Latvia: Social security implications of favourable tax rate for small businesses
The social partners reacted differently to the government's plans to increase the rate of the special tax for microenterprises, the unions concerned over the lower social protection afforded the workers and employers worried about losing competitiveness due to increased labour costs. In the end, the government moved to revert to the original tax rate.
Special tax law to boost entrepreneurship
At the end of 2009, when the negative employment effects of the global financial crisis became evident, the government introduced state support for microenterprises (adopted by Regulation of the Cabinet of Ministers No. 748 on 30 October 2009). On 9 August 2010, the government adopted a microenterprise tax law to enable people who had lost their jobs (primarily, though not specifically, through job restructuring) to start a business of their own.
The key feature of this tax law, which came into force from 1 September 2010, was a reduced tax payment. The payment included:
- mandatory state social insurance contributions;
- personal income tax;
- the state business risk fee for microenterprise employees;
- enterprise income tax (if applicable);
- personal income tax of the owner of microenterprises (for the portion of the microenterprise revenue from its economic activity).
The total rate of microenterprise tax was 9% of turnover. The lower social contributions meant that the individual social insurance income for microenterprise workers and the level of their social protection automatically became lower.
Initially, both employers and representatives of employees welcomed the introduction of the tax as this measure promised new jobs and income for those who would otherwise be jobless. Small businesses were looked at as a stimulus for economic development after the crisis and were therefore supported generously by grants from the EU Structural and Investment Funds. While trade unions warned about the implications of lower social guarantees for microenterprise workers, they took no action, since their members did not work in microenterprises.
This tax law has been amended seven times since its adoption, with four changes involving the microenterprise tax rate. Employer organisations and small businesses criticised the changes, especially at the end of 2016, while trade unions took a more neutral stance.
Government moves to adjust rate post-crisis
In 2013, when the heat of the crisis had cooled, the government announced a rise in the microenterprise tax rate, because of the workers’ poor social protection.
This met with a mixed reaction from the social partners. The Latvian Employers’ Confederation (LDDK) and the Latvian Chamber of Commerce and Industry (LTRK) said the rules should not be changed so quickly and that existing microenterprises would not be able to exist in a higher tax regime. The unions now also entered the debate; the attractive tax regime had spurred many large enterprises to transfer some of their entities into microenterprises, and the unions found that their members in these microenterprises now had lower social guarantees.
Both parties supported efforts to increase economic activity, but their goals were different. While employer organisations talked about losing competitiveness due to increasing labour costs, trade unions tended to support better social security for microenterprise workers.
On 6 November 2013, after a strong debate, the microenterprise tax rate was raised for enterprises with a turnover of more than €7,000 from the initial tax rate of 9% of turnover to 11% in 2015 to 13% in 2016 and to 15% in 2017.
At the beginning of 2015 talks resumed on the microenterprise tax. On 23 April 2015, new amendments to the tax law were adopted. From 1 January 2015, enterprises with a turnover ranging from €7,000.01 to €100,000 (which had a tax rate of 11% according to previous amendments) were now to pay 9% of their turnover from the first year in which they obtained the status of a microenterprise tax payer to the third economically active year, and then 12% from the fourth year.
However, the discussion regarding social guarantees to microenterprise workers and other low-paid employees continued.
On 30 November 2015, the government amended the law once more, adopting lower microenterprise tax rates (from 9% to 5% and from 12% to 8% of turnover respectively). At the same time, it amended the law on state social insurance to introduce ‘social contributions from a minimum base’ which implied that all employers, including microenterprises, should pay social contributions for their employees regardless of whether they were full-time, part-time, seasonal workers or microenterprise workers. The contribution was to be calculated on at least 75% of the statutory minimum wage in 2017 and 100% of the statutory minimum wage as of 2018. If the sum to be paid according to the payroll is less than this limit, the employer should make up the difference from the enterprise’s own funds.
Social partners protest
The law was adopted without much discussion and should have come into force on 1 January 2016, when social contributions had to be paid from a threshold of at least 50% of the statutory minimum wage. At the request of LDDK, the introduction of the norm was moved to 1 January 2017. At the end of 2016 as the introduction date approached, social partners and employers started raising protests.
Employers argued that the new idea would push employers to fire part-time workers and encourage small enterprises to operate in a ‘shadow’ zone, or even to close down.
However, it has to be noted that there are categories of workers who choose to work part-time or seasonally, such as students or contract workers (who cannot, or need not, work full-time), who understand the consequences of working in such a regime (such as not benefitting from such a good social insurance system). An even more complicated situation emerges for microenterprises. An individual might be employed in several microenterprises for just a few hours in each, and yet at least one employer should pay the social contribution from the full statutory minimum wage. Nevertheless, a system of mutual accounts for several employers was not discussed.
Trade unions declared that:
- minimum social guarantees are necessary and should be supported;
- low pay and low social guarantees no longer make for a competitive economy in Latvia;
- the tax law’s provisions are therefore irrelevant.
They also agreed with the employers, adding that additional payments entail lower income and may force microenterprises to close businesses, increasing unemployment.
Law amended once more
Social partners reminded the government of its promise to introduce an alternative model that would provide support and higher social guarantees to small businesses. Since such a model was not proposed and the approaching changes were highly unfavourable, many microenterprises changed their tax status to ‘normal’.
After several attempts to improve the proposal on social contributions from a minimum basis by introducing special regimes for specific categories of workers, the government returned to its initial plans. Both laws were once again amended. The tax rate was set back to the previous 15% of turnover for all microenterprises and the norm on mandatory social contributions from a minimum base was abolished. However, it is obvious that the discussion on social guarantees for those involved in small businesses will continue.
The example of state support for small businesses highlights how complicated social dialogue is in a changing labour market. Despite having similar arguments, the goals of the social partners differ. Although the microenterprise tax is seen as essential by employer representatives as it promotes business, it is important to trade unions only in terms of the general population’s income or when their members become microenterprise workers, thus allowing employers’ proposals to get preference.
The social contribution from a minimum base is important for an employer organisation as a competitiveness factor, as it entails increased labour costs. However, trade unions appear to be in a more complicated position on small businesses. They support higher social guarantees for workers, but are concerned about the potential lowering of workers’ income in microenterprises and the negative employment effects due to extra payments imposed on employers.
Employers were clearly leading the discussion about state support for small businesses via lower wage taxes versus social guarantees. Employers’ interests were better protected. This means that employees’ representation should be improved by extending trade unions’ representativeness beyond its statutory membership (trade unions declare that their target group is their members only and not all workers) at least at national level, or by introducing new models of trade union membership, such as cooperative membership in small businesses. One idea put forward is that workers in small enterprises could join trade union organisations similar to the company-level union organisations that are established according to the cooperation principle and which represent workers of several small and micro enterprises.