Increase to employers’ contributions, reduction of contribution weeks for the guaranteed pension and limitation to the management fees of pension fund managers.

On July 22, 2020, the Executive Branch announced the initiative proposal of amendment to the Social Security Law (“SSL”) and to the Retirement Savings Systems Law (“RSSL”), which, as informed, was discussed and agreed with the Business Coordinating Council and the Employees Confederation of Mexico (CTM).

In September 2020, the initiative was filed before the Legislative Chamber, and once the draft was discussed, the Congress approved the initiative for its enactment, which decree was published in the Official Gazette of the Federation on December 16 of this 2020.

This amendment’s purpose is to: (i) increase the contribution to the savings for the retirement of the employees for concept of old-age severance, being the employer who will assume such increase; (ii) modify the social fee granted by the Federal Government; (iii) reduce from 1,250 to 1,000 contribution weeks for the obtention of a guaranteed pension; (iv) modify the amount of the guaranteed pension; and (v) limit the management fees of the Pension Fund Managers(“AFORES” for its initials in Spanish).”).

(i) Increase to the Employers’ Contribution

Before this amendment, employers were obliged to contribute (i) for concept of retirement, the equivalent amount to 2% of the base salary of contribution of the employee, and (ii) for concept of old-age severance, 3.150% of the base salary of contribution.

As of the date in which the amendment will enter into force, the employers will temporarily continue to contribute for concept of retirement 2% of the base salary of contribution of the employee and shall increase the contributions for concept of old-age severance, from 3.150% to 11.875%.

The percentage of this contribution will depend on each employee’s income, from 3.150% of base salary of contribution for the employees with an income of 1 Minimum Wage(for its initials in Spanish, “SM”)until 11.875% of the base salary of contribution for employees with income of 4.01 Updating Measurement Units(for its initials in Spanish, “UMAs”)and forward, as described below:

The increase to the employer’s contribution will not be directly effective as of the date the amendment enters into force. In the transitional articles thereof is foreseen a progressive application in time, gradually as of January 1, 2023 until year 2030, in accordance with the following table:

(ii) Government Contributions and Social Fees

In accordance with the approved amendment, the Government contribution of 7.143% of the total of the employers’ contributions for concept of old-age severance is eliminated and the way to calculate the amount of the social fee in charge of the Federal Government is modified.

Previously, the Federal Government granted on a monthly basis, to such employees that earn until fifteen time the minimum wage in force in Mexico City, a social fee for an initial amount equivalent to 5.5% of the minimum general wage of Mexico City, for each day of contribution wage of the employee.

As of January 1, 2023, the amount of employees with access to such fee is reduced, and the way to calculate such amount is modified. In the new legal framework, the Federal Government will monthly contribute, to the employees that have income until four UMAs, a social fee from $10.75 Mex.Cy. for the employees with a base salary of contribution of 1 Minimum Wage and until $6.25 Mex.Cy. for such employees with a base salary of contribution of 3.51 to 4 UMAs. These amounts will be modified quarterly in accordance with the National Consumer Price Index(for its initials in Spanish, “INPC”).”).

The provisions related to the social fee hereinbefore described will enter into force as of January 1, 2023. Notwithstanding the foregoing, from January 1 to December 31, 2023, the Federal Government for concept of old-age severance, will monthly contribute an amount for each day of salary of contribution, as social fee for the employees that have income from 4.01 to 7.09 UMAs, in accordance with the following table:

(iii) Guaranteed Pensions

Regarding the guaranteed pensions, the provisions are modified with the principal purpose to allow a greater number of employees to have access to such pensions, in view that the contribution weeks are reduced from 1,250 to 1,000 to be entitled to receive such pension. Furthermore, the amount of the guaranteed pension is modified and will be calculated based on: (i) age, (ii) average of the base salary of contribution during the affiliation of the employee in the Mexican Institute of Social Security(for its initials in Spanish, “IMSS”), and (iii) the contribution weeks of the employee. Such guaranteed pension will be from $2,622 Mex.Cy. until $8,241 Mex.Cy., amounts that will be updated annually on February in accordance with the INPC. The calculation will be carried out based on the following table:

As of the date in which the reform will enter into force, 750 contribution weeks will be the minimum to be entitled to obtain the guaranteed pensions, and 25 weeks will be annually increased until achieving those set forth in the amendment, in accordance with the following table:

(iv) Limitation to Management Fees of the AFORES

In addition to the foregoing, the AFORES management fees are limited based on the international standards of the United States of America, Columbia and Chile, and in accordance with the policies and criteria to be issued by the Government Board of the National Commission of the Savings Fund for Retirement in such regard. This Commission will have a term of 30 business days as of this amendment, to modify the general provisions in order to comply with this new provision.

