7th August 2022, Skopje – This week, we launched the public debate on the tax system reform. Discussion was held with representatives of the business community, as a group with the widest scope and spectrum of interests. This debate will continue with all social actors, which is to provide for clarifying the specific solutions, since it is too early to discuss their particularity. This article is dedicated to the Tax Reform Concept, being aimed at creating an optimal tax system, which will underpin the economic growth thus increasing the living standard of our citizens.
First and foremost, I will hereby emphasize that major fiscal reform is pursued, i.e. SMART public finance system. This system will play significant role in the recovery of our economy from the crisis, we have faced over the past two years. Furthermore it will produce higher and sustainable economic growth rates, via strategic, accountable and transparent public finance management. On the expenditure side, mechanisms for strategic planning, performance-budget budgeting, tighter control and transparency, have been put into place.
As regards SMART finance, revenue collection should be improved, with higher share of tax revenues and taxes into the economy, thus creating fiscal room for policies aimed at boosting higher economic growth in the medium – term. Reliable sources of revenues implies stability and avoidance of both pro-cyclical fiscal policy and rising public debt. Hence, increased stability and efficiency, as well as improved quality of the overall revenue system in the country will provide for sustainable and solid public finance management.
Tax system in support of economic growth
A country’s economic growth rate depends on a number of factors, such as innovations, investment activity, access to finance, entrepreneurship, labor skills and mobility, labor market flexibility, labor costs, skilled staff, administrative procedures, infrastructure, rule of law, etc. Tax system plays significant role via its impact on all these factors. Tax mix, tax rates, quality of tax administration, complexity of tax rules, predictability, network of international agreements on avoidance of double taxation, tax relief, tax base – all this impacts the economic growth of the country.
With respect to the SMART finance concept, I will hereby refer to the American principle that we should all pay our “fair share”. I am also talking about those who are part of the formal economy, but primarily the formalization of the informal sector, via its inclusion in the taxpayer system. This is actually the most appropriate way to provide funds for accelerating economic growth, as well as for current needs, such as anti-crisis sets of measures, without thereby increasing the public debt.
Fundamental goal of the tax reform – fair taxation, tax base expansion and “green” taxation
Essence of the planned tax reform is based upon expanded tax base, without thereby increasing the tax rates. Action Plan on Eradication of the Informal Economy will be also swiftly implemented, all to the end of including the informal sector into the formal one, thus additionally expanding the tax base.
Tax base is everything that is taxed: total income or revenues, the value of the owned real estate, consumption, transactions or other economic activities. What has been noted and recommended by international financial institutions for years are tax costs, i.e. exemptions and preferential treatment for certain types of revenues with respect to income taxes. If a target group, product, service has a privileged treatment, it should be substantiated by a strong economic or social argument. Preferential treatment should bring about greater benefits as regards the tax costs.
Tax system also plays corrective role in the economic and social processes. According to Gregory Mankiw, a world-renowned professor at Harvard University, the optimal tax system should be chosen to maximize a social welfare function subject to a set of constraints (a similar position is held by other economists such as Ramsey and Mirrlees). He is also a supporter of “Pigouvian Taxes” (named after the British economist from the last century, Arthur Pigou), i.e. taxes on economic activities that generate negative externalities, which create costs that are borne by unrelated third parties. Taxes on environmental polluters are a typical example thereof. These taxes are popular among economists since they are often the least invasive way to “fix things”, while simultaneously increasing the revenues, which the Government may use to lower other taxes. Thus, we get to the second part of the Tax Reform Concept, i.e. “green taxation”.
Before I explicitly elaborate our Concept, on the basis of which, the tax reform will be implemented, and for the sake of being transparent and getting the readers familiar therewith, I will first present comparative figures on the share of tax revenues and taxes into the economy, in our country, the region and the EU.
Lowest tax revenue collection compared to the EU and the Western Balkans
Over the past fifteen years, we have constantly been at a lower level in terms of tax collection as a share of GDP, both compared to the EU and the region.
