The Renewable Energy Law Review: Mexico
On 20 December 2013, a Mexican constitutional amendment for the energy sector (the Energy Reform) was published in the Official Federal Gazette (DOF). The Energy Reform was an enormous contribution to the development of renewables in Mexico. A principal contribution of the Energy Reform was the establishment of clean-energy obligations and the reduction of polluting emissions by the participants in the electricity sector. Mexico has also recently implemented an emissions trading system, which will encompass several industries.
As part of the secondary legislation arising from the Energy Reform, on 24 December 2015, the Energy Transition Law (LTE) was published in the DOF. The LTE regulates the sustainable use of energy, as well as the obligations and goals for clean energies and the reduction of polluting emissions in the electricity industry. The LTE provided for the establishment of the Advisory Council for Energy Transition (the Council), a permanent citizen consultation and participation body whose purpose is to provide opinions and advise the Ministry of Energy (SENER) on the actions necessary to achieve clean-energy targets and energy-efficiency goals.
The main purposes of the LTE include the following:
- to oversee the gradual increase of the role of clean energies in the electricity industry to meet the goals for clean energy generation and emission reduction;
- to facilitate fulfilment, in an economically viable manner, of the clean-energy and energy-efficiency goals set out in the LTE;
- to establish mechanisms to promote clean energy and reduce polluting emissions; and
- to promote the use of renewable resources and waste.
Pursuant to the LTE, the instruments and programmes for planning the national policy on clean energy and energy efficiency are:
- the Transition Strategy to Promote the Use of Cleaner Technologies and Fuels (the Strategy);
- the Special Programme for Energy Transition (PETE); and
- the National Programme for the Sustainable Use of Energy (PRONASE).
The year in review
The Strategy, PETE and PRONASE are the leading axes for the promotion and regulation of clean energy in Mexico. The Strategy was published in the DOF on 19 December 2014. The Strategy constitutes the guiding instrument for medium-term and long-term national policy on clean energy. It deals with obligations, sustainable use of energy and reduction of polluting emissions in the electricity industry.
On 7 February 2020, the SENER published an update to the Strategy in the DOF. The measures proposed by the revised Strategy are divided into three categories: energy saving and energy efficiency; use of clean energy; and development of inclusive infrastructure. The revised Strategy also made recommendations for the following actors: the federal public administration and decentralised or autonomous bodies; state-owned productive companies; the electricity industry; and the hydrocarbon subsector.
The main purposes of the revised Strategy are:
- to establish clean-energy and energy efficiency goals and a road map for their implementation;
- to promote the reduction of polluting emissions in the electricity industry; and
- to reduce Mexico's dependence on fossil fuels as a primary source of energy, subject to criteria of economic viability.
The Strategy has medium-term and long-term planning components, of 15 and 30 years respectively, consistent with international best practices, which define clean-energy goals and energy efficiency. To achieve these goals, the Strategy uses indicators to monitor progress towards energy transition in electricity generation and energy consumption in Mexico. In addition, to monitor this progress, the revised Strategy establishes two national goals: (1) generating 35 per cent of total electricity in Mexico from clean energy sources by 2024, 39.9 per cent by 2033, and 50 per cent by 2050; and (2) energy efficiency goals consisting of a reduction in final energy consumption intensity at an average annual rate of 2.2 per cent for 2020–2035, and a reduction in final energy consumption intensity at an average annual rate of 2.5 per cent for 2035–2050.
The PETE is the instrument that implements the actions established in the Strategy, ensuring its economic viability. The PETE 2017–2018 (the latest version)2 outlined the actions required to meet the goal of generating 30 per cent of the country's electricity from clean sources by 2021 and 35 per cent by 2024.
The purposes of the PETE are:
- to increase installed capacity and generation of clean energies;
- to expand and modernise transmission infrastructure and increase distributed generation and storage;
- to promote technological development, talent and value chains of clean energies; and
- to democratise access to clean energy.
On 19 January 2017, the PRONASE 2014–2018 (the latest version)3 was published in the DOF. On the basis of the policies, actions and targets for energy efficiency set out in the Strategy, the PRONASE establishes objectives, strategies and lines of action to achieve the optimal use of energy in all processes and activities in respect of the exploitation, production, transformation, distribution and consumption of energy.
