Comparing Mexico and Malaysia as Investment Destinations for US Businesses

• Mexico and Malaysia are good investment destinations for US businesses, particularly those with a China footprint seeking to diversify their supply chains.
• Supply chains between the US and Mexico have become highly integrated, and production sharing is now commonplace. 80 percent of Mexico’s exports go to the US, boosted by an updated free trade agreement in 2020.
• Malaysia offers US businesses access to the ASEAN market, one of the fastest-growing regions in the world, and comprises over 600 million consumers.

Four years and a new president later, the trade war between the United States and China continues as tariffs on Chinese products remain, causing stress to global supply chains. The pandemic has added to the stress, and several US businesses with a China footprint have accelerated diversification plans by either offshoring part of their operations into other countries, either in Southeast Asia, such as Malaysia, Vietnam, and Thailand, or closer home to Mexico.

Exports of Mexican manufactured goods increased steadily since the US-China trade war began, growing from US$278 billion in 2018 to US$320 billion in 2019. Mexico is already among the US’ top three trading partners behind China and Canada, with over US$600 billion in annual two-way goods and services trade.

Meanwhile, Malaysia’s electronics industry saw a surge in investments from 2019 to 2020 as companies operating in China look to escape tariffs and take advantage of Malaysia’s long-established electronics sector. The state of Penang saw 12 billion ringgit (US$2.1 billion) of investments in the first 10 months in 2019, an increase of some 453 percent from the previous year.

Both Mexico and Malaysia have proven to be good investment destinations for US businesses albeit for different industries and depending on the business strategy.

With over 17 million Mexican travelers visiting the US annually, Mexican producers have direct familiarity with American brands and with supply chains between the two countries becoming increasingly integrated, production sharing is now commonplace. Further, the country’s geographic location allows it to act as a natural bridge for goods and services between North and South America.

The Malaysian market, however, provides US businesses with access to the overall ASEAN market, which comprises over 600 million consumers and is projected to be the world’s fourth-largest economy by 2030.

In this article, we explore key factors that influence US investors seeking to diversify their supply chains in either the Mexican or Malaysian markets.

Economic stability and openness to foreign investment

Mexico

Mexico began liberalizing business sectors in the mid-1980s when rising interest rates and petroleum prices highlighted the vulnerability of the economy. The reforms sought to position the private sector as the axis of growth, and included opening Mexico’s domestic market, attracting foreign investments, signing the North American Free Trade Agreement (NAFTA) in 1994, privatizing public enterprises, and liberalizing the financial markets. Mexico’s GDP is now worth some US$1.1 trillion, and it is a G20 member.

More than 90 percent of the country’s trade is covered under free trade agreements (FTA). Among the most influential of these is the United States-Mexico-Canada Agreement (USMCA), which came into effect in 2020, since the majority of Mexican exports are meant for the North American market. The USMCA replaced NAFTA.

The US was one of Mexico’s largest sources of foreign direct investment (FDI) in 2019. Overall, the country’s preferential access to the US market, cheap labor force, and large domestic market continue to attract US investments.

Investment restrictions

The following activities can only be carried out by the Mexican government:

• Nuclear power generation;
• Currency issue;
• Exploration in hydrocarbons;
• Planning and control of the national electricity system;
• Supervision and surveillance of ports and airports; and
• Radioactive materials.

In addition, the following activities are reserved for Mexican companies and Mexicans:

• Domestic tourist and freight transport on land;
• Development banking; and
• Rendering of professional services.

Under the Foreign Investment Law, the Foreign Investment Commission must authorize the following activities:

• Foreign investors holding more than 49 percent of the shares in:
  • Port services (towing, mooring, barging);
  • Shipping companies engaged in high-seas shipping;
  • Legal services;
  • Construction and operation of railways; and
• Foreign investors that directly or indirectly hold more than 49 percent of the corporate capital of a Mexican company whose aggregate assets value at MXN20 million (US$1 million).

Malaysia

Malaysia has traditionally encouraged FDI, particularly as the government views foreign investments as integral to the country’s economic development. This has resulted in an influx of FDI that has boosted the country’s export-oriented growth strategy.

As a country highly dependent on trade, Malaysia has actively sought to attract investments that are redirected from China. The China Special Channel initiative was established in 2020 to attract such investments.

