‘Taxes on Unused Properties Existed Before’

The Ministry of Finance and the Tax Administration presented the proposal for the Property Tax Law at the Banski Dvori on November 22, 2012, marking the beginning of a public discussion on the Law, which is expected to come into effect on April 1, 2013.

This is a long-anticipated tax that has sparked numerous discussions and, by its self-presentation, has also caused serious political conflicts, writes Marina Kesner Škreb from the Institute of Public Finance.
Recently, various dramatic estimates of the tax burden on properties for citizens have circulated in the media, but after the presentation, many breathed a sigh of relief as it seems that the burden of this tax will not be so heavy. Namely, 70% of the fiscal value of the property is taxed at a uniform rate of 1.5% with numerous exemptions, so effective tax rates are relatively low. It is expected that for most citizens, the tax burden will be equal to the sum of the current utility fee and the tax on weekend houses (which will be abolished with the introduction of this tax). The creators of the law proposal deserve praise as they evidently had an ear for the truly difficult social situation in the country and did not propose strong taxation of properties, writes Kesner Škreb. High tax amounts would further burden citizens’ incomes and lead to the outflow of private income into state financial channels, away from current private consumption. And the state is already too large and the recession too deep, she emphasizes.

However, although it can boast relatively mild taxation of properties, several questions must still be directed at the creators of this proposal. The presentation of the Law proposal did not include projections of the amounts that this tax will bring to local budgets, nor the implementation costs for the state administration. Such simulations should be the basis for making a quality decision on any tax changes, especially for introducing a completely new method of taxation. According to initial assessments, based on what was presented, it seems that the collected funds will be relatively modest, and administrative costs of collection, at least in the first year, relatively high. Here’s why:
– The law provides for numerous exemptions and reductions. A reduced tax will be paid for properties used for permanent and occasional residence, as well as for those where a specifically listed activity is conducted. Certain institutions (for example, the Red Cross) will not pay tax at all, nor will users of 12 types of properties (airport land, cultural and public goods, religious buildings, etc.).
A total of 25 types of properties have been listed that will not be taxed at all, or will be taxed on a reduced basis. Additionally, citizens for whom local self-government (pensioners, unemployed, veterans, or persons with disabilities) decides will not pay tax on one property according to social programs. If all the mentioned properties and taxpayers are exempt from taxation, the question arises as to how much of a base will remain for taxation and how much tax can actually be collected. It is particularly important to emphasize that a large number of tax exemptions generally leads to significant tax evasion everywhere. Taxpayers become very creative in seeking solutions to avoid or reduce their tax burden and find numerous legal, and sometimes illegal, ways to outsmart tax authorities. Therefore, tax theory always emphasizes that a tax applied to the broadest base, with a uniform rate and as few exemptions as possible, is better.

The next element that needed to be assessed is the administrative costs of tax collection. The essential feature of the new tax is that, unlike the current utility fee and tax on holiday homes where the tax base is determined based on area in m2, it is determined based on the value expressions of the tax base. And this element greatly determines the administrative costs of tax collection. And they will be high, especially in the first year of implementation. The Tax Administration must establish a so-called fiscal register in which the values of all properties will be determined. The register should be completed by the end of March, which is an extremely short time for such a large task, it is emphasized in the review. Namely, for all properties in Croatia, fiscal values should be determined based on the average market price (which the Tax Administration already has in its databases on apartment sales), year of construction, location, degree of completion, and quality of construction. This is a comprehensive job that, in addition to the Tax Administration, would involve the State Geodetic Administration and local self-government units (JLS). In some areas, it will also be necessary to go out into the field to ascertain the actual condition and value of the property. It is mentioned that this enormous task, which includes determining values for 14.5 million cadastral parcels, should be carried out with the wholehearted assistance of computer technology and new computer programs.

All of this requires time and significant financial resources. In addition, for the Tax Administration, this represents additional work as a whole range of tax officials must be trained who will need to understand the tax well, determine when the right to an exemption is acquired, contact taxpayers, resolve their complaints, etc. Other public services will certainly need to be involved, as it will be necessary to check whether a property is truly used permanently or only occasionally, and whether it is completely unused.

The presentation states that the primary goal of introducing the property tax is to reduce the tax burden on labor costs, which should occur gradually in three phases. Here’s how these phases are described in the presentation of the Ministry of Finance and the Tax Administration:
Phase I – shifting part of the tax burden from labor costs to property taxation = introduction of property tax and abolition of the utility fee and tax on holiday homes.