The PRONASE requires that demand be reduced both in the energy sector and by final consumers, without affecting their productivity and competitiveness, by significantly increasing energy efficiency, introducing new technologies and substantially modifying the way in which the energy is consumed.
The policy and regulatory framework
i The policy background
Clean energies are not the same as renewable energies. Pursuant to the Electricity Industry Law (LIE), clean energies are those sources of energy and electricity generation processes whose emissions or residues, when they exist, do not exceed the thresholds established in the applicable regulatory provisions. Therefore, clean energies encompass renewable energies.
The LTE defines renewable energies as energies whose sources reside in phenomena of nature, processes or materials susceptible to being transformed into energy usable by human beings, and that regenerate naturally so they are available continuously or periodically; and when generated do not release polluting emissions.
The sources of renewable energy, according to the LTE, are: (1) wind; (2) solar radiation, in all its forms; (3) the movement of water in natural channels or in those artificial channels with existing reservoirs, with systems for generating capacity less than or equal to 30MW or a power density, defined as the relationship between generation capacity and reservoir surface, greater than 10 watts/m2; (4) oceanic energy in its different forms, namely, tides, marine thermal gradients, marine currents and salt concentration gradients; (5) the heat of geothermal deposits; and (6) the bioenergy sources stipulated in the Bioenergy Promotion and Development Law.
Certain tax benefits may be applicable to those seeking to invest in renewable energies. Special net tax profit account (CUFIN) rules allow a corporation to distribute dividends to its shareholders despite a lack of taxable profits generated at the corporate level.
Mexican corporations must have a CUFIN, the balance of which will be increased by, among other things, the net tax profits received by the corporation, and decreased by the dividends and profits distributed to its shareholders. The net tax profit is the result of subtracting the income tax paid (at a rate of 30 per cent), and other concepts, from the taxable income.
In this regard, Mexican law allows corporations exclusively engaged in (1) energy generation from renewable sources, and (2) efficient electricity cogeneration systems, to have an energy net tax profit account (Energy CUFIN), which relies on the above-mentioned CUFIN rules. The Energy CUFIN follows the same rules as the CUFIN, except that the concept of 'net tax profit' is replaced by 'investment profit', which is the result of subtracting the 'deemed income tax' from the 'deemed taxable income'.
The deemed taxable income is obtained by substituting the accelerated depreciation rate (100 per cent) for the 5 per cent depreciation rate on machinery and equipment for the generation of energy from renewable sources, or from efficient electricity cogeneration. The deemed income tax is the result of applying the 30 per cent tax rate to the deemed taxable income.
As with the CUFIN, to the extent that a corporation holds a positive balance in its Energy CUFIN, it would be able to distribute dividends to its shareholders in an amount equal to that positive balance, withholding 10 per cent on dividends distributed to individuals and to foreign residents. It is also important to note that, as with the CUFIN, any distribution of dividends out of the Energy CUFIN decreases the account balance.
Finally, taxpayers distributing dividends or profits from the Energy CUFIN for investment in renewable energy must keep a cumulative record of the distribution of dividends or profits made in each year.
ii The regulatory framework
Regulatory bodies and clean-energy certificates
The LIE ascribed special value to electricity from clean energies through clean-energy certificates (CELs). CELs are titles issued by the Energy Regulatory Commission (CRE) that certify the production of a certain amount of electricity from clean energy sources and that serve to meet load-centre consumption requirements.
For the acquisition of CELs, the SENER sets requirements to be met by the following mandatory participants: suppliers; qualified users and market participants; final users who receive electricity by isolated supply; and holders of legacy interconnection contracts, which includes load centres whose electricity does not come entirely from clean power plants. These participants are described in more detail below:
- A supplier is a marketer, or holder of a permit to offer electricity, who can represent exempt generators (i.e., small power plants with a generation capacity lower than 0.5MW) in the wholesale electricity market (MEM).
- A qualified user, participant of the market is an end user registered with the CRE to acquire an electricity supply as a market participant.
