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Compensation Structures in Mexico

What is the Legal Framework?

This article does not intend to provide legal advice or a thorough breakdown of every single practice in Mexico. It’s not in the means to serve as a strict guideline, but rather as an informative outline to help managers like you understand hiring and managing in Mexico.

For this reason, we strongly recommend discussing your specific business requirements with Mexican legal counsel, as well as with compensation and tax professionals.

Legal Framework

Unlike the United States, where labor laws exist at a state and federal level, labor law in Mexico is only federal. However, unless extraordinary circumstances exist, state labor boards enforce and regulate the Mexican Federal Labor Law within their jurisdiction.

Most of the legal framework for labor laws in Mexico comes from the Constitution, established shortly after the Mexican Revolution in the early 1900s, and officially adopted in 1917. One of the main driving forces behind the Mexican Revolution was a perceived abuse of workers, poor working conditions, and child labor exploitation. The late 1800s were a time of economic boom during a dictatorship that promoted foreign investment and a strong presence of foreign companies who helped build the country’s infrastructure like the many railroads. Foreign organizations were perceived as protected by the dictatorship and taking advantage of Mexican labor. Those provisions in the Mexican Constitution are the basis for the two sources of legal rights for workers enacted by the Mexican Congress:

Numero uno
The Federal Labor Law.

Dealing with minimum wage, employment conditions, and the benefits and rights of workers to organize. Mexico’s Federal Labor Law, enacted in 1931 and revised in 1970, is based on Article 123 of the Mexican

Number two
The Federal Social Security and Housing Law

Dealing with issues such as health care, housing, and retirement.

 

Benito Juarez in a Twenty pesos bill
Labor Regulation Codes

During the Benito Juarez government at the end of the 19th century, liberals agreed on the need for social policy to redeem extreme exploitation conditions. The first civil codes, which would regulate labor, were dictated and would later give rise to the regulations of Manuel Gonzalez regarding servitude, day laborers, porters, among others.

The Inflexible Work Force

The employer’s flexibility over working hours is one of the main noticeable differences between employment in Mexico and employment in the United States. An employer in Mexico is committed to paying the number of working hours per week established in an employment contract. The only way to reduce the number of working hours and not pay for them is to terminate the contract and create a new one. While it may sound simple, the logistics of it are often anything but that.

While most employment relationships in the U.S. are “at-will,” under Mexican law, the presumption is that employment contracts have an indefinite length, as laws exist to encourage employers to maintain the relationship. Even when a written contract is not in place, precedence establishes an implied warranty of employment that will provide the employee with all the Federal Labor Law protections, including severance, if the employment relationship comes to terms without cause. Severance benefits include three months of salary. Depending on the circumstances, it may consist of 20 days’ pay for each year of service, summing other cash benefits gathered during the course of the year.

pencil drwing a point that ends line
When is it legal to terminate a contract?

Suppose you’re wondering what exactly some of the reasons are for terminating without liability for the employer. In that case, you must first review and understand article 47 of Mexican Federal Labor Law, which proclaims the following reasons as a valid cause for termination:

