Instead of the tax reform promised for nearly a year, there are only minor cosmetic and decorative amendments to tax laws, while at the same time, in 2024, many companies will feel changes in tax control procedures.

This is what Ieva Liepiņa, head of the sworn auditors' firm SIA Ievas Liepiņas birojs, says in an interview with Dienas Bizness. She finds it sad that the state has no medium-term tax system plan and that everything happens at the last minute, just like in a constant state of emergency, which unfortunately is beneficial to those who feel more comfortable in murky waters and also gives the controllers “freer” hands, as they can change conditions whenever they wish without even properly informing the taxpayers who might be affected.

What is the current situation?

Strange, because for nearly a year – since the end of 2022 – a comprehensive tax reform has been promised, which would be able to solve more than one pressing issue. The 2024 draft state budget and the accompanying draft amendments to tax regulations have been submitted to the Saeima, and it is impossible to “see” this tax reform within them. Yes, there are several positive initiatives! For example, a proposal that an employer will not have to pay personal income tax on the coverage of an employee's higher education tuition fees, although only in the field of medical services. Of course, for this to happen, several criteria will need to be met, which means substantial bureaucracy. The increase in the amount of health or accident insurance premiums from the current €426.86 to €750 is welcome. But that is largely it. There will be no radical tax changes at the start of 2024; alcoholic beverages and tobacco products will become more expensive, the minimum wage will be increased (from €620 to €700), and consequently, there will also be a higher minimum mandatory state social insurance contribution payment.

What were you hoping to see?

Several tax laws are more reminiscent of a patched-up quilt, as many changes have been made, even amendments to amendments, which are difficult to understand. Thus, in 2024, we will be able to celebrate the 30th anniversary of the law “On Personal Income Tax” and the 29th anniversary of the law “On Taxes and Duties”. A well-thought-out and comprehensive tax system reform for the physically and morally outdated tax regulatory framework would be more than necessary. Why? Because both of the aforementioned regulatory acts have been saturated for decades with amendments, improvements, and deletions, to the point that for the least protected group of taxpayers – individuals – the system for calculating income tax, including the accounting of economic activity and the determination of taxable income, is incomparably more complex than it is for companies. Interestingly, the nuances of calculating personal income tax and the procedures for completing the required annual income declarations change every year, and a person without special, in-depth knowledge of taxes and finance can neither keep track of nor understand the path of calculating the taxes payable, because a number of algorithms are hidden within the annual income declaration form, and an individual cannot possibly know what, for example, the annual weighted average personal income tax rate applied by the State Revenue Service (VID) will be. This is precisely why there has been a long-standing discussion about the need to simplify the procedure for calculating and declaring an individual's taxes, which would undoubtedly create a much more positive attitude towards tax administration and encourage the desire to pay taxes and live “with a quiet heart, sleeping peacefully at night”. Is it really more advantageous for the state and the ruling political forces if the individuals submitting declarations get angry every year? Why? Most are unable to correctly fill out the state-required declaration on their own and do not understand how specific figures appeared in the EDS system (both regarding what needs to be paid extra and what for)? The process is further complicated by the fact that tax regulations do not change, but the tax administration has changed something in its understanding, meaning that the way it was when filling out the declaration for 2021 is no longer the way it is when filling out the declaration for 2022.

A draft amendment on universal income declaration had been prepared and accepted by the Cabinet of Ministers, but it was “withdrawn” from circulation a few days later.

There has been much talk about the shadow economy in Latvia and fighting it. This year, at a government session, a prepared draft amendment to the Law on Personal Income Tax was reviewed and accepted, which provided for the mandatory submission of an annual income declaration for the majority of Latvia’s residents, specifying not only income received from paid employment (pensions, benefits) but also gifts exceeding the value of €100, as well as income from the sale of private property. A few days later, this project was “taken back”. I would like to remind you that the need to declare all income was talked about as early as the beginning of this century, which resulted in the first step in 2012 with the so-called initial declaration. No other steps have been taken in this direction. Currently, to start comprehensive personal income declaration and its control, the least protected group of the population would have to remember what initial declaration even was, what was declared in it, and carry out the remembering and accounting of all transactions performed over the course of 10 years. In fact, the lack of political will for perspective tax planning has created a situation where a person will have to seek the help of professional consultants just to be able to “get on” the path of declaring all income. This will only create stress, dissatisfaction, and resistance, and not towards any specific politician or official, but towards the state as a whole.

