The Covid-19 pandemic has made adjustments to the development plans of many companies over the past two years, while national governments have taken steps to both deal with the effects of the pandemic and attract investors.
This is shown by the BDO study on competition in the Baltic States. The tax system is never standing still and is undergoing various changes, which are dictated by both technological developments and changes in the structure of the economy, as well as crises, currently - Covid-19.
It is a bit surprising that in a situation when entertainment and relaxation in water parks is prohibited in Latvia, Estonian entrepreneurs advertised exactly such services, because the northern neighbor did not prohibit such services. This is just one aspect of how the Baltic States compete with each other to attract neighboring tourists. And we must not forget about the activities of Latvia’s southern neighbor - Lithuania and its’ activities performed in order to attract the people of our country to go to this country. Of course, in all Baltic countries, maximum gas and heating tariff ceilings are set to curb energy resources inflation, as well as electricity distribution and OIK payments are abolished, unlike Poland, which simply reduced the VAT rate on all energy resources, including fuel and the rate of this tax for food set at 0% for six months. In turn, all the Baltic States are unified by increasingly empty ports, as the transit of cargo from Russia and Belarus has become stagnant in the context of the events of recent months and their replacement with other cargo will be a challenge not only for the ports of Riga, Ventspils, būt also Klaipeda and Tallinn.
Games with VAT rate
Value added tax (VAT) is important for tourists as well as locals, and although in general in the Baltics the basic VAT rate is almost the same for all countries, in the conditions of a pandemic only Lithuania has resorted to apply a reduced rate of this tax. Namely, by the end of this year, the value added tax rate in Lithuania, Latvia’s southern neighbor, has been reduced from 21% to 9% for restaurant, cafe, catering, hospitality, sports and cultural services. The reduction in this tax rate is intended to ensure that the sectors affected by the bans and restrictions on the coronavirus recover as quickly as possible. Nothing like this has been implemented in Estonia or Latvia.
Of course, it should be noted that Latvia is the only country in the Baltics that has a reduced rate of 5% for fresh vegetables, berries and fruits, būt since 2022 also for newspapers and magazines. In Estonia, the reduced VAT rate of 9% is for books, newspapers, magazines, medicines and hotels. Latvia also has another reduced VAT rate of 12%, which is applied to medicines, passenger transport, hotel services and wood fuel supplies. In the context of reduced VAT rates, Latvia is basically a kind of a leader, although in other EU member states all food is subject to a reduced VAT rate, for example, in Poland from February 1, even of 0%. Such a measure is aimed to protect the population against the risk of food price inflation.
Many indicators
Potential investors want to make money, not to pay taxes or create new jobs, so those who have the money and willingness to invest are very careful about everything that will affect their investment conditions, rate of return, competitiveness, availability of labor, infrastructure, activities ensuring the availability of the necessary services and, of course, possible state (municipal) support. Representatives of different spheres have very different factors of interest - for example, potential investors in the real estate sector are most interested in the issues of building permit conditions, deadlines, who pays for the necessary infrastructure - water, electricity, heat, street and road construction, also information on the amount of real estate tax, while in the manufacturing industry - the availability of adequate premises and workforce and, of course, corporate income tax.
Corporate income tax factor Although several years ago Estonia was the only country not only in the Baltics, būt even in the world, where corporate income tax had to be paid only if profits were distributed in dividends, now for several years the same procedure has been operating in Latvia.
It seems that in 2017, Estonia decided to reduce the corporate income tax rate for regular (annual) dividend payers from 20% to 14%, which means that the northern neighbor will apply for a profit center position throughout the Baltics, since in Lithuania the rate of this tax is 15%, būt the effective rate is even lower, because it is reduced by various costs and the amount of depreciation.
The introduction of a 14% corporate income tax rate in Estonia should be seen as a response to the corporate income tax reform in Latvia. Dividend recipients in Estonia, even if they pay 14% corporate income tax, still have to pay 7% personal income tax on the dividends received, while in Latvia, when receiving dividends, personal income tax is 0%.
Lithuania’s decision to introduce a 20-year corporate income tax rebate for those private investors who will invest at least 20 million EUR in the southern neighbor (in the Vilnius region - 30 million euros) and will create at least 150 (in the Vilnius region - 200) new jobs, should be considered a very important signal for attracting investors. It is interesting that only private investors, and not state-owned and municipal companies, can expect a 20-year income tax holiday.
In fact, Lithuania has introduced a similar mechanism to the one that existed in Latvia until 31 December 2017, only with the difference that the amount of investment in our country had to exceed 10 million EUR, būt the southern neighbors have differentiated the amount of this investment. However, it is too early to judge the impact of this instrument on attracting investments in Lithuania.
