Tuesday, March 12, 2013

The great IVA debate

Mexico's value added tax known as the IVA (Impuesto al Valor Agregado) is set to be a heated topic in the news.  Federal congress will soon start discussions on whether to charge the IVA on food and medicine. 

Value added tax generates tremendous revenue.  France, the first country to put it into effect, generates close to 50% of the national government's tax income with its value added tax. Mexico, where it generates a little over 40%, is not far behind. This type of tax is used by the great majority of nations instead of sales taxes.  The big exception is the United States.

One of the IVA's closely guarded secrets, and the basis of its success, is that it converts every vendor in the formal, above-board economy into a tax inspector. 

IVA is collected in Mexico on the sale of all goods and services.  Most items are taxed 16%.  Even the government collects IVA on its sales.  We pay it on postage stamps, highway tolls, and on gasoline sold by Pemex.  

Some goods are taxed 0% (yes, zero) -- such as non-processed food, medicine, and books.  Therein lies the upcoming debate.  If medicine and food are taxed it will not be a new tax, it will be an increase in the rate, from 0% to something else -- maybe only 3%.  

The IVA rate is 5% lower in border areas -- you might consider purchasing a new car in Chetumal and enjoy touring Mayaland on your way back to central Mexico courtesy of the tax differential.

The fascinating nature of this tax is that only the final consumer pays IVA on the purchased item.  All the other participants in manufacturing and selling of the item are refunded the IVA tax they paid. When they resell an item, the middlemen are refunded the full amount of IVA they paid out when they purchased it -- by only turning over to the national treasury the difference between what they collected when they sold it to their customers and the IVA they had originally paid out when they purchased material.  This is where they become volunteer tax inspectors.  Strict rules govern the bills of sale known as "facturas" guaranteeing that both seller and purchaser are registered taxpayers.  Only valid facturas may be used to document IVA refunds.

Suppose we sell widgets in Mexico.  If we buy them from our supplier for $116 pesos that means that the widgets cost $100 plus $16 pesos in IVA.  If sell them for $232 pesos our factura would show $200 for the widget and $32 for IVA.  Of that $32 we would keep the $16 we paid to our supplier and only deliver the remaining $16 to the national treasury.

The final consumer, who in many cases is not a registered taxpayer, ends up paying the full IVA. 

If a customer does not supply the vendor with appropriate taxpayer registration information the vendor is not required to issue a factura which could be used for a IVA refund.  In that case customers may receive a cash register receipt, or a receipt that does not contain the taxpayer identification of the seller or the buyer.  Nevertheless, whether or not a factura is issued, the vendor is required by law to collect the IVA on all sales. 

When we purchase an item off-the-shelf in Mexico we pay the posted price.  Quite unlike purchasing something in U.S. states with sales taxes where each time we step up to pay for an item we pay 5 to 10% more than the posted price due to local sales taxes.  That's always an irritant to the customer.  Imagine the irritation if the tax added by the cashier were 16%!

Though the IVA is a very successful generator of government revenue, it is criticized as a regressive tax since it is paid at the same rate by wealthy as well as poor.  Even those who live in poverty and are exempt from income tax pay 16% on most items they purchase in the formal economy.  

Formal and informal economy are a set of terms used frequently in Mexico.  Informal economy is "off the books".  Street vendors are a good example.  It also refers to those stores in which we are told, "if you want a factura, I will charge you the IVA."  When I'm told that, what I hear the vendor saying is "I'm a tax evader." 

I recall purchasing corn on the cob from a street stand in Italy and being given a printout of the sale from a printer attached to the vendor's belt.  I told him "I don't need it."  He insisted, saying "I could be reported for tax evasion if you don't take it."    

I'm not foolhardy enough to envision fiscally valid facturas being issued in public markets, but I do wonder how much revenue could be generated if there were a tax office to which we could report shops that want to add the IVA to the posted price, in order to issue us a factura? 

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