The initial desire was to introduce the declaration for everyone, even infants, it didn't matter if you had to write zeros in the income columns and perhaps have parents' purchases – nappies, clothes, food – “counted” as a gift, asking everyone to indicate even data that can already be found in state registers. Common sense prevailed and the initial declaration only had to be filled out by those who had antique objects, property, vehicles abroad, or money kept at home in a “land bank”. Do officials have nothing to do, and is the best way to frustrate seniors who receive less than €500 so that they fill out income declarations only in the EDS, without knowing what it is?

An income declaration is needed for a specific group of the population whose standard of living does not correspond to officially declared income, not for 80-90-year-old elderly people who truly know nothing about the EDS and receive less than €500 per month “in hand”. For several years now, every summer, I visit relatives of a respectable age who receive a pension and help them fill out personal income declarations so that the state refunds them the personal income tax paid from their small pension in the amount of €10-50 for the medical services they paid for themselves. I think the current procedure makes them second-class citizens in a way, because legally they are entitled to it, but if a person does not know and cannot fill out the EDS form, they are entitled to nothing. That is neither fair nor legal, it should not be that way.

Will declaring gifts over €100 achieve a reduction in the shadow economy, and will the state collect tens or hundreds of millions of euros extra? Won't there be the opposite effect, where the controllers have more work, but a person, without even knowing it, has become a fraudster or an offender because they didn't list something in their declaration?

If this issue can be solved reasonably elsewhere, it is also achievable in Latvia. But there is no return and little point in income declarations from people who have zeros or a few thousand euros and live very modestly. There is only point in declarations where income is, for example, at the level of the minimum wage, but the filers live with a flair that obviously does not correspond to the amount of income. It should be noted that amendments have come into force this year that provide for more drastic tax control for legal entities, and the “first flowers and fruits” of this will be able to be tasted as early as 2024.

Where are they?

Despite the absence of the tax reform surrounded by mystical tales, 2023 has brought significant changes to VID tax control procedures. Namely, on 30 June of this year, amendments to the law “On Taxes and Duties” came into force, which establish a new tax control scheme and mark the beginning of an era of significantly more aggressive tax collection. A new mechanism for carrying out tax control was introduced – a tax administration audit, during which it evaluates and checks the compliance of information indicated in declarations with regulatory acts; in accordance with information at its disposal and the actual situation, the VID conducts an inspection of specific taxpayer accounting documents and the place of the taxpayer’s economic activity, as well as other activities that result in controlling compliance with specific tax (duty) or customs regulatory acts. Four scenarios are provided for how tax control initiated by the tax administration is terminated:

1) by taking a decision to terminate tax control if no additional tax (duty) payments to the budget are determined as a result of the inspection;

2) on the day of signing an agreement contract;

3) if the taxpayer has not eliminated the non-conformities identified by the tax administration, or has not submitted a justified explanation, or has not concluded an agreement contract, by issuing a tax control bill;

4) by taking a decision to carry out a tax audit if it is not possible to determine the impact of the non-conformities identified in the tax control on the taxpayer’s tax (duty) liabilities without obtaining additional evidence.

I draw your attention to the fact that the aforementioned amendments stipulate that the result of a tax audit and the decision of the tax administration are now final and non-appealable. It is expected that the introduction of these tax control reforms will shorten the period for conducting inspections, simplify the presentation of tax claims (in a tax bill), and that the said tax bill must be paid within the specified period, only after which the taxpayer will have the opportunity to challenge the amounts included in the tax bill. As far as I know, the first inspections based on this novelty have already taken place; it remains to await the results. I suspect they could be surprising, and accordingly, companies could be put in the public pillory.

Is a public pillory for fraudsters being introduced in Latvia?