Deceive
When the worker has deceived the employer, or as the case may be, the union who proposed or recommended the worker, through false certificates or references, which attributes to the worker capacities, aptitudes, or abilities, he did not have. This cause of termination shall not be effective after the first 30 days in which the worker furnishes his services;
Questionable Conduct:
If the worker, in the course of his employment, engages in conduct lacking in integrity or honesty, or commits acts involving violence, threats, injury, or ill-treatment against the employer, his family, or the supervisory and administrative personnel of the enterprise or establishment, except in the case of provocation or self-defense;
Non-compliance
 In case the worker commits an act specified in the preceding section against any of his fellow workers if, as a result thereof, the discipline of the workplace is affected;
Outside-work conduct
The worker, outside of his employment, commits any of the acts referred to in section II against the employer, his relations, or any supervisory or administrative personnel, to such a severe extent that performance of the employment relationship is rendered impossible;
Physical Damage to Property or machinery
The worker intentionally causes physical damage to buildings, works, machinery, instruments, raw materials, or any other thing related to his employment, during the performance of his work, or because of his work;
Negligence
If the worker negligently but not intentionally causes the damages referred to in the preceding section, provided that such damages are severe, and such negligence was the sole cause of such damages;
Imprudence or Carelessness
The worker, through his imprudence or inexcusable carelessness, endangers the safety of the establishment or the persons in it;
Immoral Acts
The worker commits immoral acts in the establishment or workplace;
Disclosure
The worker reveals manufacturing secrets or discloses exclusive matters, to the detriment of the enterprise;
Absence
The worker is absent more than three times in a period of 30 days, without the permission of the employer or just cause;
Disobedience
The worker disobeys the employer or his representatives, without just cause, in matters connected to the contracted employment;
Non-compliance of Safety
The worker refuses to adopt preventive safety measures or follow procedures established to avoid accidents and illnesses;
Drugs & Narcotics
The worker appears at the workplace in a state of intoxication or under the influence of any narcotic or debilitating drug unless used with a medical prescription. Before beginning his work, the worker must inform the employer and present the medical prescription;
Imprisonment
A final sentence which may impose the penalty of imprisonment upon the worker, which prevents him from fulfilling the employment relationship; Those reasons were analogous to those outlined in the preceding sections, of equal gravity and similar consequences, related to employment.

As previously indicated, one should be careful about ending employment contracts. The reason is that cultural and social elements play a huge role in a company’s ability to flex headcount against demand. Therefore, once a trained employee has moved on, it is not easy to bring them back. An employee that has been part of a reduction in headcount will, in most cases, feel betrayed by the organization and will also likely feel embarrassed when facing his co-workers once again.

Employees vs. Contractors

As in the United States, there is a clear distinction between an employment contract and a service contract in Mexico. With no provision of at-will employment and the high cost of mandatory severance pay, Mexico’s disparity becomes very important.

In Mexico, an employee definition is any person who performs subordinate work for another individual or legal entity.

An employment contract, written or implied, invokes all employee rights and protections under the Federal Labor Law. The process to determine if someone is an employee or a contractor in Mexico is similar to those used in the U.S.; there are basic elements and tests. For example, in cases where the contract is for personal services and the client exercises control and direction, it will be deemed subordinate work, an employment contract, and not a commercial contract.

Because severance pay is at stake, a contactor can claim an employment relationship and invoke protection under the Federal Labor Law. Suppose this happens when the relationships end. Any doubt over payment methods, control, or direction by the client will resolve to protect the contractor as an employee.

Here are some signs of an employment relationship:

– Performing duties for a single client

– Payments based on time and not deliverables

– The contractor/employee is required to be at the client’s site on a fixed schedule

Signs of a contractor relationship include:

– Providing services to multiple clients

– Payments based on deliverables

– The contractor is not required to perform all duties at the client site unless necessary to deliver, for example, as in the case of an electrical installation or the installation of a production line.

Men-wanted, job description vintage sign
How does this affect the recruiting and interview process?

As a hiring manager, you must clearly understand this distinction from the moment the job is defined and the job description is formulated. To do this successfully, you may want to strategize and develop the job description so there will be no doubt about the requirements for which a candidate is interviewed and ultimately hired. Most hiring managers consider job descriptions as the starting point to determine the employment relationship.

So, you must make sure you provide a well written and comprehensive job description as well as an interview for your contractor that spells out expected deliverables, results, and clearly defined timelines and not tasks, responsibilities, or a reporting structure and career path.

Exempt and Non-Exempt Employees

Also, keep in mind that the Mexican Federal Labor Law contemplates two types of employees: Management employees that represent and act on behalf of the company and other workers. For all practical purposes, these can be, and are in most instances, compared to exempt and non-exempt employees. However, some significant differences do still exist.

As exempt employees, management employees are not entitled to overtime and prohibits from engaging in union activities. In most cases, salaries and fringe benefits are higher than for other workers.

