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June 1994

NAFTA: expectations for the professional accountant. (includes Article 102 of North American Free Trade Agreement)

by Nance, Jon R.

    Abstract- The North American Free Trade Agreement aims to facilitate the free flow of goods, services, capital and labor between the US, Canada and Mexico. It is expected to have far-reaching effects on the accounting profession. There will be greater market opportunities for accounting practitioners given the increased flow of commercial transactions across North America after NAFTA takes effect. In addition to increased transactional volume from clients, the trade agreement also provides accountants greater flexibility in doing business in the three countries. Since NAFTA calls for national nondiscrimination, each NAFTA country must treat service providers from the other two member countries no less favorably than it treats its own service providers. The agreement also makes border crossing much easier for business persons who have limited business activities beyond their national borders.

After a tough fight, NAFTA was finally approved by Congress. The agreement will affect trade relations with Canada and Mexico, but should also affect the accounting profession in many ways. Whether or not you, your clients, or your company are presently impacted, you will want to have a basic understanding of NAFTA.

The North American Free Trade Agreement (NAFTA) was approved by Congress during the week of November 14, 1993. The House vote was surprisingly comfortable (234-200), despite vigorous opposition by organized labor and several members of the Democratic leadership. The agreement won the votes of most Republicans and, after a strong lobbying effort by President Clinton, nearly half the Democrats. Remarkable, if temporary, political alliances were formed. Edward Kennedy sided with Lee Iacocca, Newt Gingrich, and Rush Limbaugh in favor of NAFTA. Wayne Kirkland and Ralph Nader sided with Ross Perot against. Mexican President Carlos Salinas de Gortari has supported the agreement strongly, although it has not yet received legislative approval in Mexico. The Canadian Parliament has approved NAFTA, but Prime Minister Jean Chretien, head of the recently elected Liberal Party majority, has called for modification through new side agreements. Although uncertainties remain, it seems likely NAFTA will be implemented without major modifications.

NAFTA is a long and complex agreement that will affect the flow of goods, services, capital, and labor to and from the U.S. The NAFTA countries combined have a population of over 360 million and a gross domestic product in excess of $6 trillion. Canada is the U.S.'s largest trading partner and Mexico is its third largest and most rapidly growing major trading partner.

In 1991, U.S. exports of goods were $85 billion to Canada and $33 billion to Mexico. Exports of services were $18 billion to Canada and $8 billion to Mexico. Direct U.S. investment was $70 billion in Canada and about $10 billion in Mexico. Three-year growth rates were 18% and 50%, respectively, for goods exports, 80% and 98% for service exports, and 13% and 67% for direct investment. U.S. jobs supported by exports were about 1.5 million for Canada and 0.6 million for Mexico. Continued rapid growth of trade and investment are expected with implementation of NAFTA.

Accountants in the U.S. will be affected, directly and indirectly, by many provisions of NAFTA. The profession will be presented with many opportunities and some challenges. Now is the time to examine those opportunities and challenges and prepare for a future of free trade in North America.

NAFTA at a Glance

With its ratification by Congress, NAFTA, with certain exceptions, immediately prevents increases in existing customs duties on products substantially produced by and traded between the U.S., Canada, and Mexico. Regarding excepted goods, the parties to the agreement will progressively eliminate, over a period of years, all customs duties between each other on these goods originating in their countries.

NAFTA has considerably loosened the reins on service industries' ability to transact business across borders. The agreement enhances cross-border investment opportunities crucial to the loosening of trade barriers in both the manufacturing and service sectors. In addition, the parties have agreed to provide greater protection than has been provided before to intellectual property rights such as patents, trademarks, copyrights, and trade secrets. Article 102 of NAFTA is presented as an exhibit. Article 102 lays out the objectives of NAFTA, and these objectives are carried out in detail throughout the agreement.