In fact, in the period 2008-2020, significant gap was present between the share of revenues from taxes and contributions in GDP in the EU 27 and North Macedonia. In 2008, total tax revenues and social contributions accounted for 38.4% of GDP in the EU 27, being higher by 10.7 percentage points compared to the 27.7% share in North Macedonia. Over the years, this gap has been widened, accounting for 13.8 percentage points in 2020. Moreover, compared to the Western Balkan countries, tax collection in our country is convincingly the lowest. Share of tax revenues alone as regards GDP is even lower in our country, accounting for 16.1% in 2020.
What is this information important? According to World Bank experts, the share of tax revenues in GDP is significant for both the economic growth and the poverty reduction, as it ensures that countries have at their disposal the necessary funds to invest in the future and achieve sustainable economic growth. Developed countries usually have higher share thereof. Average at Organization for Economic Co-operation and Development (OECD) countries accounted for 33.8% in 2019, being twice the average in our country.
This is not a signal, but rather a warning sign that measures should be undertaken, if we want for the consolidation to be primarily put into place, thus ensuring better living standard for our citizens upon the long-lasting and exhausting crisis.
Concept for improved tax system and discussion thereon
Throughout the tax reform process and the public debate, as well as when devising the proposals, there will be plenty of “in favor of” and “against” votes, lobby groups and interested parties. Undoubtedly, many will defend their personal points of view. However, better life begins for us all when we start considering the overall effects. I will give an illustrative example thereof: in case I am a manager of a pharmaceutical company in times of a pandemic, it is logical that I support the Government’s anti-crisis measures for the service sector from the taxes I pay, since thousands of my customers work there – if they run out of funds, my company will be jeopardized therefrom. We are all part of the chain, whereby the economic growth depends on the extent of channeling the personal gains in support of the public gains as a whole.
Draft Concept was developed, through a transparent and inclusive process, starting February 2022, by involving representatives of the business and the academic community in the working groups, whereby comprehensive and in-depth analyzes of the existing tax system, were carried out, while taking into consideration the best European practices. Also, when conceptualizing the proposed solutions, recommendations from international organizations such as IMF, World Bank, OECD and EU were taken into account.
Tax Reform Concept is based upon the Tax Reform Strategy – this is a long-term, planned and well-analysed process, adopted by the Government in December 2020. Its main objective is to ensure fair, efficient, transparent and modern tax system based on contemporary digital technologies and innovations as regards taxation, all to the end of attaining an accelerated, inclusive and sustainable economic growth.
Five priorities are incorporated in the Strategy: greater taxation fairness, greater efficiency and effectiveness of the tax system for the purpose of improved tax collection, increased tax transparency, better-quality services, as well as introduction of environmentally-friendly (‘green”) taxation.
Driven by these goals and priorities in view of the tax system reforms, Ministry of Finance prepared draft Tax Reform Concept. This concept foresees gradual approach when redesigning the taxation system in the country, setting the dynamics of conceptualization and implementation of the reforms in the separate tax areas.
As regards profit tax, personal income tax and Valued Added Tax, tax policy reform concepts are foreseen to be put into place, to be followed by adoption of draft amendments to the laws, as well as implementation of the new legal solutions.
Tax policy reform concept in the field of profit tax and personal income tax pertains to revising the preferential tax treatments (tax incentives and relief or so-called tax expenditures) disrupting the neutrality of the tax system by favoring certain categories of taxpayers or activities. Hence, they adversely affect its fairness, leading to increased inequality in society, disrupting the robustness of the system, thus making substantial room for tax arbitrage or tax avoidance, which can cause inefficiencies in the real economy. This will also provide for creating fiscal space for conducting an active tax policy aimed at boosting private and public sector investments in technologies, underpinning green transition and digital transformation, all to the end of supporting the country’s strategic priorities in these areas.
All legal texts are also planned to be simplified and modernized, thus increasing the transparency and the efficiency when implementing the regulations by the taxpayers and the tax administration.