KEY TAKE AWAY

The employer flexibility over working hours is one of the main noticeable differences between employment in Mexico and employment in the United States.

Termination implies severance. Meaning 3 months of salary.

The only way to reduce the number of working hours and not pay for them is to terminate the contract and create a new one. Still, termination implies severance, and severance benefits include three months of salary. Considering the circumstances, it may also include 20 days’ pay for each year of service, plus all other cash benefits accrued during the course of the year. An employee is entitled to severance from day one.


Staffing

One might wonder whether they should use a staffing agency for temporary positions. In most instances, “no” because there is no “at-will” employment relationship, commitment to paying a fixed number of hours per week, and the burden of mandatory severance will still exist even if a staffing agency provides the employee. In essence, this dramatically reduces the benefits of using or providing a staffing service for short term or temporary assignments. It provides no reduction in the client’s liability and practically limits the service to recruiting and payroll management.

In contrast, a staffing situation can be beneficial and is widely used in Mexico when the economy of scale can be applied to supervisory and support services. Some examples are security guards and maintenance and I.T. services where a single supervisor may oversee employees in multiple client sites, and centralized staff will provide support in specific situations.

In any case, a co-employment relationship will be created where anyone who benefits from the employee’s work is liable for all employer obligations per the Mexican Federal Labor Law.

Non-Compete Agreements

Non-compete and confidentiality agreements typically used in the United States are practically impossible to enforce in Mexico. The Constitution in Mexico guarantees workers the right to engage in any occupation. This broad Constitutional right has made the enforcement of a non-compete agreement virtually unrealizable.

The Constitution in Mexico guarantees workers the right to engage in any occupation.

Discrimination

Mexico’s Constitution mandates non-discrimination. Article 1 of the Constitution prohibits the government and civil society from discriminating against women, people with disabilities, religious minorities, ethnic groups, or those with unconventional believes. Unfortunately, discrimination is still alive and very well throughout all of Mexico. Considering that labor and employment law in Mexico heavily favor employees, it is somewhat ironic that there is no real enforcement for protecting employees against discrimination. There is no equivalent of the Civil Rights Act of 1964 in the U.S., or at least not an enforceable match, that would take the provisions in the Mexican Constitution and legally prevent hiring practices based on race, color, religion, sex, or national origin.

I still remember an employment application I filled out in Mexico soon after graduating from college. It was for a brokerage firm, and the first part of the form required a picture from the waist up, and the required information included age, height, weight, skin tone, hair color, eye color, and religious beliefs. While that was more than a decade ago, not much has changed.

An advertisement I just pulled from today’s newspaper reads: “Seeking female with excellent presentation between 30 and 40 years of age for the position of Internal Legal Counsel”.

Most large foreign organizations will still adhere to the Civil Rights Act of ’64 and maintain the same standards they use in the U.S. when hiring in Mexico. Some world-class organizations such as PepsiCo will push and enforce anti-discrimination policies and promote diversity even if local laws do not require them to do so.

What about Payments?

Mexico’s Federal Labor Law establishes that an employer and employee can agree upon a rate or unit of pay. The common practice is to use the Daily Base Pay Rate (DBPR), known in Spanish as “Salario Diario Base de Cotizacion” in contracts and all compensation-related calculations. Benefits, social security contributions, and most importantly, the Federal Labor Law use the Daily Base Pay Rate (DBPR) as a base for calculating benefits. Even when calculating overtime, the hourly rate is based on the DBPR.

Unlike the U.S., where the minimum wage is expressed in dollars per hour, it is expressed in pesos per day in Mexico.

Even when the daily rate is the basis for calculating all compensation and benefits, Mexican employees will be familiar with what they see based on their pay period and relate to weekly, bi-weekly, monthly, or yearly amounts.

