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Mexican Politics Shows Home-Loan Deduction Untouchable

Tuesday, 22 October 2013   (0 Comments)
Posted by: Authors: Jonathan Levin & Ben Bain
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Tax deductions on mortgages are proving to be the third rail of politics, even south of the U.S. border.

Mexican lawmakers from all three major parties rejected a plan sent to Congress last month by President Enrique Pena Nieto that would have taxed mortgage interest and rent payments. Even Pena Nieto’s own party spurned the proposal and supported an alternative bill without the mortgage clause.

The decision to scrap the tax takes pressure off the real-estate industry, which already is smarting from the collapse of low-income developers and an economic contraction. Home loans declined 12 percent in the first seven months of the year to 288,100, according to Banco Bilbao Vizcaya Argentaria SA, and the Mexico Habita index of four builder stocks has lost 80 percent of its value.

"It’s positive for the sector,” Javier Gayol, a housing analyst at brokerage Corporativo GBM SAB, said in a telephone interview from Mexico City. "It was a tax that was going to hurt already weak demand. It could have been a major blow.”

Mexico’s lower house on Oct. 17 approved changes to a bill to raise taxes, backing away from efforts on mortgage interest and the value-added levy on rents, and including new proposals such as a junk food tax to help make up the revenue shortfall.

The overhaul serves as companion legislation to an energy proposal also presented to Congress this year, which aims to boost production in the oil industry by opening it up to increased private-sector participation. To make the industry more competitive, the government says it needs to cut the burden on state producer Petroleos Mexicanos, which has an effective tax rate of more than 99 percent, the highest among the world’s large oil producers.

Pemex Contribution

Pemex, as the company is known, funds about a third of the federal budget and is headed for its ninth straight year of declining production.

The initial bill would have levied a 16 percent value-added tax on mortgages, according to a draft proposal posted on the Finance Ministry’s website. The draft said that "the wealthiest households” get most of the benefits from the mortgage exemptions.

In the U.S., interest on mortgages secured by a taxpayer’s home or vacation property is deductible. Prior to Congress’s revisions to the tax code in 1986, interest on all forms of personal debt, including credit cards, was deductible. President Ronald Reagan among others argued for retaining the mortgage deduction to help boost homeownership, and it has been untouched since then. Costing at least $70 billion a year, the mortgage interest deduction is one of the largest federal tax expenditures, according to the Center on Budget and Policy Priorities in Washington.

Modified Bill

Mexico’s lower house voted 317-164 on Oct. 17 to approve a modified version of Pena Nieto’s bill that increased the top income tax rate to 35 percent from a proposed 32 percent and created a 5 percent levy on high-fat foods. The bill, which stripped out the initial plan to tax private education tuition, mortgage interest and home rental payments, now heads to the Senate.

The maximum income tax rate would increase to 35 percent for people making more than 3 million pesos ($235,000) from 30 percent. Pena Nieto had proposed increasing the top rate to 32 percent for more than 500,000 pesos in income. The current level is 30 percent.

Mexican politicians were willing to back off the real estate tax proposals because of concern that they would damp economic growth, according to Eduardo Torres, an economist with the local unit of Banco Bilbao Vizcaya Argentaria SA. (BBVA) Torres said the government sees the housing industry as an engine for economic recovery.

Growth Projections

Analysts have slashed projections for growth in Latin America’s second-biggest economy as exports stalled and construction slowed amid a drop in government spending and financial woes for the country’s largest homebuilders.

Mexico Finance Minister Videgaray has cut in half his 2013 growth forecast to 1.7 percent from 3.5 percent as exports slowed this year. It would be the slowest growth since 2009 when the U.S. mortgage crisis helped fuel a Mexican economic contraction of 6.2 percent.

Videgaray said in an interview with Radio Formula on Oct. 18 that one of the reasons that Mexico has expanded less than forecast this year was because of a downturn in construction fueled by the financial woes of the nation’s biggest homebuilders focused on lower-income housing.

Rafael Camarena, an economist at Grupo Financiero Santander Mexico SAB, says that while the housing industry’s problems are more complicated than taxes, "it’s a positive result” that politicians decided to back off the push to place additional levies that would affect the industry.

Housing Subsidies

Federal government housing subsidies and mortgages from state-backed lenders fueled sprawling low-income communities in the past decade. As the cost of traveling to work mounted, many residents started abandoning the outlying villages, prompting policy makers to redraw the housing strategy that had fueled builder profits, leaving many builders with remote land reserves worth far less than prices at which they had originally been booked.

"It’s a piece of good news that there won’t be taxes,” Camarena said by phone from Mexico City. "In general, we see the performance of the sector as being very poor.”

The industry’s cash crunch has caused the biggest builders -- Corp. Geo SAB, Urbi Desarrollos Urbanos SAB and Desarrolladora Homex SAB (HOMEX*) -- to default on dollar bond payments this year. Geo and Urbi were also suspended from the Mexican stock exchange after failing to report second quarter earnings, while Homex said land writedowns helped fuel a record loss of 10.2 billion pesos last quarter.

'Bad Use'

Videgaray said in the radio interview last week that it would be "a bad use” of Mexican taxpayer dollars to bail out the three struggling homebuilders and that there were smaller homebuilders without similar financial problems that the government has decided to help. He said the government is allocating resources so the sector is "vigorous and healthy.”

Mexican creditors have loaned 6.8 percent less this year for a total of 125.8 billion pesos of new mortgages in the first seven months of 2013, with government-backed housing agencies accounting for most of the drop, according to BBVA. While commercial bank lending rose in the period, it’s still just 40 percent of government-dominated market.

'Significant Slowdown'

"The economy has gone into a very significant slowdown and the reform in some ways without a doubt doesn’t generate incentives for growth,” Torres said in a telephone interview from Mexico City. "This is the case with what was proposed for housing and I think it was the right move that they eliminated it.”

Sare Holding SAB, which develops homes from the capital to $1 million beachfront condos in Acapulco, has fallen 10 percent since the bill was announced. Consorcio Ara SAB, which sells 2 million-peso homes in addition to its government-subsidized housing business, has fallen 2 percent. Mexico’s IRT Small Capitalization index, of which both companies are a part, rose 1.1 percent in the period.

Carlos Hermosillo, a housing analyst with Grupo Financiero Banorte SAB, said the bill doesn’t alleviate pressure on the housing industry.

'Purchasing Power'

The new bill is "better in the sense that there isn’t a direct effect,” he said in a telephone interview. "But there is an effect in terms of the purchasing power of the population broadly.”

Construction contracted 5.1 percent in August from a year earlier, according to the most recent data from the national statistics agency.

"People weren’t prepared to put the brakes on the housing sector,” GBM’s Gayol said. It would have been a difficult "‘moment to hit the sector, to tax it, above all with the data that we’ve seen in construction.”

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