If NAFTA proves beneficial to all three parties as envisioned by its supporters, observers predict other nations of the Americas may want to join the economic union. NAFTA's predecessor, the U.S.-Canada Free Trade Agreement (CFTA), in effect since 1989, proved successful enough to twice accelerate scheduled tariff reductions.

Trade in Commodities

As Table 1 indicates, most U.S. exports to NAFTA trading partners are goods rather than services. Over a period of zero to 15 years, NAFTA progressively eliminates tariffs on all goods considered originating in North America under NAFTA Rules of Origin. The Agreement, for most goods, either immediately eliminates tariffs or phases the elimination in over a period of five or 10 years. On certain sensitive items, primarily in the agricultural sector, tariff elimination takes place over a period of 15 years. NAFTA Rules of Origin specifically detail the criteria necessary for goods and material to qualify for preferential tariff treatment. Goods and their materials entirely produced in North America obviously qualify for preferential tariff treatment. Not all goods the signatories produce in today's world economy, however, can be produced entirely in North America (e.g., automobiles). NAFTA, therefore, employs content specification rules that will determine the allowability of preferential tariff treatment on goods partially completed or supplied outside the free-trade region. Some of these rules will probably require the skills and attention of accountants, not only from inside a trading organization, but also from outside accountants when regional exports represent a significant part of a client's business. In addition to tariff relief, NAFTA reduces other restrictions to market access among the signatory countries. Current tariffs, if not among those immediately eliminated, may not be raised either. The three nations will also remove most quantitative import and export restrictions. Moreover, the signatories either eliminate such measures as customs duties and export taxes or have agreed-on rules that remove national advantages such measures have for a particular signatory. Finally, NAFTA also addresses impediments to cross-border trade in goods caused by national differences in product technical standards by establishing a Committee on Standards-Related Measures and encouraging cooperation in cross-border product compatibility.

Cross-Border Services

Although U.S. exports in goods to Canada and Mexico outstrip its exports in services, Table 2 clearly shows U.S. export growth potential lies in its service sector. In 1991, the services market was $146 billion in Mexico and $285 billion in Canada. U.S. penetration was 6% of the Canadian market and 5% of the Mexican market. From the U.S. perspective, several NAFTA provisions are intended to open the Mexican market for services and to increase access to the Canadian Market. Services covered by these provisions include accounting, architecture, advertising, commercial education, construction, consulting, engineering, enhanced telecommunications, environmental services, health-care management, land transport, and tourism. Not all service sectors are covered by the agreement. In particular, Mexican constitutional requirements reserve certain activities to the government. Basic telecommunications, social services, and maritime services are, therefore, not subject to NAFTA provisions.

Covered service providers are protected by a basic principle of national nondiscrimination. Each NAFTA country must treat service providers of the other NAFTA countries no less favorably than it treats its own service providers in like circumstances. Regarding a state or province, this provision provides treatment be no less favorable than the most favorable treatment that the state or province accords to the service providers of the country of which it forms a part. In addition, each NAFTA country must provide most-favored-nation treatment to service providers of other NAFTA countries. This means each NAFTA country must treat service providers of other NAFTA countries no less favorably than it treats service providers of any other country in like circumstances.

Covered service firms need not maintain a local presence to do business in another NAFTA country. A NAFTA country may not require a service provider of another NAFTA country to establish or maintain a residence, representative office, branch, or any other form of enterprise in its territory as a condition for the provision of a service.

Citizenship requirements for licensing of professionals such as accountants, attorneys, and doctors will be eliminated beginning two years after implementation of the agreement. Each NAFTA country must seek to ensure its licensing and certification requirements and procedures are based on "objective and transparent" criteria, such as professional competence. Criteria should be no more burdensome than necessary to ensure quality of service, and should not be in themselves a restriction on provision of service. The agreement provides mechanisms for mutual recognition of licenses and certifications, but does not require a NAFTA country to recognize automatically the credentials of service providers of another NAFTA country.