Calendar on day number 2
Conversions are straight forward:

– Hourly rate (used to calculate overtime) = DBPR / 8

– Weekly pay = 7 X DBPR

– Bi-weekly = 7 X DBPR X 2

– Yearly = 7 X DBPR X 52

– Monthly = Yearly / 12

It is common for an employee NOT to know his/her daily pay rate (DBPR). Since Mexico’s tax structures can get very complicated, employees will often not even know (or care about knowing) what their gross pay is. When you discuss a Mexican employee’s compensation, make sure you ask if the amounts they provide are gross (before taxes) or net (after taxes).

Note that unlike an hourly wage in the United States (typically multiplied only by the number of hours worked), the Daily Base Pay Rate is considered within a seven day week, assuming the seventh day is a paid / non-working day.

Example

An employee is hired for a call center to help desk covering the desk two days a week (8 hours each day) and paid 1000 pesos each week.

The DBPR for calculation purposes would be:

$142.85 Pesos = $1,000.00 / 7

The DBPR is used to calculate all benefits except benefits related to severance pay. The daily rate used to calculate severance pay is called the “Salario Diario Integrado,” Spanish for Integrated Daily Pay Rate (IDPR). The difference is that the IDPR includes all cash benefits, including commissions and allowances, in addition to the base salary that the DBPR considers.

PAYDAY

As in most states in the U.S., the Mexican Federal Labor Law regulates how often employees get paid. In Mexico, direct labor employees must get paid at least every week and all others every two weeks. To simplify payroll processing, most companies that have direct labor employees (such as manufacturing operations) will pay all of their employees weekly.

THE WORK SHIFT

The most significant difference between a workweek in Mexico and a workweek in the United States is the hours. While a workweek in the U.S. is typically 40 hours per the Federal Labor Law a workweek in Mexico is 48 hours. Spread in six eight hour shifts, working Monday through Saturday.

Most organizations in Mexico will distribute the 48 hours in five 9.6 hour shifts to limit the workweek from Monday to Friday and provide employees with a full weekend. Under those circumstances, Saturday becomes a paid day of rest.

OVERTIME

The Federal Labor Law in Mexico makes an apparent distinction between overtime and work on a day of rest.

Overtime is considered as time worked after a standard shift and must be paid as double or, in some cases as triple the regular pay rate.

Work on a rest day is paid as mentioned above, double the regular pay rate.

The first nine overtime hours during the week are considered double; every hour after that is deemed to be triple.

There are two considerations to determine if overtime hours are considered double or triple paid hours:

– The total amount of overtime hours worked during the workweek.

– The number of hours worked during a single day after a regular shift.

The first three hours after a regular shift are considered double hours; every hour after that is considered triple regardless of the number of overtime hours worked during the week.


Benefits Required by the Mexican Federal Labor Law:
Beach Icon
Vacation Pay

Employees with at least one year of service are entitled to six days of paid vacation. Vacation time will increase by two additional days for each year of service up to the fifth year. After five years, employees are entitled to two additional days for each other five years of service. Most companies will start employees with 10 to 15 days of vacation and keep the days fixed until the legal requirements catch up.

Vacation Premium

The vacation premium is the employee’s paid amount on top of his regular pay during vacation days. Mexican Federal Labor Law requires a minimum of 25 percent. For example, if an employee’s daily rate is $100 pesos per day, their pay during the vacation period will be $125 pesos per day. Most companies will provide a vacation premium between 50-100%; some go as high as 150%.

hollyday icon
Paid Holidays

There are seven required paid holidays in Mexico

January 1st – New Year’s Day

First Monday of February in observance of February 5th – The day the Mexican Constitution went into effect in 1917

Third Monday of March in observance of March 21st – Celebration of the birth of Benito Juarez, the Mexican president who served five terms and resisted the French occupation, overthrew the empire, and restored the Republic.

May 1st – Labor Day

September 16th – Independence Day

Third Monday of November in observance of November 20th – Anniversary of the Mexican Revolution

December 25th – Christmas Day

State and Federal Election days are also considered holidays. In most cases, elections will occur on a Sunday, and the holiday designation would affect only those employees for whom Sunday is a regularly scheduled workday. The presidential inauguration that takes place on December 1st every six years is also considered a legal holiday. Employees required to work on any of these days (holidays) are entitled to double pay.

