LOWER TAX REVENUES PUT GOC IN FISCAL SQUEEZE

UNCLAS BOGOTA 002223 SIPDIS E.O. 12958: N/A TAGS: ECON EAID ECIN EFIN CO SUBJECT: LOWER TAX REVENUES PUT GOC IN FISCAL SQUEEZE SUMMARY: The GOC will soon (most likely mid-July) propose new tax reforms to address recent and anticipated future losses in tax revenue, caused by the financial crisis and the 2010 termination of specific taxes. Through these changes the GOC plans to raise an additional USD 1 billion in revenue, which is much needed to finance investment and infrastructure to steer Colombia through the financial crisis, as well as to continue to finance the high costs of defense and security. While widening the tax base would be the best long-term solution for revenue stability, the GOC is settling for a short-term and politically easier fix. END SUMMARY. Concerns About Continued Decline In Tax Revenue -------------- -- ¶2. The GOC is facing decreasing tax revenue growth, with indicators pointing to more serious problems in 2010. In the first half of 2009, Colombia's tax revenue grew 1.5 percent compared to the first half of 2008, significantly lower than the 11 percent increase from the same time period 2007. Colombia's statistics department forecasts that 2009 and 2010 tax revenue will total USD 34.6 billion and USD 35.1 billion, respectively -- reducing tax revenue from 13.6 to 13 percent of GDP. Local experts tell us the reductions in tax revenue would normally not generate such concern, but given the GOC's central role in Colombia's recovery from the economic crisis and the extensive tax breaks instituted to spur investment, tax reform to offset these breaks is now necessary. Former Finance Minister Jose Campo told us, "the decrease in tax revenues will generate problems for the GOC and what the country needs is a structural tax reform and to tackle some of the existing tax breaks." New Tax Reform Planned By GOC -------------- ¶3. To address collection concerns, Minister of Finance Oscar Zuluaga announced July 9 that the GOC will soon submit a tax reform bill to Congress, most likely in mid-July. The bill targets the wealth tax put in place on a temporary basis to help fund the government's battle against narco-terrorism. The wealth tax, which is based on net worth and scheduled to terminate in 2010, is the third primary source of Colombia's tax revenue: income 42 percent, value-added 29 percent, and wealth 3 percent. The new bill also calls for adjustments to taxation of fixed assets, and gives he government flexibility in management of judicial security contracts. The GOC hopes to raise an additional USD 1 billion in revenue through the changes. ¶4. The bill will extend the wealth tax by four years, imposing a tax of 0.4 percent and 0.6 percent for individuals with net worth in excess of USD 1 million and USD 1.5 million, respectively. (NOTE: Several local experts said they believe the wealth tax should be imposed for individuals with net worth of USD 100,000 or more, applying it to the middle as well as upper classes, but that would not be politically feasible. END NOTE.) In an effort to modernize Colombia's industrial sector, the reform will also reduce income tax exemptions from 40 to 30 percent for companies that reinvest their profits through acquisition of fixed assets. Lastly, the GOC is considering altering prospective judicial security contracts -- which ensure existing tax laws regulating the private sector will remain consistent over a set time-frame -- by giving the government the flexibility to institute "temporary" additional taxes if necessary. Existing judicial security contracts would not be affected. Comment: Tax Reform: May Not Like It, But It's Necessary -------------- -------------- ¶5. President Uribe has never backed broad-based tax reform; the efforts of former Finance Minister Carrasquilla died on the vine in 2006, during boom years, in great part due to the lukewarm support of Uribe. Now, however, the need for greater revenue stability has become apparent as the GOC struggles to put its fiscal house in order in lean times. The myriad exemptions and incentives the GOC has offered to spur investment have hamstrung policymakers by limiting revenue raising options. While extensive reforms designed to broaden the tax base would be the best long-term solution for revenue stability, the GOC is forced to settle for short-term (and politically easier) fixes, and hope that a quick return to a growth path will resolve the current revenue crunch. Brownfield