Mauricio Cárdenas, minister of finance and public credit, has acknowledged that the Colombian budget for 2016 is under pressure. In November 2015 in a statement to the press he calculated that as a result of the drop in international oil prices the government would face a revenue shortfall of COP20.3trn ($7.5bn) in the period between 2013 and 2016. Then, in December 2015 he told Reuters that Colombia could issue new debt on international capital markets in early 2016. The government had already covered half its 2016 financing need of $3bn through a bond issue in September 2015, but Cárdenas said, “It is always good to cover our financing needs in advance.” Despite further downward adjustments to the government’s oil-related revenues, the minister said the government would stick to its self-imposed target of limiting the central government deficit to no more than 3% of GDP in 2015 and 3.6% in 2016.
The 2016 budget was approved by Congress in October 2015, with total expenditure of COP215.9trn ($79.5bn). Cárdenas described the approach as one of “intelligent austerity”. He stressed that the budget, which assumed GDP growth of 3.5% and a small improvement in oil prices (with Brent crude rising 7.7% to $64.60 a barrel), was nevertheless the first of its kind designed for a “post-oil boom” era. In nominal terms the total spend was up by 2.5% on 2015 – a fall in real terms since the budget assumes an annual inflation rate of around 3%. On the revenue side, the biggest changes were an 83.6% drop in oil-related revenues from COP5.5trn ($2.02bn) to COP900bn ($331.2m), although this was offset by an increase in general tax revenues, including COP4trn ($1.5bn) to be achieved by reducing tax evasion. On the expenditure side there were cuts in central government costs, as well as investment, which was decreased by 10.7% to COP40.6trn ($15bn).
According to a November 2015 analysis of the 2016 budget by BBVA Research, total government revenues are expected to fall from 15.9% of GDP in 2015 to 14.9% in 2016. This one-percentage point fall will reflect a decline in oil revenues of 0.9 percentage points of GDP and a fall in other revenues equivalent to 0.5 percentage points, offset by a rise in non-oil tax revenues of 0.5 percentage points. However, total government spending in 2016 will fall to 18.5% of GDP from 18.9% in the preceding year, with a marginal reduction in current operating costs, a steep reduction in investment and an increase in interest payments on public debt. The 2016 fiscal deficit therefore will be 3.6%, in line with the fiscal rule.
Structural Tax Reform
In the medium to long term there is agreement on the need for structural tax reform that is designed to generate higher and more sustainable government revenues. This need had been apparent even before the oil price shock pushed it higher up the political and policymaking agenda. In a special report published in January 2015 the OECD highlighted some of the structural issues facing the Colombian tax system. It said the current tax system was unable to raise revenues to fund necessary investment in infrastructure, education and innovation, or to reduce poverty and expand the social safety net. While tax revenues have grown by an amount equivalent to almost 3% of GDP in the preceding decade, at just under 20% of GDP they remained well below the OECD average of 34.4% in 2014 and below that of countries with a per capita income similar to Colombia.
The tax system also relies heavily on value-added tax (VAT), which tends to be regressive and is complicated by a multitude of exemptions and special rates. Personal income tax (PIT) has a high tax-free allowance and a series of exemptions that disproportionately benefit the rich. The corporate tax burden, however, is extremely high, with companies paying corporate income tax (CIT), a wealth tax on net assets and non-refundable VAT on fixed assets. Here, too, a series of exemptions generate distortions between different types companies.
Some significant changes have already been made to the tax system, and the authorities have acknowledged the need for further fiscal reform in 2016. A package of tax reforms approved in 2012 reduced payroll taxes, simplified VAT, increased PIT on high-income earners and eliminated some tax exemptions for fuels. In late 2014 Congress agreed to extend the 0.4% financial transactions tax known as the “four per thousand” tax, which had been due to expire in 2015, for an additional four years. The net wealth tax was also extended for four years with some modifications. Congress also agreed to create a special commission to discuss tax reform in future.
Separately, the legislature passed a structural fiscal balance or fiscal responsibility rule that requires the government to gradually reduce the structural fiscal deficit, although it also provides a degree of short-term flexibility through the different phases of the economic cycle. The rule requires that the structural budget deficit, adjusted for short-term cyclical factors, should be gradually decreased from 2.4% of GDP in 2014 to 1% of GDP by 2022.
Analysts agreed that tax reform is one of the big challenges ahead. Camila Pérez Marulanda, director of economic analysis at research firm Fedesarrollo, told OBG that under the fiscal balance rule “there will have to be a fiscal adjustment in 2016”. She added, “It will be painful. While this is not a crisis, adjusting will nevertheless be difficult.” In her opinion, the tax base needs to be expanded. Although the 2012 reduction of payroll taxes helped increase the number of people in formal employment, it did not significantly increase revenues as lower-ranking employees are not big tax contributors. As a result, the tax burden remains skewed towards the corporate sector. She did, however, propose that VAT revenue could be increased if it were to be simplified and better implemented.
High Tax Burden
Juan Camilo Domínguez, an equity analyst at investment advisory firm Credicorp, told OBG that further tax reform could be critical to maintaining Colombia’s investment-grade rating from international credit rating agencies. He believes the commission of experts was looking at a range of options, including a tax on dividends which are currently tax-exempt, changes to VAT and a review of legislation on tax-exempt charities or non-profits, some of which are involved in commercial operations. Domínguez stressed the need to simplify the tax code and shift some of the tax burden from the corporate sector back, to some extent, onto individuals.
Although the previous administration had sought to cap the CIT rate at 25%, a series of subsequent phased hikes were passed by Congress, taking the effective rate up to 39% in 2015. It is set to rise further to 43% in 2018. The additions include a nine-percentage-point equality income tax, known as CREE and designed to benefit employees, job creation and social investment, as well as an additional and temporary CREE surcharge of five percentage points starting in 2015 and rising to nine points in 2018.
Criticism of the existing tax system has focused on the heavy burden placed on the corporate sector. The wealth or assets tax, for example, is levied independently of whether a company registers a profit or a loss. It has a complicated structure, applied at different annual rates for 2015-18 for individuals and for 2015-17 for corporations. Individuals pay a tax rate equivalent to 6% of assets over four years, while firms pay 2.55% of assets over three years. In a February 2015 analysis for Bogotá-based daily Portafolio, Tulio Restrepo Rivera, associate partner at legal and tax services firm Restrepo y Londoño, said the combination of different corporate taxes, plus other levies and the wealth tax, can make the tax burden on some companies as high as 60% of net revenue, which is one of the highest corporate tax rates in the region and a disincentive to local investment.
Santiago Castro, president of the Finance Entities and Banking Association (Asociación Bancaria y de Entidades Financieras, Asobancaria), argued that individual taxpayers should shoulder more of the tax burden. According to Asobancaria, in Mexico and Argentina PIT accounts for 55% and 40% of total tax revenues, respectively, while in Colombia individuals contribute only 17.4%, with the remaining 82.6% of the tax burden falling on companies.
The National Association of Financial Institutions (Asociación Nacional de Instituciones Financieras, ANIF) has suggested parameters for a tax reform package. ANIF proposed that any tax reform should do three things: seek to raise overall revenue by between one and two percentage points of GDP; be consistent with an amendment to the fiscal rule ensuring that at least 0.3% of GDP is earmarked every year for infrastructure investment; and enable the stabilisation of public sector debt at no more than 38-40% of GDP. ANIF maintains that the latter is possible as long as long-term GDP growth is between 3.5% and 4%.