If this were only applicable to real tax evaders, scammers, and fraudsters, that would be one situation. Unfortunately, those who pay taxes but have a dispute with the tax administration, which “checks” the relevant documents longer than usual and they “become tax debtors” for a while, can also be “nailed” to it. It is well known that an entrepreneurs' rating – a three-tier advanced cooperation programme – has existed in Latvia for many years, but a significant innovation will be introduced from 2024, when the VID will ensure the publication of the rating of Latvian companies. In total, companies will be able to receive one of five overall rating assessments, which will be visible publicly. The overall rating assessment will be provided for commercial companies, branches of foreign companies, peasant farms, fishing farms, and individual enterprises if they prepare an annual report. It is explained that the new system has two tasks. Firstly, companies will see their own tax payment discipline in detail, which influences and on which further cooperation with the VID depends. Secondly, on a general level, without detail, the rating will be visible publicly, which will facilitate inquiries about a company's situation for its cooperation partners, customers, and other interested parties. Even though the overall rating assessment of companies will have an informative nature, it can turn into a peculiar weapon for market redistribution, for starting in public procurements, it can be a reason for other cooperation partners to refuse such a cooperation partner who is at the “pillory”, etc. Why? Regulatory acts do not explain in what cases the tax administration will put a specific company “in the pillory” – if the company’s tax debt on a specific date exceeds, for example, €100, if it hasn't submitted some report or account by a specific date, perhaps an explanation, or if the tax administration is resolving a dispute with the specific company in court, where there is no final decision yet. And what will happen if after five years of litigation the company has proven its righteousness in court? Specifically who (official, boss, or perhaps the institution) will pay for the damaged reputation and business losses? No one! I fear that the tax administration will be able to “label” taxpayers at its own discretion, which, in turn, can create unpredictable consequences. There are entrepreneurs who believe that the “public pillory” is a feature of a totalitarian regime, which until now has only been used by one country in Asia. You have to reckon with the fact that the tax administration’s interpretation, approach, and methodology in classifying and evaluating some transactions can change, for example, you carry out transactions with a company that is “in the pillory”, you provide explanations as to why you continue cooperation, or you yourselves will end up at this pillory.

Are there any specific examples?

Unfortunately, there are, as there have been precedents where the tax administration’s approach and methodology change, even though there haven't been amendments in the relevant taxes or changes adjusting their calculations in the Cabinet of Ministers or the Saeima. For example, in 2018, a corporate income tax reform was carried out, when it had to be paid when dividends were paid out or purchases (transactions) equated to dividend payments were made. At the same time, the Cabinet of Ministers’ regulations on what this tax declaration should look like are more reminiscent of a protocol of good intentions with lines of poetry that can be understood however one wants. As a result, the tax administration understood the norms of the Corporate Income Tax Law differently than the taxpayers. One example – the issuance of loans to related parties, which may be issued without payment of this tax for up to one year; if repayment occurs later, corporate income tax must be paid on the loan amount. There have been precedents where a company pays profit tax on a loan to a related company in order to have a more peaceful life and hopes that it can be recovered the following year because the debtor repaid the debt, exceeding the 12-month term. On the other hand, the tax administration’s EDS system does not allow anything of the sort, and this previously paid and subsequently recovered corporate income tax can only be used as a set-off (payment) exclusively as a reduction in corporate income tax for paid-out dividends. What to do if dividends are not distributed? The relatively recovered tax remains at the state’s disposal for an indefinite period. There is not a paragraph or a word about such a mechanism in the law. In fact, the tax administration set the rules of the game during the game. Another example, where I can actually understand the change in conditions. Namely, companies received COVID-19 pandemic grant payments and asked where this income could be spent? Initially, the answer was that this money could also be used for dividend payments to owners, which was also used relatively widely. After several months, this practice was banned without any amendments to regulatory acts. These are not examples of good management practice, even though the public administration should be the frontrunner in this field.

So changes are needed in the existing corporate income tax system?

Currently, some have been prepared and are being applied to financial institutions, which, contrary to the existing essence of corporate income tax – profit tax is paid only when dividends are paid out – would have to pay this tax from the profit earned, regardless of whether or not dividends are paid out. At the same time, there is no visible draft amendment to the Corporate Income Tax Law, which is provided for by an EU directive, which requires reducing the corporate income tax rate for regular dividend payers as early as 1 January 2024, and from 2025, the rest of the directive’s requirement for a differentiated corporate income tax. Whether this implementation of EU requirements in Latvia will again happen in great haste and a few days before the official implementation deadline, time will tell. In any case, tax changes must be known at least a year before they enter into force, and before their adoption there must be discussions involving taxpayers, not just tax collectors and policymakers. Likewise, there must be a clear collection methodology; it must not change during the “game” just because the tax administration has changed its initial opinion or approach. That would be good state practice, because in the end, it is the entrepreneurs who pay taxes into the state treasury, which politicians redistribute for the needs of society. It is sad that the state has no medium or long-term tax system plan and that everything happens at the last minute, as if the state were constantly in a state of emergency, which unfortunately is beneficial to those who feel more comfortable in murky waters and also gives the controllers “freer” hands, as they can change conditions whenever they wish and might not even really inform those who could be affected.