- A final user who receives electricity by isolated supply is an individual or a company that acquires an electricity supply in its load centres through the generation or importation of electricity for the satisfaction of its own needs or for export, without making use of the National Transmission Grid (RNT) or the General Distribution Grid (RGD).
- Legacy interconnection contracts are defined as interconnection contracts or electricity purchase agreements for small producers, entered into, or to be entered into, under the conditions valid prior to the entry into force of the LIE, including those generation projects owned and operated by the Federal Electricity Commission (CFE).
In the first quarter of each calendar year, SENER establishes the requirements for the acquisition of CELs to be fulfilled during the following three years, and may establish requirements for subsequent additional years. Once the requirements for a future year are established, they will not be reduced.
The requirements for the acquisition of CELs are established as a proportion of the total electricity consumed in the load centres. Thus, SENER announced that the CELs requirement for the 2020 obligation period is 7.4 per cent; for 2021 it will be 10.9 per cent; and for 2022 it will be 13.9 per cent. A CEL covers the generation of 1MWh of clean electricity.
Failure to comply with the requirements for the acquisition of CELs will be penalised with a fine ranging from six to 50 Units of Measure and Update4 for each MWh of non-compliance.
SENER establishes the criteria for the granting of CELs in favour of generators that produce electricity from clean energies. To be considered a clean generator, the following requirements must be met:
- the generated energy must come from a source of clean energy in terms of the LIE; and
- the power plant must fall into one of the following categories:
- clean power plants that came into operation after the entry into force of the LIE;
- legacy power plants5 that generate electricity from clean energy and entered into operation before the LIE came into effect, provided they have carried out a project to increase their production of clean energy; or
- clean power plants with capacity that has been excluded from a legacy interconnection contract to be included in an interconnection contract under the terms of the LIE during the period in which the holder of the contract had the right to include that capacity in the legacy interconnection contract.
On 28 October 2019, the SENER modified the guidelines establishing the criteria for the acquisition of CELs. However, the changes are not currently applicable because a federal court granted a suspension following claims initiated by private parties that the new regime has the potential to harm clean energy investments and the CELs secondary market; the modified guidelines are currently under judicial review by the courts.
The CRE is in charge of granting the corresponding CELs, validating and certifying their ownership and verifying compliance with the obligations for the acquisition of CELs.
Likewise, the CRE is in charge of creating and maintaining a certificate register, which must include a record of each certificate, as well as information on its date of issuance, validity and owner history. Only the most recently registered CEL holder may make use of the CEL to demonstrate compliance with CEL requirements.
The System for Clean Energy Certificate Management and Compliance with Clean Energy Obligations (S-CEL) is the platform through which the CRE carries out the management and recording of the information associated with the consumption and generation of electricity, emissions, transactions, and liquidation and voluntary cancellation of CELs, as well as fulfilment of CEL obligations.
The persons obliged to register with the S-CEL are mandatory participants, clean generators who wish to be granted CELs, suppliers representing distributed clean generation6 who wish to be granted CELs, and voluntary entities.7
On 4 March 2020, the CRE published the criteria to be used to calculate the total amount of available CELs to fulfil the total clean-energy obligations for each of the first two years of these obligations and the methodology used to calculate the implicit price of CELs in accordance with the LTE.
The means for carrying out transactions in CELs in Mexico are long-term auctions, bilateral contracts and the CELs secondary market organised by the National Centre of Energy Control (CENACE).
Long-term auctions are a mechanism that allows any load-centre representative to enter into contracts competitively to meet the demand for CELs, power and capacity. The term of the contracts (electricity coverage contracts) awarded through these long-term auctions will be 20 years for CELs.
To date, three long-term auctions have been carried out. In the first auction, with 17 offers from 11 companies, 5,380,911 CELs were awarded at an average price of US$47.7 per package (MWh plus CELs). In the second auction, with 29 offers from 21 companies, 9,275,534 CELs were awarded in contracts with an average price of US$33.7 per package (MWh plus CELs), 30 per cent lower than that obtained in the first auction. In the third auction, 5,762,647 CELs were awarded, and the average price obtained was US$20.57 per package (MWh plus CELs), 38.5 per cent lower than the price obtained in the second auction and recognised as one of the lowest prices in the world. The fourth auction was suspended and later cancelled by CENACE.