(v) Relevant Provisions and Conclusion

Finally, pursuant to the new legal framework, authority is granted to the IMSS to dispose of the resources contributed as of 10 years as of its enforceability, without judicial resolution needed, provided that constitutes a sufficient reserve to attend refund applications to employees, pensioners or beneficiaries. We consider that this authority granted to the IMSS breaches rights, having considered that the pension rights are imprescriptible.

The modification to the financial regime of old-age severance impose additional economic burdens to the employers, that we estimate shall be absorbed and assumed as part of the compensation load that from time to time will be negotiated with the employees and/or unions. Doubtlessly, this represents an improvement to the retirement system in attention to the demographic curves of the economically active population, considering that the positive curve finalizes in 2030 and, therefore, after such breaking point, the possibility to fund the pensioners by the active employees will no longer be viable.

Hiring third parties to engage individuals is a common practice in Mexico. Since President Andrés Manuel López Obrador took over office in December 2018 it was expected a labor reform limiting the alternatives to outsource personnel. From October 2019 on, Congress has received 9 initiatives to reformsubcontracting.”.

Subcontracting is nowadays enforceable pursuant to the Federal Labor Law. It implies the ability of the contractor to engage another employer which in turn assigns its employees to render services for the contractor, who has the ability to control and direct the services provided.

This alternative is controversial, as it may deprive employees from receiving profit share amounts and similar benefits to those benefits received by employees directly hired. The current government has continuously challenged this contractual alternative. The President presented an initiative to reform subcontracting, or more precisely, to eliminate the alternative to subcontract, leaving with very small room the companies to outsource services. It is basically forcing the companies to hire directly all the employees involved in their core business.

We believe this is a critical initiative, which may harm substantially the economics of the country. While the President holds reasonable control of the Chamber of Representatives, he has not the same level of influence at the Senate. We expect to see in the near future (weeks) substantial discussions with respect this and the other initiatives. For the most important features of the initiative, please read our previous bulletin..

The day after the Initiative was filed, the President announced that the proposed amendment would be subject of analysis and negotiation with the economic actors –namely representatives of the workers–, and entrepreneurial chambers and associations. After several days of discussions, including the formal invitation of the National Commission for the Profit Share Distribution to review the terms of the current distribution formulae of the profits accrued by the companies and paid to the employees, the Government announced this morning that the discussions of the potential reform of the laws involved in the Initiative would be carried out next February, when the ordinary legislative term resumes.

Basically, the rationale behind the delay is described in the agreement signed by the Government (including the President), as well as representatives of the workers and the companies. The document defines four basic principles:

1. The parties are committed to eliminate the abuses in connection to outsourcing.
2. The profit share system requires a review and eventually a modification.
3. The proposed Initiative implies major changes and challenges and therefore the parties thereof respectfully request the Legislative Branch to postpone its review.
4. The parties jointly request those companies incurring in malpractice to cease and formalize their employment contracts.

This delay implies that the initiative originally filed, and which expressly prohibited subcontracting, will likely change as a result of the discussions. It is also possible that a new determination of the formulae to share profits in a fiscal year arises.

In the meantime, under the current legal system, subcontracting is enforceable. We suggest also exploring the possibility of executing business to business contracts, in which the subcontractor renders services with its own means, without control of the contractor, under certain business standards as agreed upon.

On November 12th, 2020, the Executive Branch proposed to the Legislative Chamber an amendment initiative to the Federal Labor Law (“FLL”), the Social Security Law, the Institute of the National Fund for Workers’ Housing Law (“INFONAVIT Law”), the Federal Tax Code, the Income Tax Law and the Added Value Tax Law, with regard to subcontracting and more generally, outsourcing. This amendment initiative pretends to prevent companies from subcontracting services inherent to their corporate purpose, by engaging third party services providers for the allocation of personnel and, only if applicable, enter into specialized service agreements. The aim is for companies to directly hire the personnel involved in the exploitation and production of the goods and services they offer to their respective markets.