Phase II – further development of the property taxation system, through decentralization and increased services of local self-government visible in improved quality of life.

Phase III – final reduction or abolition of redundant and burdensome taxes and/or other parafiscal levies. Specifically, the abolition of the surtax on income tax and monument rents is mentioned.

These three phases are very vaguely defined. For example, what will happen in the second phase when the indefinite phrase: “development of the property taxation system” is mentioned, i.e., in which direction will the taxation system develop? The timeline for the unfolding of these phases is also unclear, i.e., which year one phase begins and another ends. In which year can we expect the fundamental goal of introducing property tax, which is to reduce labor costs, to be achieved? According to the statements in the presentation, this would only be realized in the third phase when the surtax on income tax would be abolished. However, it is not entirely clear when enough funds will be collected from this tax to abolish the surtax on income tax, which is part of labor costs. That is, when could the proclaimed relief of labor costs actually be implemented? In the areas of JLS, in 2011, around one billion kuna was collected from the surtax, and around 2 billion kuna from the utility fee and tax on holiday homes. In the first phase, only the replacement of the utility fee and tax on holiday homes with property tax is foreseen, i.e., it is likely that revenue from property tax of around 2 billion kuna is expected. However, to create conditions for the abolition of the surtax, further growth of property tax is evidently planned to collect an additional billion kuna. Only then will conditions be created for the abolition of the surtax without significantly disrupting local budgets. However, the presentation does not indicate when the conditions for the abolition of the surtax will be met, thus enabling the achievement of the fundamental goal of introducing property tax, i.e., reducing labor costs.

The abolition of the utility fee and tax on weekend houses and their replacement with property tax also brings certain uncertainties regarding the revenue of local self-government budgets. Namely, the size of the base to which the tax applies is uncertain: the fiscal values of properties still need to be assessed, and the ranges of exemptions in property tax still need to be determined by local self-governments. The taxpayers of this tax are also the Republic of Croatia, counties, cities, and municipalities, so they will also have to pay tax at a rate of 1.5% for their land and unused properties. The state budget can also expect a portion of revenue from this tax since the tax on unused properties owned by cities and municipalities will be revenue for the state budget. All of this has financial implications for both local budgets and the state budget as early as the end of 2013.

Property tax will also be paid by all entrepreneurs with certain exemptions by activities. A reduction of the tax base is foreseen for: 80% for properties in industry and production, healthcare, education, non-profit organizations; 60% for properties in leasing, construction, transport and storage, hospitality; 40% for trade and 20% for all other activities. Of course, the amount of their tax will depend on the assessment of the fiscal value of the properties that entrepreneurs use (or do not use), which still needs to be determined, so the amount of property tax they will have to pay in 2013 is still uncertain. The balances of companies thus have one more unknown, and unknowns are the enemy of investments. Local utility companies that have been financed by revenues from the utility fee collected by JLS and transferred to utility companies are also facing uncertainty. The utility fee that is going into history is strictly intended for financing local utility activities (public lighting, cleaning public areas, maintaining cemeteries, etc.).
Now it will no longer exist, but there will be property tax as non-targeted revenue that JLS can use at their discretion. The question arises as to how much tax revenue JLS will be willing to allocate to utility companies in the future. Thus, uncertainty also arises in the balances of local utility companies. It would be better if the new tax were not introduced in the middle of the year, but announced in advance so that all economic entities could plan their finances in time.

It should also be noted that there have already been taxes on unused properties in Croatia: tax on uncultivated arable land, undeveloped building land, and unused entrepreneurial properties, which were abolished in 2007 by the Decision of the Constitutional Court as unconstitutional. The Decision of the Constitutional Court states: “…the conclusion is that the owner of entrepreneurial property, undeveloped building land, and uncultivated arable land cannot be forced to act in a certain way, i.e., to do (in this specific case, to use the mentioned properties)…. Now a similar tax is being proposed again, which “punishes” the owner of the property who does not use their ownership. It is to be expected that similar objections used during the abolition of the previous three unconstitutional taxes will be used now as well. As can be seen from the above, a tax is being proposed that raises many open questions.

It is to be expected that the Ministry of Finance and the Tax Administration will conduct a quality public discussion after which they will truly take into account all the advantages and disadvantages, listen to arguments from as many interlocutors as possible in order to carefully and impartially design a tax that will provoke the least objections and that will best respect the fundamental principles of efficiency, fairness, and simplicity of the tax.