A bilateral contract is an agreement the terms and conditions of which will be established freely and voluntarily by the parties to the agreement.
CELs secondary market
The secondary market in CELs allows transactions between any load-centre representative whose CELs obligations are not covered or exceeded by electricity coverage contracts, generators whose operational capacity does not allow them to meet their contractual CEL obligations, and generators with capacity surplus to their commitments.
The CELs market is currently under review by COFECE,8 the Mexican antitrust authority, to analyse competition and the effectiveness of this mechanism in promoting investment in clean-energy projects in compliance with international commitments adopted by Mexico.
Emissions trading system
On 1 October 2019, the resolution establishing the preliminary basis for Mexico's emissions trading system test programme was published in the DOF. Emissions trading aims to promote emission reductions at the lowest possible cost, in a measurable, reportable and verifiable manner, without compromising the competitiveness of the participating sectors in relation to international markets.
The emissions trading system is to be realised in two phases: (1) the initial phase consisting of a test programme with no economic effects, which will last for 36 months, beginning on 1 January 2020 and ending on 31 December 2022; and (2) the operational phase, which will come into effect at the end of the transition phase (1 January 2022 to 31 December 2022) of the test programme. The details of the regulatory regime for the operational phase will be published in the DOF in 2022.
To develop a renewable energy project within the Mexican energy regulation framework, approvals are required from the CRE and the CENACE.
The CRE is responsible for regulating and promoting the efficient development of electricity generation, public services of electricity transmission and distribution, electricity transmission and distribution that is not part of the public service, and commercialisation of electricity, whereas the CENACE is a decentralised public body whose purpose is to exercise operational control of the National Electric System (SEN) and operation of the MEM, and to guarantee impartiality in the access to the RNT and the RGD.
To develop a Mexican renewable energy project, the following approvals are required:
- generation permit, issued by the CRE; and
- interconnection application approval by the CENACE (subject to indicative, impact and facilities studies conducted by CENACE, the granting of a financial guarantee by the applicant and the execution of an interconnection agreement by and between the transporter or distributor and the applicant).
As mentioned above, these approvals are required under the regulatory framework for energy. There are, however, additional development-related requirements, such as evaluation of environmental and social impacts, and regulatory compliance regarding land use, constitution of easements or rights of way, water supply and wastewater discharge, and change of land use in forestland, among other matters, depending on the specific features of each project. In addition, those generation projects that intend to participate in the MEM must execute a market participant agreement with CENACE and comply with the requirements established in the specific market guidelines.
Renewable energy project development
i Project finance transaction structures
Project finance is one of the structures implemented to finance electricity industry projects in Mexico. The institutions that provide financing for renewable energy projects, especially on infrastructure, are international commercial banks, as well as local commercial and development banks, in combination with multilateral and import-export agencies.
The typical security structures used for renewable energy projects in the Mexican jurisdiction include contracts and security interests (e.g., pledges, mortgages and trusts). Those structures are contained in agreements that are required to be formalised regularly by a notary public and registered with the Public Registry of Property and Commerce to be perfected. In general terms, liabilities of project company shareholders only extend up to the amount of their contributions to the capital stock of the company.
Since 2015, through its German Climate Technology Initiative (DKTI), the German government has been supporting Mexico in implementing the Solar Energy Program Mexico (DKTI Solar) to help develop solar energy on a large scale in the country. DKTI Solar aims to improve the technological, financial and organisational conditions for the large-scale use of solar energy (photovoltaic and thermal) in the production of energy. To expand the deployment of solar energy in Mexico, the programme activities are concentrated in four areas: policies and regulations, technological innovation, market development, and training for financial institutions.
