GOVERNMENT RECONSIDERS AMOUNT OF TAX FOR ENERGY USE

C O N F I D E N T I A L REYKJAVIK 000202

SIPDIS

TREASURY FOR MYERS AND NORTON
NSC FOR HOVENIER
COMMERCE FOR DERSTINE

E.O. 12958: DECL: 11/10/2019
TAGS: ECON EFIN IC PGOV PREL
SUBJECT: GOVERNMENT RECONSIDERS AMOUNT OF TAX FOR ENERGY USE

REF: A. REYKJAVIK 191

B. REYKJAVIK 176

Classified By: CDA SAM WATSON FOR REASONS 1.4 (B) AND (D)


1. (C) SUMMARY: Recent actions by the government of Iceland
(GOI),including a proposal to introduce a significant energy
tax in the 2010 budget bill (reftel B),have raised concerns
about the current environment for foreign investors.
Implementing significant tax increases ex-post-facto, for
example, could disadvantage American companies currently
operating in Iceland and significantly hinder Iceland's
ability to attract needed foreign direct investment (FDI).
Over the past few weeks, the Charge d'Affaires (CDA) has
conveyed such concerns to various high-ranking members of the
GOI including: representatives in the offices of the Prime
Minister and President as well as the Ministers of Economic
Affairs, Environment, Finance, Foreign Affairs and External
Trade, and Industry. GOI officials appear to understand the
message and assured CDA that Iceland wants to take steps
necessary to attract FDI while also taking into consideration
the nation's fiscal challenges. Now the GOI has, in fact,
walked back the proposed energy tax and is engaging industry
leaders in the process. END SUMMARY.

The Aluminum Industry
--------------

2. (C) The aluminum industry has been one of the more vocal
opponents of several recent GOI actions and expressed concern
that the GOI wants to kick it out of the country. In recent
months, government decisions have resulted in the cessation
of plans to build a smelter in Bakki and a delay in
construction of a new smelter in Helguvik. Plans to expand a
third smelter in Straumsvik are also being called into
question. In addition, the first draft of the 2010 budget
bill proposed implementing an energy tax of one ISK per kWh
(0.8 cents) for electricity usage. This proposed tax has
generated anger among many businesses, but particularly the
aluminum industry because it chose to locate in Iceland for
the low power costs and it accounts for about 80% of the
country's electricity consumption. Executives from the two
American-owned aluminum smelters, Alcoa and Century Aluminum,
expressed concern to CDA that such action could violate their
existing investment agreements and significantly reduce the
companies' profitability. They estimate the tax at one ISK
per kWh would create an additional expense of 13.2 billion
ISK ($106 million) per year. Equally troubling, said
aluminum representatives, is that they first learned about
the proposed tax in the newspaper. Communication with the
government, they complained, has been virtually non-existent
since the new government (with the pro-environment
anti-aluminum Left Greens as a partner) took control earlier
this year.


3. (C) GOI officials across the board, including the Minister
of Environment Svandis Svavarsdottir, have told CDA that they
do not want the aluminum companies to leave Iceland. All
recognize the importance of this sector as one of the
country's largest employers and largest export industries.
(Note: the aluminum industry accounts for almost 42 percent
of exported goods and 29 percent of overall export revenues
for Iceland. End note.) Their size and importance is one
reason the aluminum industry should not be excluded from
rebuilding the country, said Minister of Industry Katrin
Juliusdottir. Minister of Finance, Steingrimur Sigfusson,
also acknowledged that it would be healthy for some aluminum
projects to go forward as they would create additional jobs
and revenue for the state. (Note: the Minister of Finance
was referring to continuation of projects already under way -
construction of a new smelter for U.S. company Century
Aluminum and expansion of the Swiss-Canadian Alcan smelter.
End note.)

Justification for Tax Increase
--------------

4. (C) The Minister of Economic Affairs, Gylfi Magnusson,
told CDA that increasing tax revenue is essential to close
the fiscal gap and stimulate the economy. He noted that the
tax base has eroded in the last year, especially in the
corporate sector. Aluminum companies argue that the proposed
energy tax of one ISK per kWh (0.8 cents) targets the
industry unfairly and will force the businesses to cut back
on operations. (Note: this tax would apply to all consumers
of electricity, not just the aluminum industry. Aluminum
companies, however, would shoulder the majority of the tax
burden since they utilize about 80% of the nation's
electricity. End note.) Minister of Industry Juliusdottir,
however, asserted that the GOI will not allow taxes to
suffocate industries. She and other Ministers told CDA that
the one ISK per kWh (0.8 cents) mentioned in the first draft
of the budget had merely been an example, but was too high.
As of November 9, the GOI is proposing a tax of 12 aurar (0.1
cents) per kWh. (Note: Reykjavik households pay about seven
to eight ISK (about six cents) per kWh for electricity, and
the aluminum companies pay undisclosed lower amounts. Energy
prices for aluminum firms differ based on agreements signed
with the government. End note.) Finance Minister Sigfusson
reiterated that all must share the burden of rebuilding the
economy, and while aluminum companies may not be happy about
it the GOI hopes the final solution will be considered fair.
Foreign Minister Skarphedinsson assured CDA that he was
working to broker a compromise that would enable the firms to
continue to operate in Iceland and not close off potential
future investment into the country.

Future Direction
--------------

5. (C) The GOI recognizes the importance of creating a more
comprehensive, standardized environment to attract FDI.
Minister of Industry Juliusdottir told CDA that she intends
to create a clearer, more general framework for FDI rather
than negotiating with companies on a case-by-case basis.
Investors should know what to expect, she said, regarding the
legal environment, financial environment and taxation.
Simultaneously, Minister of Finance Sigfusson is working on
creating a long-term vision for the country's future
development. He acknowledged the need to harmonize
incentives and the duration of investment agreements, and is
considering introducing possible deductions for new
investment and incentives for start-up periods. Last week,
Sigfusson introduced two bills to parliament providing
incentives for Icelandic high tech and research and
development companies.

Comment
--------------

6. (C) GOI officials understand the importance of FDI in
rebuilding the nation's economy. Though the government has
been slow to implement changes to create an attractive
investment climate, it recognizes that steps need to be taken
to attract, or keep, investment. Plans to create a clearer,
comprehensive framework for FDI and to introduce incentives
are two examples. In addition, as CDA stressed in meetings
with the Ministers, it is important that key industry players
be included in process. The government appears to have
accepted the notion as several aluminum representatives, who
earlier approached the Embassy in frustration after being
kept out of the discussions, recently thanked the Embassy for
getting them a seat at the table and nudging the government
away from the initial tax proposal. The reduction of the
proposed energy tax from one ISK (0.8 cents) to 12 aurar (0.1
cents) resulted from consultative talks between the GOI and
the Association of Icelandic Employers, of which the aluminum
companies are the largest members. While current plans and
proposals are still subject to change, the ideas under
consideration and initiation of dialogue are steps in the
right direction for U.S. firms. End comment.
WATSON