Latvia reduces tax rates


On 6 June, 2012, the Latvian official gazette published amendments to the Value Added Tax Act and Personal Income Tax Act.

According to the amendments, from 1 July 2012 the standard rate of value added tax is reduced from 22% to 21% on taxable transactions. However, the law provides for transitional provisions – if a supply of goods or a provision of a service took place until 30 June 2012, but the tax bill has not yet been drawn, then a 22% value added tax rate should be applied.

The personal income tax rate will be reduced gradually over the next three years. Currently personal income tax rate is 25%, but for fiscal year 2013 the tax rate will be 24% of the annual taxable income (for salary tax payers the tax will be calculated on a monthly basis), for 2014 – 22%, but in 2015 the rate decreases by 2% to reach 20%.

One of the main reasons behind the reduction of the value added tax rate is intent to level it with the VAT rate of the other Baltic States, noting that in Lithuania the standard VAT rate is 21%, and in Estonia – 20%. Latvian rate, however, is still much higher than it was before the first substantial raise that occurred on 1 January 2009 (from 18% to 21%). The Latvian government hopes that this lower rate will enhance the Latvia’s regional competitiveness and reduce the prices increased by inflationary pressure on the general population.

Although the reduction of the personal income tax rate concerns Latvian municipalities, whose income is largely based on the personal income tax, in the legislator’s view this reduction will contribute to a boost in the local commercial activity as the labour costs are likely to decrease for the employers. Considering the fact that Baltic countries are competing for investments and struggling to increase employment, Latvia seeks to provide tax expenditures equivalent to those of Lithuania and Estonia. Reducing the overall tax burden on labour, hopefully, will reduce the poverty and structural unemployment risks, as well as the ‘grey’ economy and the motivation for tax avoidance.

Ministry of Finance forecasts growth of consumption in the second half of the year and in the coming years, which would increase revenue to the state budget, thereby partially offsetting the reduction due to the decrease of the standard VAT rate (the fiscal impact for the 2013 is estimated at 40 million lats, and for the 2nd half of 2012 – somewhere around 17 million). Only time will tell whether the given reduction of the tax burden would minimize the effects of inflation and provide for the consumption growth, as well as promote business activity.

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