Tax Reform in Croatia Mark Gallagher

HUP Who is HUP? The flat earthers? What does HUP want? What is the deal with HUP?

Growth without jobs

Tax burden Unit Tax as % of GDP Number of countries in sample OECD 38% 23 Transition countries 30% 24 Developing countries 17% 67 Croatia 41% 1 Comparator countries 33% 11 Euro zone countries 42% Na

PIT rates around the world Income tax rate Croatia 45.0 World Average 33 Maximum 65 Minimum 2 Median 35 Standard Deviation 12 Observations 114

PIT rate structure Zero rate on Kn 19,000 per year 15%, 25%, 35%, and 45% Localities can piggyback on PIT. Total top marginal PIT rate in Zagreb approaches 60%. More or less normal dependent deducaitons Reliefs for location in special zones Company reliefs for SMEs.

Income distribution before and after PIT before and after tax 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% 35.0% < 2,400 2,800 3,300 3,800 4,650 5,700 7,000 9,000 13,000 > 13,000 Before-tax monthly income Before tax After tax

CIT Number of countries Croatia Tax rate

Top PIT/CIT rates Number of countries Croatia

Social contributions tax Employer Employee Combined Albania 11.2% 30.7% 41.9% Azerbaijan 22.0% 3.0% 25.0% BiH: RS -- 34.3% BiH: Fed. 11.5% 32.0% 43.5% Bulgaria 29.9% 12.8% 42.8% Croatia 17.2% 20.0% 37.2% Czech Rep 35.0% 12.5% 47.5% Estonia 33.5% 1.0% 34.5% Hungary 13.5% 47.0% Kazakhstan 23.0% Latvia 24.1% 9.0% 33.1% Lithuania 28.0% 31.0% Macedonia 32.5% Moldova 27.0% 2.0% 29.0% Montenegro 16.1% 36.1% Poland 20.7% 18.7% 39.4% Romania 46.8% 17.0% 63.8% Russia Serbia 17.9% 35.8% Slovenia 31.6% 62.6% Ukraine 37.7% 40.7% Uzbekistan 2.5% Average 26.4% 15.4% 38.7% Social contributions

PIT and CIT rates Croatia PIT/CIT rates ratio

Tax administration cost % Revenue productivity VAT Profit tax Income tax Tax administration cost % Albania 0.35 0.07 0.04 3.04 Croatia 0.64 0.11 0.74 0.84 Czech Republic 0.24 0.15 0.17 2.08 Estonia 0.52 0.05 0.28 Hungary 0.36 0.13 0.14 1.35 Latvia 0.41 0.10 0.25 Lithuania 0.45 0.16 Poland 0.08 0.95 Russia 0.39 0.18 0.27 Slovak Rep. 1.46 Ukraine 0.53 Group Average 0.40 World Average 0.31 1.12

Tax wedge and unemployment In 29 OECD and Eurpoean Countries GDP per capita Unemployment rate Tax Wedge Residual ($1,995) Croatia 5,002 16.1 45.5 5.3 average 25,117 7 38

Causality? Dependent Variable: UNEMPLOYMENT Variable Coefficient Std. Error t-Statistic Prob. C 6.252951 1.773924 3.524927 0.0016 GDPPC -0.000155 4.48E-05 -3.458015 0.0019 WEDGE 0.117584 0.044008 2.671892 0.0128 R-squared 0.439468     Mean dependent var 6.800000 Adjusted R-squared 0.396350     S.D. dependent var 3.846055

Conclusion The direct tax system discriminates against labor, encouraging growth based on capital-intensive (or labor-saving) investment rather than labor-using investment and is not in all cases EU compliant.

HUP proposal 1 Simplify the personal income tax rate structure by imposing only a rate of 15% on intermediate income earners, and a marginal rate of 25% on the higher income earners. Increase the personal deduction to Kn 51,840. Eliminate all special and family deductions from personal income tax. Include income from capital and property in the personal income tax base..

HUP Proposal 2 Allow for a simplified personal income tax for entrepreneurs and other independent income earners. Tax income from small-scale agriculture and tourism the same way that other small entrepreneurs and independent income earners would be taxed. Reduce the overall social contributions rate on wages from 37.2% to about 30% while raising the maximum income base from an annual salary of Kn 458,000 to Kn 600,000.

HUP Proposal 3 Eliminate all special incentives for corporate taxpayers that are now included in the investment incentives law and that had been article 27 in the corporate income tax law. Eliminate incentives for areas of special concern Eliminate incentives for employment. Eliminate the tax-exempt status for companies operating in free zones.

HUP Proposal 4 Reduce the VAT rate from 22% to 20%, and abolish all intermediate rates. Eliminate the zero-rate VAT treatment, except for exports. Increase excises on petroleum derivatives and tobacco products.

Consider R&D Health sector wider reforms Property tax and new IGFR

Impact on distribution

Impact in market

Potential job creation Economic growth 15,506 Linear model mean expectation 19,278 low expectation 11,177 Elasticity model 34,754 20,997 Total mean 34,784 50,260 Total low 26,683 36,503

Where are we now Interlocutors say it is stuck. Maybe HUP just wants a flashy show for its efforts Next year is elections, but this confuses and confounds USAID is backing off?