The financial institution training consists in preparation of commercial and development banks on the opportunities, models and risks related to solar energy. DKTI Solar has provided technical assistance on these issues to the national bank of foreign trade, Bancomext, to improve its solar-energy project evaluation processes, resulting in a greater number of funded projects.
ii Distributed and residential renewable energy
In the past few years the appetite for distributed and residential renewable energy projects has increased dramatically in Mexico and, statistically, it is expected to continue to grow steadily for the next five years. Information from the CRE shows that as at the end of June 2019, there have been 112,660 contracts for distributed generation, representing an installed capacity of 817.85MW. The three most significant states in terms of distributed generation are the state of Mexico, with 4,814 contracts representing 77.54MW of installed capacity, the state of Jalisco, with 23,388 contracts representing an installed capacity of 126.92MW, and the state of Nuevo León, with 12,606 contracts representing an installed capacity of 105.03MW. The main technologies employed for distributed generation are biogas (0.49 per cent), wind (0.02 per cent) and photovoltaic solar (99.3 per cent); other technologies include biofuels, hydropower, gas and diesel.
In Mexico, distributed generation is meant to have open and not unduly discriminatory access to the RGD, as well as access to markets where the production can be sold. Mexican law considers energy generated by an exempt generator to be distributed generation. The Mexican general administrative provisions applicable to distributed generation and clean distributed generation power plants allow users to generate their own energy for their own consumption and any energy generated in excess to be sent to the RGD; the final balance due for the billing period should then be calculated from the difference between the energy generated and the energy consumed from the CFE. If there is a difference in favour of the user, the CFE should pay the user for the energy at the local marginal price (which includes transportation and distribution costs).
iii Non-project finance development
In Mexico, renewable projects have also been developed through non-project finance structures, so the participation of commercial banking has been fundamental for these non-project finance developments. Commercial banks have resorted to different schemes, such as guarantees granted by a development bank.
Also, other financial instruments such as real estate trust bonds may be used for private funding of energy projects, with the placement of real estate fund bonds in the Mexican stock market.
Other non-project finance structures include the use of federal funds created by the Mexican government in light of the LTE, with the aim of implementing actions to contribute to the fulfilment of the Strategy, by promoting the use, development of and investment in renewable energy and energy efficiency. Also, the Electric Energy Savings Trust supports distributed generation projects, mainly photovoltaic systems, in the domestic sector, in micro and small businesses, and in efficient cogeneration located at the consumption site, providing economic benefits to users, increasing competitiveness and contributing to the reduction of polluting emissions in the environment.
Renewable energy manufacturing
A lot of the equipment used for the wind and solar energy industries is produced in Mexico. For example, among other related equipment for wind energy, Mexico produces generators for turbines, steel towers, wind shovels and bearings. For solar energy, Mexico has manufacturing companies that supply the local and foreign markets with photovoltaic solar modules.
It is important to note that as a general rule Mexican corporations are allowed to make deductions against investments through the application in each taxable year of the maximum percentages allowed by the law over the original amount of the investment (straight-line depreciation), where fixed assets, among other items, are considered to be investments.
To foster investments in clean energy generation, the law allows a 100 per cent depreciation (accelerated depreciation) of the original investment on machinery and equipment for the generation of energy from renewable sources or from an efficient electricity cogeneration.
The aforementioned deduction percentage is applicable to the extent that the machinery and equipment operates and functions for a minimum of five years after its acquisition. Otherwise, the accelerated depreciation benefit must be reversed and replaced by the applicable depreciation percentage, resulting, in all likelihood, in a tax payment for the difference in depreciation rates.
Depending on the value of the investment, the corporation investing in machinery and equipment for the generation of energy from renewable sources might not pay income tax for some years because of the application of the accelerated depreciation benefit.
This effect results in a partial benefit. On the one hand, no income tax becomes payable, but on the other the net operating losses, generated for a number of years because of the application of the accelerated depreciation, do not allow dividend distributions to shareholders, since no profits have been generated at the corporate level. Therefore, the accelerated depreciation benefit must be combined with the special CUFIN rules (see Section III.i, above).
In addition, an income tax benefit is granted to taxpayers for their investments in power supply equipment for electric vehicles. The benefit consists in a 30 per cent tax credit on the amount of the investment. To obtain the tax benefit, the equipment must be fixed in public places. If the tax credit exceeds the income tax due, taxpayers may carry forward the remaining credit for the following 10 taxable years until it is exhausted.
