a good that qualifies as originating under the terms of the Agreement is used as an input in the production of a subsequent good. It allows the [motor vehicle] producer to disregard the value of any non-originating inputs used to produce that [core part] good when calculating whether the subsequent good [a motor vehicle] meets its required RVC threshold. Put differently, if a good is produced in a party and that good qualifies as originating, then that good is considered 100 percent originating when used in the production of another good.” See para. 51 of the USMCA Panel´s Final Report, USA-MEX-CDA-2022-31-01 (Text in brackets added).
5 See para. 150 of the USMCA Panel´s Final Report, USA-MEX-CDA-2022-31-01
6 See USMCA´s articles 31.18 and 31.19.
7 According to article 32-B Quáter of the Mexican Federal Tax Code, the UBO is defined as an individual, or group of individuals that:
(a) Directly or indirectly obtain a benefit resulting from their participation in an entity, trust or any other legal arrangement, or when such individual or individuals ultimately exercise the rights of use, enjoyment, of benefit or disposal of an asset or service.
(b) Directly or indirectly (even in a contingent way) has control of an entity, trust or any other legal arrangement.
An individual or group of individuals is deemed to have control, through ownership of equity, or by contract or any other legal act, if they can:
(a) Directly or indirectly impose decisions at shareholders’ or partners’ meetings (or similar), or appoint or remove the majority of the members of the board (or their equivalents)
(b) Maintain ownership of rights that enable them, directly or indirectly, to exercise voting rights with respect of more than 15% of the capital stock or ownership.
(c) Directly or indirectly manage the administration, strategy or main policies of the legal entity, trust or any other legal arrangement.
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