NAFTA will promote exports by U.S. financial service industries. Banks and securities firms will be permitted to engage in the same range of operation within other NAFTA countries as similar firms of those countries. Mexicans and Canadians will be guaranteed the right to purchase financial services from U.S. firms. No NAFTA country may impose new restrictions on the cross-border provision of financial services. NAFTA eliminates restrictions on U.S. companies' provision of insurance services in the other NAFTA countries. U.S. companies may sell cargo insurance and reinsurance on a cross-border basis, and sell life, health, and travel insurance to Mexican and Canadian residents who come into the U.S. Both national and most-favored-nation treatment is accorded to financial service companies.

NAFTA eliminates discriminatory restrictions on enhanced telecommunications services. Each NAFTA country will ensure its licensing or other authorization procedures for provision of enhanced or value-added telecommunications services be transparent and nondiscriminatory. Each NAFTA country will guarantee businesses from other NAFTA countries access to public telecommunications facilities. NAFTA attacks the barrier to telecommunications trade created by product standards by providing for mutual recognition of test data from all competent test facilities in NAFTA countries.

NAFTA opens Mexico's market for international truck, bus, and rail transport, and locks in U.S. access to Canada's already open transportation market. It permits U.S. trucking companies to carry international cargo to Mexican states contiguous to the U.S. by the end of 1995, and to have cross-border access to all of Mexico by the end of 1999. It provides U.S. charter tour and bus operators full and immediate access to the cross-border market. U.S. regular bus route companies will gain full cross-border access by the end of 1996. NAFTA countries will undertake to harmonize standards related to transportation safety, environmental protection, and consumer protection over a six-year period.

Direct U.S. Investment

Some of the more controversial provisions of NAFTA are intended to promote direct investment in businesses of one NAFTA country by corporations or individuals of another NAFTA country. These provisions were difficult to justify in Mexico because of fears that Mexican businesses would be dominated by the financial power of U.S. corporations. They were difficult to justify in the U.S. because of fears they would lead to capital outflows from the U.S. with concomitant loss of jobs and labor productivity. As Table 3 demonstrates, however, substantial growth of direct U.S. investment in Mexico has already occurred without NAFTA.

NAFTA provides for non-discrimination against companies from one NAFTA country establishing, acquiring, or operating businesses in other NAFTA countries. As with services, minimum standards for non-discrimination are national and most-favored-nation standards. NAFTA provides for elimination of restrictions on returns of profits or royalties or repatriations of capital from businesses operating in other NAFTA countries to the U.S. In most cases, it eliminates the need for government approval of new investments. It prohibits NAFTA countries from imposing performance requirements on investments in their territories, including specified minimum export levels, specified minimum domestic content, preferences for domestic sourcing, trade balancing requirements, and technology transfer limitations. It prohibits NAFTA countries from offering incentives that discriminate against imports. It prohibits unjust or uncompensated expropriations, and grants investors direct access to international arbitration to enforce their rights. It provides a strong dispute settlement mechanism that includes international arbitration, binding awards of money damages for violations of the investment provisions, and enforcement of awards under both NAFTA and other relevant treaties.

A wide variety of U.S. firms with existing investments in Mexico will be able to acquire previously prohibited majority ownership, including 100% ownership, in their investments. New U.S. entrants in many Mexican markets may start their own wholly-owned firms in Mexico. These rights are subject to complex transition rules, market share limitations, and transition dates that differ by industry.

Proponents of NAFTA argued that its direct investment provisions will increase U.S. exports and U.S. jobs. Integrated production in North America should make U.S. firms more competitive, elimination of local content requirements will increase demand for imports sourced from the U.S., and U.S. companies' subsidiaries in Canada and Mexico will open new U.S. export opportunities. NAFTA's direct investment provisions should also enhance environmental protection by permitting NAFTA countries to impose stringent environmental standards on new investments and to require that environmental impact statements be prepared for new investments.

Intellectual Property Rights

A major danger in cross-border commerce involves the potential loss of property with little or no recourse through a dependable legal system. If a transborder transaction involves an exchange of specific goods or services for pecuniary consideration, contract specifications may provide enough protections to assure payment, e.g., prepayment provisions, irrevocable letter of credit, etc.