The largest US investments are in Malaysia’s oil and gas sector, manufacturing, and financial services.

Investment restrictions

Foreign investors can generally hold 100 percent equity in all investments in most new projects, although for every industry there are sector-specific regulations that are regulated by the authorities supervising these sectors. Foreign investment participation in Malaysia is typically in the form of equity ownership or board representation restrictions. The local participation requirements include:

• A restriction on foreign equity ownership by mandating a minimum or majority equity ownership to be held by a Malaysian or Bumiputera (the indigenous Malay ethnic group); and
• The requirement for a Malaysian or Bumiputera to be appointed as a director.

Political and security issues

Mexico

Organized crime continues to be the biggest threat to Mexico’s security as virtually the entire US drug market is supplied by Mexico. Drug cartels exert an influence on the political landscape, security forces, as well as the private sector.

To counter this, the Leftist politician Andrés Manuel López Obrador was popularly elected in 2018 as President of Mexico. However, his government has struggled to convert its campaign rhetoric to reduce corruption, mitigate violent crimes, and tackle entrenched inequality.

Moreover, despite the pandemic, Mexico’s nationwide murder rate remained high at 29 per 100,000 inhabitants, several times higher compared to the US average of 5.8 per 100,000 and Malaysia’s 2.13 per 100,000 people.

Further, corruption is widespread in Mexico and is present at the federal and sub-national levels with the mining, healthcare, and energy sectors being the most vulnerable to corruption. According to Transparency International, Mexico ranks 124/179 in the corruption perception index.

Malaysia

Malaysia has been undergoing a political crisis since 2018 due to the fallout from the 1Malaysia Development scandal in which then-Prime Minister Najib Razak was found guilty of taking over US$700 million from 1Malaysia Development Berhad (1MDB), a government-owned development company aimed at developing strategic initiatives for long-term economic development. He was sentenced to 12 years in prison.

As a result, the Barisan Nasional (BN) coalition, which was in power since its establishment in 1963 lost the 2018 elections. The new coalition Pakatan Harapan (PH), consisting of four political parties – Parti Keadilan Rakyat (PKR), Parti Pribumi Bersatu Malaysia (BERSATU), Parti Amanah Negara (AMANAH), and Democratic Action Party (DAP), appointed former Prime Minister Mahathir Mohamad as PM.

However, PH was only to govern for two years when in February 2020, BERSATU announced its withdrawal from the coalition, leading PH to lose its majority in parliament.

Fearmongering about how the PH and the DAP were threatening Malay privileges emerged, particularly since the DAP is Chinese-Malaysian dominated. Further, BERSATU disliked the idea of PKR President Anwar Ibrahim succeeding Mahathir as Prime Minister.

Mahathir resigned in protest of BERSATU withdrawing from the coalition and Muhyiddin Yassin, President of BERSATU was appointed Prime Minister after forming a new coalition called Perikatan Nasional. Muhyiddin Yassin’s tenure lasted less than 18 months mainly due to his government’s poor handling of the pandemic and the impending economic crisis, resulting in his coalition losing its majority in parliament. After weeks of mounting pressure, the Prime Minister tendered his resignation and Ismail Sabri Yaakob, Vice President of the United Malays National Organization (UMNO) was appointed the new PM. UMNO is a founding member of BN and all Malaysian Prime Ministers had originated from the party.

Despite all this political wrangling, Malaysia’s crime index showed a downward trend in 2020, with violent crime decreasing by 19.5 percent to 13,279 cases, while property crime decreased by 21 percent to 52,344 cases.

The country has also relatively low corruption compared to the rest of East Asia, ranking at 57/179 according to Transparency International. The main sector that is prone to corruption is public procurement as many Malaysian companies are often favored over foreign companies during public tenders, particularly those local companies with political connections.

Free trade agreements

Mexico

Mexico’s free trade agreements power its economy. The country has 13 FTAs with over 50 countries, including the USMCA, and FTAs with the European Union and European Free Trade Area. It is also a member of the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP). This means Mexico has trade-friendly access to over 60 percent of the world’s GDP.

USMCA

The United States-Mexico-Canada Agreement is by far the most influential since around 80 percent of Mexico’s total exports go to the US or over US$300 billion worth annually, and around 5.4 percent go to Canada, valued at over US$22 billion.