It should be taken into account that in Latvia, free economic zones attract industrial investors - in Liepāja, Rēzekne, Latgale and also in Ventspils. In the conditions of fierce regional competition for foreign investments, there are questions about the competitiveness of the offer of Latvia’s industrial zones (appropriate premises, infrastructure) and special economic zones (in the amount of real estate tax and corporate income tax rebates) in comparison with the existing conditions in the Polish and Lithuanian special zones.
Latvian specifics
An interesting solution for “stimulating” small business should be considered the decision of Latvia to set a 25% annual income for microenterprise taxpayers up to 25,000 euros and a 40% rate for income that will exceed 25,000 euros per year.
In Lithuania, 5% is for companies with less than 10 employees and a gross annual turnover of less than EUR 300,000 (subject to certain conditions).
Small businesses in Estonia account for 20% of distributed profits (income is not taxed until it is distributed). The 14% rate is applied if the distribution of profits is regular and dividends are received by legal entities, (www.roedl.com/en-gb/de/about-us/locations/ latvia/Documents/roedl-partner-tax-table-est-lva-ltu-2021.pdf)
The most advantageous in Estonia
Assessing the personal income tax rates, it must be concluded that out of all three Baltic countries, it is most advantageous for the holding companies and information technology companies, their directors and top managers to be located in Estonia, because their salaries are taxed at 20%, while in Latvia - 31%, būt in Lithuania even 32%. It should be noted, however, that in the southern neighbor, the rate of 32% has to be paid only for income exceeding 8690 euros per month, up to this threshold it will be 20%.
Unlike Latvian employers, Lithuanian and Estonian colleagues do not have to pay a solidarity tax on income in excess of € 78 100 per year. In recent years, start-up hunting has been in vogue and the countries in the Baltics are competing with each other to attract such start-ups. Although the theoretical tax reductions for startups are very impressive, obtaining the relevant status is bureaucratic and without obtaining it the tax burden for start-ups in Latvia is the highest not only in the Baltics, since in Poland an employee of such a company will be paid almost twice as much as in Latvia. Of course, if the status of such start-up companies is obtained, then Latvia is competitive with Poland and even more so with Lithuania.
As Lithuania has implemented key reforms in the area of compulsory state social insurance contributions, where the rate has been reduced from 40.2% to 21.29%. Particularly favorable treatment is given to employers, whose contributions have been reduced from 31.2% to just 1.47%. In turn, the amount of employees’ contributions has been increased from 9% to 19.5%. In addition, similarly to Latvia, the southern neighbors have introduced the maximum amount of compulsory state social insurance, būt this is not the case in Estonia. In the northern neighborhood, on the other hand, the rate of compulsory state social insurance contributions is the highest, reaching 37.4%, which is even higher than the 34.09% set in Latvia. It should be taken into account that in Lithuania, for example, a special health tax of 9% has been introduced, būt this is not the case in Latvia and Estonia.
The minimum level
There is still a kind of competition in the Baltics for the amount of the non-taxable minimum. From 2022, personal income tax in Latvia will not be subject to 350 euros, būt from 1 July this year it will be 500 euros per month. At the same time, the personal income tax-free minimum of 500 euros has been in Estonia for several years, while in Lithuania it has been set at 350 euros. It should be taken into account that in Latvia and Lithuania there is a differentiated personal income tax-free minimum and thus only low-wage earners benefit from it, while large wages are not entitled to it.
Property taxes
In Baltic States Estonia is the friendliest for real estate managers and especially renovators, where they do not have to pay real estate tax on buildings. Namely, the real estate tax policy in Estonia is significantly more favorable for the owners of buildings, especially the managers of old, architectural monuments, because when renovating them, the real estate tax will not increase, unlike in Latvia or Lithuania. Thus, the northern neighbors have found a great opportunity not to burden those building owners who have invested money in their renovation with an additional tax. In Lithuania and Latvia, the real estate tax policy is similar, although the size of the applicable tax rates is different. Unlike the neighboring countries of the Baltics, Latvia has a very detailed gradation of tax rates, for which property a real estate tax rate must be paid.
ICT specialist startup hunt
Gross salary €3000 per month (without dependants) Net salary:
- Poland €2530 (first 6 months and €2475 for the next two years)
- Lithuania €2127 (two years)
- Latvia* €1715
- Estonia €1600 ‘-without special status for start-ups
Special regime for small business
- Latvia 25% until an annual income of €25 000,40% above €25 000
- Lithuania 5% for companies with fewer than 10 employees and a gross annual turnover not exceeding €300 000 (subject to certain conditions).
- Estonia 20% of distributed profits (income is not taxed until distributed). 14% rate applies if the distribution of profits is regular and dividends are received by legal entities.
Source: BDO research
Source: Baltic Business Quarterly