Contrary to common belief in the United States, “Cinco de Mayo,” commemorating Puebla’s Battle, where Mexico defeated the French on May 5th, is not a commonly observed or celebrated holiday.

Other holidays that may be observed include:

February 24th – Flag Day

Good Friday and Easter Sunday

May 10th – Mother’s Day

September 1st – State of the Union

October 12th – Celebrates the arrival of Columbus to the Americas

November 2st – Day to honor the dead

December 12th – Day of the Virgin of Guadalupe

Resting icon
Day of Rest

Under Mexico’s Federal Labor Law, employees are entitled to one paid day of rest for every six days of work in addition to the required seven paid holidays. This seventh day can fall on any day of the week; however, employees whose regularly scheduled work shift falls on a Sunday must be paid a premium of 25% above what they are paid on other days. This day is known as the Sunday Premium or “Prima Dominical.”

Workers required to work on the seventh day, holiday, or any other rest day are entitled to double pay. If that day falls on a Sunday, the worker is entitled to double salary plus the 25% premium.

It is important to note that work on a day of rest is different from overtime and does not count towards the accumulated overtime hours that require triple pay.

Aguinaldo

The aguinaldo is an annual bonus that has to be paid no later than December 20th of each year. The Federal Labor Law requires that the bonus be no less than 15 days of pay (based on the Daily Base Pay Rate) regardless of service years. In the case where the employee has been working in the company for less than a year, the amount is prorated based on the hire date. As part of their benefits package, companies often go beyond the 15 days and provide anywhere from 15 to 30 days; some will even go as high as 45 days.

Annual Profit Sharing

Federal Labor Law also requires that company-wide profits be shared with employees. The National Profit Sharing Commission determines the amount of profit needed to be shared. The commission includes representation from workers, employers, and government. In recent years the typical percentage of profits distributed among the employees has been 10%, but this percentage is not distributed equally. All employers must distribute among their employees an amount equal to 10% of the employer’s pretax profit within 60 days after the employer is required to file its year-end income tax return. Of this amount, fifty percent is distributed in proportion to the number of days worked by each employee during the year, and the remainder according to the wages of each employee.

It’s important to note that the employee is entitled to profit-sharing of the legal entity that employs them, not from the corporate organization. For foreign companies, the profit-sharing is limited to the Mexican subsidiary or entity.

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Social Security Benefits:

Mexico’s social security system provides, regulates, and manages medical, retirement, and housing benefits for workers. The system is governed by the Mexican Social Security Institute or IMSS, which is an acronym for its name in Spanish. Contributions from employers account for most of the revenue provide these benefits. Approximately 70% of the revenue comes from employers, 25% from employees, and the remaining 5% of the government.

Employers provide approximately 28% of the employee’s salary into several governments managed funds that provide social security benefits. The contribution will vary depending on the employee’s work and the potential injury and health risks. The index is heavily affected by recordable incidents.

Retirement Savings Plans
Retirement savings plans are regulated but not managed by the IMSS. Current programs require employees to provide contributions to a privately managed government-approved fund selected by the employee. The mechanism is similar to an IRA in the U.S., where the employee can move their account from one bank to another. However, the investment itself behaves more like a mutual fund where the employee chooses which bank will manage the money, but leaves the responsibility of managing the asset to a fund manager.
Currently, employers are required to contribute 2% of the employee’s salary to their retirement fund. This contribution is capped at 25% of the prevailing minimum wage.
Housing Subsidies
Mexico has a national fund for subsidizing housing for workers, and subsidies are typically in low-interest loans or other credits.
Employers are required to contribute 5% of the employee’s salary to the fund. The contribution is capped at the equivalent of 10 times the prevailing minimum wage.
The benefit is managed by a federal institution, INFONAVIT (Instituto del Fondo Nacional de la Vivienda para los Trabajadores).
Workers Compensation
The IMSS may compensate for 100% of the wages for the first three months if a worker is disabled due to an accident. After that, the amount is reduced to 75%. When disability is permanent, IMSS will continue to pay the 75% for no less than 15 years. It’s important to note that only workers contributing to IMSS at the time of the accident are eligible for this benefit.
Maternity Leave
Working mothers are entitled to paid maternity leave for as much as six weeks before and six weeks following birth. This benefit is paid directly by the IMSS and requires employment (with the current employer) for 42 days before becoming pregnant.
Approximately 70% of the contributions come from employers, 25% from employees, and the remaining 5% of the government.
Executive Search in Mexico
Social Welfare Benefits