Under the USMCA, the distribution of digital products is now free of tariffs, and businesses will need to take measures to ensure workers’ rights to collective bargaining. By 2023, 40 to 45 percent of automobile parts must be made by workers earning at least US$16 per hour.

Automotive manufacturers must now source up to 75 percent of their components from Mexico, Canada, or the US, to be exempt from tariffs. This is an increase from the previous 62.5 percent under NAFTA.

Further, the USMCA outlines better protection for small and medium-sized businesses. An information-sharing tool for such businesses that ease cross-border logistics will be established.

Malaysia

FTAs have also helped Malaysia’s economy become increasingly competitive, particularly since it has a small domestic market.

Malaysia has signed some 16 FTAs with countries like Australia, Chile, India, Pakistan, Japan, and Turkey, as well as the ASEAN Free Trade Area and China. Like Mexico, Malaysia is also a signatory to the CPTPP. Further, the country is also a member of the Regional Comprehensive Economic Partnership (RCEP), which covers some 30 percent of global GDP and encompasses over one-third of the global population.

Tax

Mexico

Most US investors choose a limited liability corporation as it qualifies for the US check-the-box regulations, which permit US investors to incorporate business entities in foreign countries.

Mexican legal entities are required to pay income tax on their worldwide income and corporation tax is the same for all entities, regardless of their structure. The current corporate tax rate is 30 percent, and the value-added tax rate is 16 percent.

A business entity is subject to tax if it is a:

• Mexican tax resident;
• A foreign resident with a permanent establishment in Mexico; and
• A foreign resident with a Mexican sourced income.

Non-tax resident companies are subject to a 30 percent income tax rate on their net income if they have a permanent establishment in Mexico. If the non-tax resident company does not have a permanent establishment in the country, income derived from Mexican sources is taxed up to 30 percent, depending on the income.

The personal income tax (PIT) rate for resident individuals varies from 1.92 percent to 35 percent.

Withholding tax (WHT) on resident individuals is 10 percent and there is no WHT for resident companies. There is a 20 percent rate on interest for resident companies. There is no WHT on royalties for resident companies, but a 10 percent rate applies to resident individuals.

Malaysia

Corporate tax is imposed on resident and non-resident companies on income incurred in Malaysia. Both are taxed at 24 percent. However, a resident company with paid-up capital of 2.5 million ringgit (US$590,000) and gross income of less than 50 million ringgit (US$11.8 million) is taxed at a 17 percent rate on the first 600,000 ringgit (US$143,800).

Foreign-sourced income is exempted from tax.

As of 2022, Malaysia introduced the prosperity tax, whereby companies with a chargeable income of more than 100 million ringgit (US$24 million) must pay an additional nine percent in CIT.

Malaysia replaced its goods and services tax with the sales and services tax in 2018. Sales tax is 10 percent, and the service tax is six percent. Businesses that are subject to the service tax rate include hotels, advertising, electricity, accounting services, and employment agencies.

The WHT rate only applies to non-resident companies or individuals who have sourced an income from Malaysia.

There is no WHT on dividends, a 10 percent tax rate on royalties, and 15 percent on interest (which can be reduced under a tax treaty).

Corporate establishment

Mexico

Company formation in Mexico, from the date of filing and collecting all the documents, takes between one and two weeks.

A limited liability company is one of the most commonly used structures for foreign investors in Mexico. The entity can be 100 percent foreign-owned and the shareholders are liable to only their contributions to the company.

The next step in the incorporation process is choosing the entity name with the Ministry of Economy. This process can take between three to seven business days.

If the Mexican entity has foreign shareholders, then they need to notarize certain documents to support the incorporation. This must be done with a public notary in Mexico. The public notary is an experienced lawyer and is appointed exclusively by the Governor of the state.

There are no minimum capital requirements.

Malaysia

Establishing a private limited company, locally known as a Sendirian Berhad – Sdn Bhd is the most common type of business entity for foreign investors.

This entity type is able to be 100 percent owned by foreign investors and is eligible for an array of financial and non-financial incentives.

The private limited company is considered a separate legal entity from its shareholders and the company’s shareholders are only liable for the debts accrued by the company with the amount they invested.

