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UPDATE 3-Mexican Congress passes watered-down tax reform

Miguel Gutierrez, Michael O'Boyle and Dave Graham
Thursday, 31 Oct 2013 | 9:52 PM ET

MEXICO CITY, Oct 31 (Reuters) - Mexico's Congress on Thursday passed a package of measures aimed at bolstering the country's weak tax revenues, but only after watering down a plan that is expected to have a moderate impact at best.

The bill, which includes higher taxes on the rich as well as levies on junk food and stock market gains, is a central plank of an economic program spanning energy to telecoms that aims to ramp up growth in Latin America's No. 2 economy.

Facing a Thursday deadline, the ruling Institutional Revolutionary Party (PRI) pushed the package through with the help of leftist lawmakers, making final tweaks in the Senate to pare back a planned income tax increase.

The lower house then gave final approval to the bill that President Enrique Pena Nieto is now expected to sign into law.

Mexico has the lowest tax revenue in the 34-nation Organisation for Economic Co-operation and Development (OECD), restricting its ability to spend on health, infrastructure and social programs needed to boost living standards and growth.

Before the bill was presented last month, senior PRI officials said it would seek to raise the tax take by 4 percent of gross domestic product. Yet even before the Senate changed the bill, the government was admitting it was likely to bring in added revenues of barely 2.7 percent of GDP by 2018.

"The (reform) was reduced to a simple tax code focused on more, bigger taxes for those who have always paid," said Alfredo Coutino, Latin America director for Moody's Analytics.

The government stepped back from bolder reform after the economy suffered a shock contraction in the second quarter, and sidestepped the unpopular option of levying sales tax on food and medicine, which could have substantially improved revenues.

Lawmakers in the conservative National Action Party (PAN) condemned the bill as a menace to Mexico's stumbling economy and this week walked out of the Senate in protest when their attempts to change the plan were ignored by the PRI.

The political spats over the tax plan has heightened tensions between the parties just as the government seeks to push major reforms of the oil industry and the telecoms market.

The PRI lacks a majority in Congress and is banking on PAN help to pass the energy reform, which aims to lure investment to the state-controlled sector and reverse sliding oil output.

The leftist Party of the Democratic Revolution (PRD), which gave the PRI enough votes to pass the fiscal reform, opposes breaking the grip of state oil monopoly Pemex on the industry.

TOP RATES

This month the PRI, supported by the PRD, modified the fiscal reform to lift top income tax rates, placing more of the burden onto the wealthiest in Mexico, who include telecoms mogul Carlos Slim. Slim began 2013 as the world's richest man.

The top income tax rate stands at 30 percent. The reform sets out a sliding scale of higher rates capped at 35 percent for those earning more than 3 million pesos ($233,000) a year.

On Thursday PRD and PRI lawmakers rolled back a plan to apply a 31 percent income tax rate on people earning between 500,000 pesos and 750,000 pesos. They will now stay at 30 percent and a 32 percent rate kicks in above 750,000 pesos.

Lawmakers also increased the percentage of workers' benefits that companies can deduct from their total tax bill. Separately, the Senate voted to raise a levy on high-calorie foods including chocolate from 5 percent to 8 percent.

The bill had already been scaled back this month when the lower house threw out plans to apply sales tax to rents, mortgages, property transactions and school fees.

Tweaks to the tax bill in the lower house in mid-October also created a shortfall in the budget plan for next year.

Lawmakers then raised the government's oil revenue estimate and made other changes to close the gap. The tax bill is tied to the budget, which must be approved by mid-November.

PRI lawmakers concede in private that the reform leaves Mexico with plenty of work to do if it wants to generate more public funds to help tackle chronic social problems. Nearly half of Mexico's population live in poverty.

Mexico's total tax take, a big chunk of which comes from Pemex, was less than 19 percent of GDP in 2010, compared with nearly 26 percent for Turkey, around 31 percent in Greece and 36 percent in Germany, OECD data shows.

OIL REFORM

The PAN pulled out of the Senate debate on proposed amendments to the fiscal bill on Wednesday after accusing the PRI of not taking its concerns seriously.

The party was upset when it failed to stop the standard rate of value-added tax of 16 percent from being extended to states on the U.S. border, which now pay an 11 percent rate.

All eyes will now be on the president's efforts to reform the oil industry, which aims to bring in fresh private capital from oil majors with profit-sharing contracts.

The PAN argues Pena Nieto's model does not go far enough to attract investment, and lawmakers in the party have pledged to pressure the PRI into providing greater incentives to oil companies, such as production-sharing contracts.

That could put the president under attack from leftists who accuse the government of wanting to sell out Mexico's oil wealth to foreigners, and could spark large protests.

The government hopes the energy reform will spur major investment and boost economic growth. Analysts say that could help the country's international credit rating.

Mexico is just one rung short of A territory on the scales of two ratings agencies, Fitch and Moody's. Among the major Latin American economies, only Chile is rated in the A category. Standard & Poor's has Mexico two notches below A.