Radical tax idea sparks debate

THE FATHER of Slovakia's flat tax has a new economic brainchild that he says would cut the country's high payroll taxes in half.

THE FATHER of Slovakia's flat tax has a new economic brainchild that he says would cut the country's high payroll taxes in half.

According to Richard Sulík, the co-author of Slovakia's 19-percent flat tax, the current system is simply too complicated. He says that changing the system is the only way to efficiently reduce Slovakia's payroll taxes to a level that would not encourage illegal labour and result in high unemployment.

Sulík is proposing that a single 20 percent payroll tax rate replace the 13 different payments that exist today. These revenues would be directed into a so-called redistribution fund.

Presently, citizens receive 57 different types of social assistance benefits. Sulík proposes that the state unify these into one basic social assistance benefit, a sliding-scale payment guaranteeing income at a subsistence level and providing elementary healthcare. All other social benefits would be cancelled. This would allow the state to reduce compulsory payroll taxes from the current 48.7 percent maximum to 20 percent across the board.

Under Sulík's plan, the amount of the social assistance benefit would change according to the recipient's income, but it would ensure a subsistence living and access to healthcare. The maximum calculation basis for the tax would equal 10 times the subsistence level. Those who wanted to save more than the subsistence minimum could invest in commercial healthcare or pension insurance.

There is no concrete political support behind Sulík's idea at this point. However, the Labour Ministry, which has several times declared that reducing payroll taxes is a high priority, is ready to scrutinize and discuss the proposal.

"Mr. Sulík to a certain degree represents the opinions of the national employers' association RÚZ, which initiated a working meeting with Minister [Ľudovít] Kaník in order to establish an expert group capable of evaluating possibilities to improve the business environment in Slovakia and where discussion of the reduction of payroll taxes undoubtedly belongs. The Labour Ministry has promised its active participation in the activities of this group," Labour Ministry spokesperson Martin Danko told The Slovak Spectator.

The Labour Ministry continues to see the reduction of payroll taxes as a gradual and continuous process.

"This policy is backed by fundamental reforms to the system of social security, which, within the pension system, shifted a great part of the pensions to the private second pillar. While the reform did not start at point zero, it is impossible to apply an immediate and radical reduction of payroll taxes because it would threaten hundreds of thousands of recipients of old-age and disability pensions that are covered by social insurer Sociálna poisťovňa," Danko said.

"The switch to a new system must be gradual and must be carried out in such a way that the social stability of society is not threatened. The length of this process does not depend only on the objective economic development, but also the political will of the current and mainly future governments, and to what measure they will view the issue as their priority," Danko said.

The advisory body of Finance Minister Ivan Mikloš also promised to address Sulík's proposal.

The ministry tentatively warned that a new system could potentially create a public finance deficit of Sk10 to 20 billion (€255 million and €511 million).

"The calculations of Mr. Sulík are tricky in that he suddenly assumes a higher collection of funds from firms and citizens by Sk30 billion (€766 million)," Finance Ministry spokesperson Peter Papanek told the financial daily, Hospodárske noviny.

Analysts have stressed that any significant reduction of payroll taxes is unrealistic during the current government's term. However, they still see Sulík's proposal as a worthy read.

"To be honest, I have not yet had time to carefully read through Sulík's proposal. From the highlights I have browsed through in the media, I can commend the proposal's simplicity, transparency and the significant reduction in the overall payroll tax burden it advocates," Zdenko Štefanides, a chief economist with the VÚB bank, told The Slovak Spectator.

Štefanides continued: "A meaningful reduction in payroll taxes - let alone a full adoption of Sulík's proposal - in the remainder of the present government's term is not realistic. Apart from the election cycle, the fiscal cost is one reason why a significant cut in payroll taxes will not be in the cards in the upcoming year or two. Further ahead, however, with wage costs gradually converging to EU levels, a significant reduction in payroll taxes will probably become inevitable if Slovakia is to retain its competitive position."

Local businesses find Sulík's proposal sympathetic to their needs. More than local business owners, however, want to see payroll taxes going down.

In late April, the World Bank recommended that Slovakia trim its compulsory payments to social insurance instead of playing with the idea of further reducing the 19-percent income tax rate.

The World Bank and European institutions claim that a high tax wedge (the difference between a worker's take-home pay and what it costs to employ him) is partly responsible for long-term unemployment in Slovakia.

Slovakia has one of the lowest income tax rates in the EU. However, income taxes make up just a small sliver of the overall tax wedge, while payroll taxes make up the greatest portion.

In Slovakia, payroll taxes are among the highest in the union. Slovakia also has the second highest payroll taxes among the countries of the Organization for Economic Cooperation and Development (OECD), based on an analysis by Ernst & Young.

Only France, which pours 70 percent of its citizens' gross income into social programmes, is ahead of Slovakia on the payroll ranking.

"Payroll taxes represent almost 50 percent of a person's gross income. In practice, it indirectly leads to supporting illegal employment," said Peter Chrenko, head of Ernst & Young's Slovak office and the company's tax consulting division.

Last month, Labour Minister Ľudovít Kaník proposed to cut sickness insurance premiums in half for the self-employed, recommending that they make payments equivalent to 2.4 percent of their taxable income rather than the current 4.4 percent. The ministry also wants to reduce sickness insurance premiums for businesses. Instead of asking employers to put the equivalent of 1.4 percent of an employee's taxable income toward sickness insurance premiums, the ministry would require employers to pay only 1 percent.

Though the business was appreciative of the effort, many warned that the proposal would not ease the financial burdens of the self-employed.

For example, they would save just Sk200 (€5) per month on average. The proposal would not greatly impact businesses, either. An employer would save just Sk70 (€1.80) per employee per month (based on an average income).

However, advantages of investing in Slovakia still outweigh the negatives of the high payroll taxes.

Slovakia, along with Germany, has the most benevolent conditions when it comes to tax paid by mother companies to their daughter, says Ernst & Young.

Chrenko explained that the Slovak tax system is designed to attract production investments and it meets the conditions of investments designed to create new jobs in the short term. In other words, the system is not geared to attract investments that produce added value in the long run.

"An investor who plans to build a greenfield factory here for producing cars is interested in something else than an American company that wants to shape a holding company by buying up attractive enterprises," Chrenko explains.

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