Intellectual property, in this regard, differs from commodity property. When one entity conveys a portion of its production of commodities to another entity in a monetary exchange, the commodities become the property of the entity that paid its money. Intellectual property, however, includes patents, copyrights, trademarks, and trade secrets. Entities tend to hold, rather than convey, intellectual property rights, and when intellectual property rights are violated, the intellectual property owner must rely on the legal system for rectification. Reliance on international law or foreign government legal systems has too often been the bane of U.S. commerce internationally.

NAFTA devotes considerable attention to addressing intellectual property rights. For years, U.S. commercial interests needed to exercise extreme caution while doing business in Mexico, because patent and copyright laws were not vigorously enforced. In 1991, Mexico passed laws improving patent, copyright, and trademark protections. Until 1992, Canada compelled foreign pharmaceutical firms to license their patents while exempting Canadian pharmaceutical firms from some types of compulsory licensing. Recently, Canada ended its compulsory licensing practices and extended the period allowed for patent exclusivity.

NAFTA enhances the recently enacted intellectual property right protections. Owners of intellectual property can carry that property across the border and expect to receive the same level of protection nationals in the host country receive on their intellectual property. If commercial interests of one country lack enough confidence in the laws or enforcement mechanism of another country, additional protections are afforded by NAFTA.

Benefits to the Accounting Profession

The accounting profession is probably already the most international of all professions and therefore is already cognizant of cultural and other transborder considerations in carrying out engagements in other nations. Through association with indigenous firms, accounting firms operate with considerable flexibility across many international borders. Most professional accountants support NAFTA as much for its perceived socio- economic benefits as they do for personal pecuniary implications.

Increased flow of commercial transactions across North American borders and the easier access to investment opportunities within those same borders likewise presents greater market opportunities for accounting practitioners who service clients taking advantage of NAFTA. In addition to greater market opportunities caused by increased transactional volume of existing clients and additional start-up clients, certain administrative procedures related to NAFTA compliance requirements, dispute resolutions, etc., may need the expertise of an accountant.

Beyond increased volume from clients, NAFTA's main impact on the profession is that it affords the practitioner more flexibility in operating across North American borders. NAFTA makes less onerous the obtaining of permission for entry for business persons who need to engage in limited business activities across borders.

NAFTA facilitates border crossing for temporary business purposes provided a business person shows--

1. proof of citizenship in the U.S., Canada, or Mexico;

2. evidence describing the purpose of the visit and that there is no intention of entering the labor market;

3. that remuneration for the activity will come primarily from a source outside the territory of the party granting temporary entry.

Business persons of recognized professions (such as accountants) who cross borders on a temporary basis need only provide proof of citizenship and documentation verifying the professional purpose of the trip. A party may still require, however, business persons, including professionals, to obtain visas prior to entry. Further, the parties can mutually agree to limit the number of business persons temporarily crossing the border.

Reciprocal Licensing of Professionals

NAFTA allows parties to the agreement to reserve market access to specified sub-sectors. Neither the U.S. nor Canada has placed in NAFTA restrictions on accounting or auditing services. Over a two-year period, Mexico will remove a citizenship and permanent residency requirement on licensed professionals. At that time, except for a Mexican requirement that foreign professionals have an address in Mexico, cross-border licensing of professionals is theoretically possible. NAFTA does not, however, take away each country's rights to establish and maintain licensing requirements.

CFTA has prompted some action in the licensing of accountants between the U.S. and Canada. Licensing jurisdiction in both countries still rests with individual states in the U.S. and with individual provinces in Canada. In September of 1991, however, the AICPA, The Canadian Institute of Chartered Accountants, and The National Association of State Boards of Accountancy issued a joint statement of recommendations, Principles for Reciprocity, for the professions in the two nations. Consequently, in a little over two years since drafting, the Canadian Chartered Accountant Uniform CPA Qualification Examination (CAQEX) was developed and offered by the AICPA to U.S. State Boards of Accountancy for use during the November, 1993 CPA examination. Individual state boards, of course, could either opt or not opt to offer the CAQEX to Canadian chartered accountants who sought the CPA designation in their jurisdictions.