To begin the setup, applicants must provide the following documentation:

• Company name;
• Constitution of the company
• Declaration of compliance with the Companies Act;
• Primary business activities;
• Details of directors and shareholders;
• Address in Malaysia;
• Minimum paid-up capital;
• Percentage of the shareholding of each shareholder; and
• A declaration by the directors that they have not been convicted of any offense and are not undischarged bankrupts.

Incorporating a company requires no minimum paid-up capital. However, a company that is 100 percent foreign-owned must pay 500,000 ringgit (US$119,000) if they want to hire foreign workers.

In addition, there is an additional amount depending on the sector:

• Advisory and consultancy businesses – 500,000 ringgit (US$119,000);
• Import, export, trading, and restaurant businesses – 1 million ringgit (US$238,380);
• Joint venture with a Malaysian partner (with at least 50 percent shares) – 350,000 ringgit (US$83,433) in paid-up capital and 500,000 ringgit (US$119,190); and
• Non-export-oriented industries – 100,000 ringgit (US$23,838) and with a minimum with total minimum sales of 2 million ringgit (US$476,460).

Investment incentives for foreign businesses

Mexico

Manufacturing contributes to approximately 25 to 30 percent of the country’s GDP, and as such, there are lucrative investment incentives for this sector.

The Immex program

Mexico’s Immex program, which was formally known as the IMMEX maquiladora program, allows foreign manufacturers to import raw materials into Mexico under the condition that 100 percent of the finished goods are exported within a government-mandated timeframe. Further, these raw materials and components are tax and duty-free.

A maquiladora is a factory in Mexico that is 100 percent foreign-owned, manufacturing products in Mexico and exporting them abroad.

The program boomed in 1994 when Mexico signed NAFTA and opened up free trade lines to the US and Canada. Since then, industrially manufactured products make up some 90 percent of Mexico’s export goods by value, reaching over US$440 billion in 2021. From this value, over US$380 billion worth of exports were to the US.

IMMEX companies can apply for VAT credits and transactions between IMMEX companies are VAT exempt.

Malaysia

The Malaysian government, through the Malaysian Investment Development Authority (MIDA), has several business incentives to attract foreign companies.

Principal hubs

The principal hub (PH) program provides incentives for businesses that use Malaysia as a base to conduct their regional operations.

The incentives include a CIT rate of between 0 to 5 percent for new companies and a 10 percent CIT rate for existing companies. There is also income tax exemption on certain activities.

A principal hub company will enjoy no local equity/ownership conditions and is able to acquire fixed assets.

Global trading center incentive

The global trading center (GTC) program provides incentives to businesses that use Malaysia as an international trading base for the procurement and distribution of raw materials and finished products.

Eligible companies can enjoy a CIT rate of 10 percent for five years, which can be extended for another five years.

Infrastructure

Mexico

Over the past decade, Mexico’s manufacturing sector has experienced exponential growth. In response, the government has taken important steps to accelerate infrastructure development. The President is seeking to boost the construction budget and spend the equivalent of 4.1 percent of GDP.

As early as 2014, the government published a report named the National Infrastructure Program, which outlined plans to improve communication, energy, and transportation infrastructure to a budget of over US$600 billion, making supply chains more efficient.

In its efforts to attract more US investments, the government announced in February 2022 that it is preparing a multi-billion dollar infrastructure package, which includes new highways, ports, and energy ventures.

Malaysia

Malaysia is one of the most developed countries in Asia and the government has continuously expanded the country’s highways, airports, seaports, and railroads.

The country’s road networks are extensive, covering over 250,000 km and including over 1,500km of expressways. Malaysia is also connected by over 1,800km of railway and over 62 airports. The country’s largest in Kuala Lumpur recorded over 44 million passengers before the pandemic.

Moreover, as a country strategically located in the Straits of Malacca, Malaysia has a well-developed ports infrastructure and has seaports that are able to handle more than 11.3 million twenty-foot equivalent units (TEUs) tons of cargo.

Further Reading

• Establishing a Private Limited Company in Malaysia
• Malaysia Issues Tax Exemption for Foreign Sourced Income
• Incentives and Financing Schemes for Businesses Under Malaysia’s Budget 2022

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