Costa Rican Government Calls For Tax Reform Despite Improved Fiscal Position

by Leroy Baker, Tax-News.com, New York

05 January 2006

The Costa Rican government has announced a substantial improvement in the country's fiscal finances, thanks in large part to a huge increase in the amount of taxes collected during 2005. However, Finance Minister David Fuentes has warned that lawmakers must pass the long-delayed tax reform plan to ensure the future viability of the government budget.

According to the Finance Ministry, the country's budget deficit as of November 2005 was almost half the level it was at the same time in 2004, having fallen from 2.5% of GDP to 1.3%.

The dramatic improvement in the government's budget has come about thanks to a more aggressive tax collection campaign by the ministry which, according to Fuentes, has led to a huge 20.5% jump in tax revenues over the year as the government collected 1.14 trillion colons ($2.25 billion) from Costa Rica's taxpayers.

In addition, the ministry has reported that the launch of a new customs system, known as Information Technology for Customs Control (TICA) has led to a 57% increase in the amount of tax collected at the Pacific port of Caldera.

“We have to say that the country's fiscal situation has improved, I would say notably,” Fuentes told a recent press conference.

However, with debt repayments pushing government spending up by 9.3%, the minister went on to warn that there remains a longer term threat to Costa Rica's economic stability unless the long-awaited fiscal reform package, which proposes to raise tax revenues by $500 million is approved.

First put forward in 2002, the tax package has been a divisive piece of legislation and its opponents have used a number of delaying procedures to ensure that it remains bogged down in the legislative assembly, despite attempts to fast track the legislation.

The tax plan will introduce some major changes if passed, such as a switch to worldwide taxation from the current territorial tax system, meaning that tax will have to be paid on worldwide income by those resident in Costa Rica. However, a recent amendment has watered down the legislation somewhat, and would mean that worldwide income will only be taxed if brought back into the country. Foreign individuals living in Costa Rica who can prove that their income has already been taxed in another jurisdiction, or are able to show that income is to be invested in the country, would also be exempt.

In a bid to make the corporate taxation system more transparent and efficient, the bill proposes a general tax rate of 30% on all types of economic activity, a departure from the current system whereby companies declare and pay tax separately on each activity. This tax rate may fall to 25% within five years if revenues exceed economic growth.

Another important change will be the introduction of value added tax, or IVA, which will replace the 13% sales tax and expand coverage to all but a handful of exempt services, such as water and electricity up to certain usage limits.

Generally, it is thought that the tax reforms will increase the amount of tax paid by those earning more than $3,000 per month, and reduce the tax burden on those earning less than this amount.

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