While definite action has taken place between Canada and the U.S., no movement toward licensing between Mexico and the U.S. has occurred. Moreover, there is little or no indication U.S. or Mexican professionals have any current interest in this regard.

NAFTA addresses the issue of trade in professional services, which applies to the accounting profession. NAFTA requires each country to the agreement impose no less favorable conditions on service providers than are imposed on the country's own service providers. This provision could be interpreted to mean a foreign accountant wishing to provide services in one of the other countries would still have to meet the requirements of that country with regard to education, licensing, experience, etc. NAFTA does not appear to make cross-border licensing of accountants any easier. It does, however, prohibit any measures that make it more difficult for a foreign accountant to become licensed than for a domestic accountant.

NAFTA also addresses specifically the issue of licensing and certification of professionals. Article 1210 of the Agreement provides each country should attempt to ensure licensing and certification requirements imposed on foreigners are--

1. based on objective and transparent criteria, such as competence and the ability to provide a service;

2. are not more burdensome than necessary to ensure the quality of a service; and

3. do not constitute a disguised restriction on the cross-border provision of a service.

NAFTA does not require reciprocity among the countries nor does it require reciprocity among the countries if reciprocal agreements exist between two or more countries. If, for example, the U.S. and Mexico reached an agreement whereby certification and licensing of CPAs in either country would be recognized by the other country, that agreement would not have to apply between Canada and the U.S. Likewise, an agreement between a NAFTA country and a country outside of NAFTA would not apply to the other countries included in NAFTA. NAFTA does require, however, that the country or countries with a reciprocal arrangement provide an adequate opportunity to the other country to show that the licensing, certification, etc. should be recognized. That is, the omitted country should be afforded the same opportunity to participate in the reciprocal agreement.

While NAFTA does not require reciprocity among the countries with regard to professional licensing, the Agreement does impose an obligation on each country to work toward such arrangements. NAFTA requires each country to encourage licensing bodies to work on developing mutually acceptable standards for certification and licensing of professionals. In the absence of national licensing of CPAs, reciprocal agreements between the U.S. and Canada or Mexico would have to meet the needs of each state. The process will take considerable time and compromise. Therefore, NAFTA's immediate impact on certification and licensing of CPAs should be minimal. The future, however, may well bring reciprocal agreements among the U.S., Canada, and Mexico with regard to licensing of CPAs. At the very least, NAFTA likely will result in agreements among the countries that will give some recognition to professional certification of another country. Complete reciprocity, as exists between many states in the U.S., seems very unlikely in the foreseeable future.

Professional Dialogue

Even though NAFTA presents no immediate concern with regard to cross- border integration of the profession, the agreement poses social and economic questions that would benefit from timely professional dialogue. The NAFTA document, while not an unmanageable size, consists of a considerable number of provisions of varying complexities. Accountants can offer a unique perspective to the impact NAFTA's provisions will have on society's economic organizations and, by extension, those organizations' personnel.



1. Eliminate barriers to trade in, and facilitate the cross-border movement of goods and services between the territories of the parties.

2. Promote conditions of fair competition in the free trade area.

3. Increase substantially investment opportunities in the territories of the parties.

4. Provide adequate and effective protection and enforcement of intellectual property rights in each party's territory.

5. Create effective procedures for the implementation and application of this agreement, for its joint administration and for the resolution of disputes.

6. Establish a framework for further trilateral, regional and multilateral cooperation to expand and enhance the benefits of this agreement.

Sid R. Ewer, PhD, CPA, J. Richard Williams, PhD, CPA, and Jon R. Nance, PhD, CPA, are professors at Southwest Missouri State University.

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