Social Welfare Benefits are considered non-cash benefits provided by the employer that promote better living conditions. These benefits are optional and tax-exempt. However, the exemption is capped since they exist to benefit lower-paid employees. As a result, many companies cap the benefit to match the tax exemption cap. This tax exemption cap is typically referred to as “the legal cap.”

A key element of a Social Welfare Benefit is that it must be provided to all employees regardless of salary, wage, or rank. If the benefit is not across the board, it will not be considered within the Social Welfare Benefit Plan, and the tax exemptions will be lost. We strongly recommend consulting a tax and accounting professional to help set-up these benefits.

Examples of these benefits include:

Subsidized Cafeteria Service
This benefit is very similar to what many organizations offer in the United States. The company provides an adequate facility where food is prepared, warmed, and served to employees. Subsidies are relatively common and range from 50 to 100% of the cost for up to three meals per day. In most cases, the service is outsourced to avoid liability.
Grocery / Food Coupons (“Vales de Despensa”)
These coupons are typically provided to employees once a month, but some companies choose to deal with the extra administrative effort and provide them with every paycheck. They can be used in grocery stores and some big-box retailers such as Walmart. Restrictions exist on what can be purchased with these coupons to guarantee that they are used to cover essential items required by the employee’s family and not spent on frivolous things such as alcohol and tobacco products.
Savings Fund (“Fondo de Ahorro”)
The savings fund is a very common and a valuable benefit to promote short-term savings. The employer deducts and matches a percentage of the employee’s salary for every paycheck and contributes both amounts to the fund. The employer’s and the employee’s contributions plus interest are paid back to the employee at the end of the 12 months. The percentage typically ranges from 7-13% with a cap for tax exemption of around $1200-$1300 pesos per month.
The fund is managed by an employee commission with company oversight and is commonly used to provide short-term employee loans.
Payment of medical insurance and life insurance premiums
Life insurance plans in Mexico are pretty much identical to programs in the United States. Medical insurance, however, is not.
Even while social security covers medical benefits, most professional and management level employees use private medical practices and seek private medical insurance. Coverage in Mexico is mostly for hospital visits and catastrophic events, which dramatically reduces the premiums. Yearly premiums in Mexico will be approximately the equivalent of two months of premiums in the United States. Private medical insurance tends to not work for direct employees because deductibles are generally high and prohibitive for low-income families. It is imperative to note that providing private medical coverage for an employee does not exempt the company from providing the employee with social security coverage or paying the fees associated with it.
Because premiums are low and deductibles are high, it is not common for employees to share the cost with employers. However, it is common to limit the employee’s coverage, allowing the employee to pay the premium to include their family in the group plan.
When evaluating health insurance benefits, employees will look at several factors, including:
a) The deductible
b) Overall cap in medical expenses that are covered by the plan
c) Geographical coverage
d) Specific hospitals that may be omitted
e) Coverage that will include their family
Transportation
It is not uncommon for companies to provide private bus routes for their employees. This practice began with direct labor to reduce absenteeism and tardiness, which has expanded to all the ranks as traffic became a larger issue in major cities.
Public transportation is very limited in some cities, and the cost for a round trip ride can be between 15 and 20% of the entry-level salary for a factory floor worker.

References:

Article 50 of the Federal Labor Law (Mexico)

Article 123 of the Mexican Constitution

Article 74 of the Federal Labor Law (Mexico)

Article 117 of the Federal Labor Law (Mexico)