Greed Is Good or Is It?
By Dr George Veltchev, managing partner of Delta Capital International AD and investor in Bulgarian tourism
Recently, and seemingly out of the blue, the issue of the Value Added Tax (VAT) in the tourist sector popped back up on the agenda. As expected, everyone who earns their living from the tourist industry rose together against the tax hike with the usual nonsense like "the 2011 contracts have already been signed" (as if this would matter – everyone, who has worked in Bulgaria's tourist sector for more than 2 weeks knows that the industry is a price taker, and has nothing to do with the product's cost), or "our competitors are taxed less" (as if it matters how much the tax is in Greece or Austria where the same product is sold at prices 2 -3 times higher).
The "usual suspects" stood on the other side of the fence – those who watch how others make money from tourism – with equally groundless arguments such as "there must be fairness for all sectors of the economy" (as if any other sector besides tourism can so effectively transfer benefits to Bulgarians from all other Europeans or transform in such large scale 99% of its turnover in Gross Domestic Product, GDP). And in the middle of the dispute, as usual, is the cabinet, which must comply with EU laws, not reduce the VAT rate even further, risking accusations of yielding to lobbying, and, at the same time, be careful not to kill the goose that lays the golden eggs.
With the risk of drawing the wrath of all those standing firm behind their positions (each less founded than the other, from an economic viewpoint), or of being blamed by other investors in the tourist industry of betraying the cause, I will try to explain why, in this particular case, greed is bad for everyone. For the benefit of those who are not well versed into the math in this dispute, everything stems from the fact that people who travel as organized groups pay 7% VAT, while individual tourists pay 20%. The math is simple –the difference in opinions can be summed up with the question – are individual vacationers closer to 10% or to 20%? Here, I wish to add that they are for sure closer to 20%, not 10%, regardless of claims of others in the sector. This, however, is almost insignificant, because with both extremes, the tourist industry now is still burdened with a weighted average VAT of between 8.3% and 9.6%. Does anyone make the difference with 50% or more operational profit during a normal year?
Should there be VAT in tourism?
YES, because the production takes place in Bulgaria and the final product is consumed in Bulgaria.
NO, because the end consumer in 90% of the cases does not live in Bulgaria, buys the service outside Bulgaria, and uses the benefits of their vacation during the entire year, of which only 5% are spent in Bulgaria.
This is where the historical difference in VAT stems from – full VAT, initially "only for Bulgarians" (because they consume 100% of the benefits in Bulgaria), and after EU legislation was adopted – only for "individual tourists." Here, it has to be noted that tourism is the result of investment in assets, knowledge and experience ("know how") , exactly in the same way as are legal, consulting and other services. It is a service and it is quite logical that the VAT on it within the European Union, should be payable in the place where the client is a resident and where the sale takes place. As, by the way, the German tourist pays VAT in Germany (whatever the amount is) for prepaid vacations in the EU. Does he have to pay in Bulgaria as well – obviously not, or at least at a significantly lower rate. In other words, if the "supporters" of VAT in the tourist sector are right, this tax must be 4% (not 7%, 9%, 10%, 14% or 20% – all these percentages became very popular lately, but it remains unclear why everything between 0% and 19% was not dragged into the discussion) in order to account for the share of taxable sales in Bulgaria's tourism.
Is it fair for tourism to be VAT free?
YES, because this is what the economic logic dictates as it is an export service (or it should be charged at a no higher rate than 4%, according to the actual share of taxable sales in the country).
NO, because due to the high depreciation charges, as well as the "gray" element in the "cash" economy of tourism, VAT is the only tax in the sector that can be reliably collected somewhere close to the "fair" amount for this industry.
In reality, 4% VAT is the most fair rate, while at the same time what the National Revenue Agency should do is analyze wages at Bulgarian resorts, and based on the simple truth that, if the gross salary of a roommaid is BGN 500 in one hotel, and this hotel has difficulties hiring enough staff, while in the 30-40 neighbouring hotels, the salary is BGN 200-300 and every worker is happy, it is quite clear that the declared minimum wage of a roommaid should be at least BGN 500. The same holds true for 20 other different jobs. Instead, revenue agents waste their time counting the turnover of bars and discover the latter is BGN 5000 in their presence and BGN 250 in their absence. The net result – BGN 950 in VAT a day per agent. While with 50 to 60 thousand people working at the Bulgarian Black Sea coast during the summer, the treasury is being defrauded of BGN 20 to 25 million each season. To prevent this, you need 20 tax agents to do addition and multiplication.
Here are the reasons why a flat 10% VAT rate is logical from a business point of view, fair and the only beneficial one for the society, and for the people, who manage its economy and politics, as well as for the tourist sector, the budget and Bulgaria's competitiveness in European tourism.
1. The opponents of reduced VAT in tourism would benefit directly and personally from the positive trade balance, to which the sector is the biggest contributor – regardless of what industry they are employed in, all people consume their products, and they have a vital interest that these people become wealthier through the higher employment rate thanks to tourism. In their own egocentic way, they would also be happier if the stake is 10%, not 9%, 7%, or 4%, all of which are more logical than 10%.
2. The tourist business would more or less achieve the present weighted average VAT rate– I believe the difference will be no larger than 0.5%, or there will be no difference at all. In such a situation, every big-hotel owner would not attempt to circumvent the law by placing a travel agency next its check-in counter to issue invoices for 7% VAT, while travel agents would profit from their real work, and not because they are considered an easy way for a hotel owner to pay, completely legally, its tax burden in the form of commissions.
3. For the first time during its term, this cabinet would seize the opportunity to make an immediate and clear tax policy decision to be envied by the opposition (including the "light-blue" and "dark-blue" one that is closest to it). With more collected tax than ever, with fulfilled promises to not increase taxes (what is the difference between 9.6% and 10%) and with clean consciousness before the business and the public. Any other decision (including 9%) would continue to smell of lobbying.
4. The tourist industry, as a whole, would achieve bigger mid-term stability (those who do not believe that otherwise in 2-3 years the VAT rate in tourism would come up again cannot be Bulgarian). This way Bulgaria would also become much more attractive for foreign investors – it is easier to explain to them that a number of Bulgarian cabinets have an enviable history of a consistent and foreseeable tax policy, with a 10% flat rate on corporate profits, personal income, withholding, and VAT in tourism. Period. We do not play with taxes – invest in Bulgaria!
This is how you CAN have your cake and eat it too.
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