Conclusions and outlook
One of the current government's priorities is to establish Petróleos Mexicanos (known as Pemex) and CFE as strategic operators in the 'sovereign energy transition' (TES) process, for which, among other measures, the following are required:
- the planned transformation of the energy matrix, with a safe and economically viable incorporation of clean and renewable energy;
- the national production of science, technology, engineering, capital goods and equipment for the TES; and
- state policy for the national production of critical technologies, including electromobility, photovoltaic cells, storage media, smart grids, robots and artificial intelligence.
The head of SENER has highlighted that the country already currently has the infrastructure to produce 30 per cent of its electricity from clean sources. She also pointed out that for this reason the President ordered the repowering of hydroelectric plants, the optimisation of Laguna Verde nuclear plant and the promotion of renewable energies in general, to achieve the remaining five per cent necessary to comply with international commitments. In this context, the government announced an agreement with the Canadian company Hydro-Québec to modernise 60 Mexican hydroelectric plants, increase energy production and reduce the cost of household electricity.
The Mexican government has also announced an energy infrastructure plan that would include several projects for the oil and gas, and electricity sectors, in which the participation of parties from the private sector will be allowed. However, specific information on these projects has not been released yet.
In addition, Mexico has abundant geothermal resources. The country's estimated geothermal potential is 13.4GWe, which is among the highest in the world. However, there are several factors that can limit the development of projects for exploration and exploitation of geothermal resources, such as the need for intensive capital investment in the initial phases, coupled with the risks associated with deep exploratory drilling because of uncertainty about the capacity of the resource. Therefore, the Mexican Geothermal Program (PGM) has been conceived as an alternative way to finance project execution, associated implementation costs and the technical assistance necessary for new geothermal projects. The PGM has proved to be an innovative financial mechanism of great significance in promoting the development of the Mexican geothermal industry.
In the next few years, Mexico expects to see the development of a diversified portfolio of clean technology projects, of which wind, solar, nuclear and efficient cogeneration will contribute a greater share than other clean technologies.
External factors that hinder the development of clean technology projects, especially in the southeastern region of the country, such as the presence of environmental, social, logistical and financial restrictions, may limit the diversification of the energy mix.
Notwithstanding existing barriers, the current government's objectives in energy matters are to increase investments in renewable sources, achieve energy efficiency and collaborate in the fight against climate change. We expect the current obstacles to the generation of energy from renewable sources to be overcome by the government to meet these objectives.
1 José Antonio Postigo-Uribe is a partner, Pedro Palma-Cruz and Luis Orlando Pérez-Gutiérrez are senior associates and Tania Elizabeth Trejo-Gálvez and Max Ernesto Hernández-Ernult are associates at Sánchez Devanny.
2 On 8 January 2020, the head of SENER, Rocío Nahle, led the first meeting for the preparation and subsequent publication of the PETE 2019–2024. However, the revised PETE has not yet been published in the DOF.
3 Among the topics discussed on the agenda of the 2019 first ordinary session of the Council, the PRONASE 2020–2024 was approved; however, as it remains open for the addition of annexes and comments, it has yet to be published in the DOF.
4 The value of 1 Unit of Measure and Update is currently 86.88 Mexican pesos.
5 A legacy power plant is defined as a power plant that, upon the entry into force of the LIE, is not included in a permit to generate electricity under the modality of self-supply, cogeneration, small production, independent production or continuous own use, and (1) is owned by the agencies, entities or companies of the state and is in operating condition; or (2) its construction and delivery has been included in the federal budget in the form of direct investment.
6 Distributed clean generation is the distributed generation from clean energies. In turn, distributed generation is the generation of electricity that is performed by an exempt generator and in a power plant that is interconnected to a distribution circuit that contains a high concentration of load centres.
7 A voluntary entity is an individual or a company that is not subject to compliance with clean-energy obligations, but decides to participate in the S-CEL to be the owner of CELs and be able to buy them, resell them or voluntarily cancel their validity.
8 The Federal Economic Competition Commission.