As for VAT, it is necessary to further strengthen the basic principles of the system, i.e. the principles of neutrality and competitiveness, by narrowing the list of goods and services for which a preferential rate is applied, as well as taxation of certain turnover (by following suit of the EU countries). In addition, it is necessary to thoroughly clarify the rights and obligations of taxpayers as regards their right to tax credit deduction, which will provide for greater legal certainty thereof, greater efficiency in carrying out the control and collecting the tax revenues by the tax administration.
Implementation of most of the new legal solutions is expected to start in 2023.
The same applies for tax policy in the field of excise duties and green taxation. Green taxation is aimed at stimulating taxpayers to contribute, through duties and fees, to pollution reduction. Main objective is coping with the pollution and protecting the natural resources, all to the end of achieving sustainable economic development.
Annual Action Plans under the Tax System Reform Strategy, include improvement of the operations of tax and customs administration via further process digitalization, increased transparency and greater efficiency of the taxation system, as well by eradicating the informal economy.
In addition, the 6 priorities under the Action Plan on Eradication of Informal Economy, contain measures and activities, as follows: 1. 1) strengthening the process of measuring, monitoring and detecting informal economy; 2) efficient inspection services; 3) enhanced business environment for the purpose of establishment, progress and development of companies; 4) strengthening informal economy awareness and enhancing the tax morale; 5) addressing informal economy in e-commerce and 6) Customs Administration’s measures for combating informal economy, will provide for reducing the grey economy and incorporating these entities in the formal economy.
Tax system as a whole and consensus thereon
At the close, I would like to point out that each tax reform should balance between multiple goals and compromises. The tax system should be observed as a whole. Approaching the whole process with a clear vision and analysis is of vital importance. Discussions and consensus thereon are also of great relevance therefor. It is essential for all of us to know why something is being done, for what purpose as well as to certainty hear the opinion and understand the attitude of the social actors. We are entering a process which, if successfully implemented, all of us and our economy as a whole, will benefit therefrom.
This becomes even more significant if we consider that the reform is being implemented in times when we confront several economic crises one after the other – COVID-19 pandemic, energy crisis and inflation, which have become even more complex with Russia’s invasion over Ukraine.
I would like to hereby stress that the change of the tax legislation must be carried out in parallel with both the improvement of the public service quality and the eradication of corruption. In addition to the equal treatment of taxpayers, i.e. the principle of tax neutrality, the budget principles as regards its efficiency and effectiveness must also be observed. As taxpayers, we have the right to know how public money is spent, in which priority areas they are invested, what is the quality of public services, whether illegal and non-earmarked budget spending is sanctioned, and ultimately, how the tax policy and practice affects the quality of life of our citizens. Tax moral (level of fulfillment of tax liabilities), s well as the stance as regards the tax reforms in general, will depend thereon. Hence, the institutional response must be comprehensive, impartial, non-political and far-reaching. We are obliged to build a prosperous future for the current and the future generations, which will be based, among other things, on an optimal tax system and a smart tax policy.
Tax policy is an extremely important and sensitive topic in the society, usually being a burning political issue, particularly in times of an economic crisis. Taxes with their redistributive effect have broad and deep economic and social implications, with the tax policy being a constant topic in the political economy as regards its implications on the economic growth and the social well-being.
Given the topic extensiveness, I will try to get back to this issue in the upcoming articles, where I will elaborate on several aspects, such as: optimal tax system, tax system fairness, tax morale and informal economy, comparison with the tax systems of developed countries and countries in the region, ratio between the tax burden and the tax structure as regards direct and indirect taxes, ratio between income taxes, consumption and property (wealth), tax progression with respect to the flat tax, efficiency and simplicity of the tax systems, as well as digitalization and transparency, externalities and taxes, such as green taxation, as well as other topics related to taxes. What matters the most is the manner in which these revenues are spent, in terms of improved infrastructure and public services, better roads, better-quality health and education, cleaner environment, thus attaining boosted competitiveness of the economy, higher and sustainable economic growth and better-quality life for our citizens.
Fatmir Besimi, Minister of Finance