The initiative, in line with the initiative submitted on October 2019 by senator Napoleón Gómez Urrutia, is aimed to be justified under the argument that the transfer of employees in the subcontracting scheme (i) harms and impedes employees from accessing adequate levels of welfare, (ii) promotes the omission of payment of profit sharing, (iii) allows for employers to hire personnel under inferior conditions and breach employers’ labor tax and social security obligations regarding the outsourced employees, (iv) promotes the simulation of operations, through the issuance of invoices with virtual operations, thus affecting the tax administration, and (v) affects the right to “organize and collective bargaining”.

Nevertheless, the scope of this initiative submitted to the Joint Commissions of Work and Social Welfare, and the Finance and Public Credit for the opinion of Social Security and Housing is significantly more ambitious. Even when in the explanatory statements the Executive justifies the necessity to prohibit subcontracting schemes, the proposed amendments leave a minimum margin to subcontract services.

Indeed, the amendment initiative pretends to eliminate the possibility to subcontract services under the scheme of independent services, in which one company with its own resources renders services to another company, under an independent scheme, without administration or control of the beneficiary, pursuant to certain standards of service.

The initiative expressly prohibits subcontracting and derogates articles 15-A. to 15-D.- of the FLL. In the proposed legal framework, subcontracting is defined as the scheme in which a person or legal entity allocates its employees for the benefit of another party.

Furthermore, it stipulates specific regulations for the engagement of services with third parties, under a regime that is exception to the rule.

The provision of services under the regime of “specialized services agreement or for the execution of specialized works” will not be considered as subcontracting and will only be enforceable provided that (i) the services hired are specialized and will not constitute part of the corporate purpose or the economic activity of the beneficiary; (ii) the contractor has the authorization of the Ministry of Work and Social Welfare (for its initials in Spanish, “STPS”) as provider of specialized services (this authorization is obtained and endorsed after three years, and the provider needs be up to date in its labor, tax and social security obligations); and (iii) the services need to be hired in writing, describing the services to be provided and the number of employees involved.

In order to avoid the simulation of employers’ substitutions, the amendment pretends to establish as requirement for validity the transfer of goods between the former (substituted) and the new (substitute) employer. From our point of view, this clarification is adequate, since it includes several criteria issued by the Federal Department of Justice, in addition to the fact that, in the past, various employer substitutions were implemented without complying with the necessary legal requirements for them to be valid.

Pursuant to LFT if amended in terms of the initiative, if the contractor does not comply with the employer obligations, the beneficiary of the services would be jointly responsible for them. Furthermore, in case of blocking a work inspection, employers will be required by means of a notice to submit certain documents and, in case of non-compliance, it will be deemed that they did not have the required information, this being subject to a fine between 250 and 5000 times the Actualization Measure Unit (“UMA” by its acronym in Spanish). It should be noted that the potential sanction is up between 2,000 and 50,000 times the UMA for those that subcontract personnel.

Similarly, the initiative amends the Social Security Law and the INFONAVIT Law to implement the regime of “specialized services agreement or for the execution of specialized works”. The amendment establishes (i) jointly liabilities for the services beneficiary; and (ii) a general obligation to register and inform the agreements executed under such regime.

In order to deter third party subcontracting services, the initiative also proposes amendments to the Federal Tax Code, the Income Tax Law and the Added Value Tax Law. The stated amendments condition the deductibility and accreditation of the expenses of the company when (i) it is regarding subcontracting agreements; (ii) the employees assigned to the beneficiary by the contractor were employees of the beneficiary and were transferred to the provider of services; and (iii) the assigned employees cover all of the predominant activities of the contracting party.

In order to have the possibility to deduct and credit the expenses and VAT inherent to the subcontracting of services, it will be necessary that the contracting party obtains from the contractor (i) copy of the issued authorization of the STPS, (ii) tax receipts of the salaries of the assigned personnel; (iii) statement of the withheld taxes and payments of employer-worker fees; and (iv) receipt of the payment of the corresponding relocated VAT.

We place special emphasis on this initiative submitted by the Executive because it reflects the objectives originally set out in its labor policy, but there are eight (8) other proposed amendment, which have been submitted since October 2018 to the date and should be analyzed in the same way.

In our opinion, this initiative will be subject to great discussion particularly in the Senate of the Republic, where the Executive has less room for maneuver and political control.