Colombia: Colombia introduces tax reforms to bolster state coffers

New tax measures should help Colombia’s government bridge the budget deficit and encourage investment , though wholesale and consumer inflation could see an uptick in the short term.

New tax regime

The amendments to the tax code come as the government attempts to broaden its revenue base and offset low commodity earnings, particularly in light of the depressed oil revenues seen in recent years.

The tax reform bill was approved by both houses of Parliament at the end of December, next being put forward for approval in October.

Core to the reform package is a three-%-point increase in the price-added tax (VAT) rate to 19% – a hike the government says will contribute COP6.2trn ($2.1bn) to national revenue in 2017 and COP24.1trn ($8.4bn) by 2022.

The authorities as well hope the new rate will keep the budget deficit to 3.3% of GDP this year, down from an estimated 3.9% in 2016 – the highest shortfall recorded in six years.

While VAT has increased, some exemptions to the levy still apply, with a lot of basic food products and medicines not subject to the tax. In addition, a proposed tax on sugary drinks was removed from the final draft of the legislation next strong opposition to the measure.

The reforms similarly seek to deepen the tax base by increasing penalties for evasion, though there has been criticism that the law does not go far enough to rein in omissions of assets.

In addition, the package aims to gradually scale back the corporate gain tax rate from the current level of 43% to 33% by 2019, with the move expected to help attract investment and boost job creation.

The government has as well moved to boost revenue from other sources, announcing a series of measures at the beginning of the year that will impact the mobile telephony and data services segment.

Not only will all internet-based services paid for by credit card be subject to the 19% VAT levy, but a new 4% tax has as well been introduced on mobile data packages costing additional than $15 a month. Some industry insiders have said the increased levies will discourage consumption and limit increase in the sector.

However, with mobile penetration well above 100% last year and take-up rates for data-capable handsets as well rising, the new charges should increase revenue in the near term.

Inflationary fuel

While the gain generated from the higher tax rates will be a welcome boost to national coffers, it is likely they will as well feed into Colombia’s inflation, particularly in the early part of this year.

The consumer price index rose by an annualised 5.75% last year, slightly higher than government projections of between 4% and 5%, but still down on the 2015 figure of 6.77%.

Along with a newly approved 7% increase in the minimum wage, higher costs for materials and services will as well impact production prices, which will likely be passed on to consumers.

While there are concerns that increased VAT could fuel the consumer price index, January actually saw inflation relieve slightly to 5.4% y-o-y.

Ratings reinforcement

The recent tax reforms are seen as key to preserving Colombia’s investment -grade rating, and therefore keeping down borrowing costs.

In July ratings agency Fitch changed its outlook on Colombia from stable to negative, and lowered its long-term local currency issuer default rating from “BBB+” to the investment -grade threshold of “BBB”. Its long-term senior unsecured local currency bonds received an identical downgrade.

At the end of October, Fitch warned that Colombia’s ratings could be downgraded to junk status if the government failed to reduce its fiscal deficit and stabilise its deficit burden. Moody’s and Standard & Poor’s (S&P) have as well cited public deficit and the deficit as causes for concern in 2016, with the agencies saying Colombia’s investment grade rating was under pressure.

"For presently, S&P’s analytical team maintains its negative outlook,” Rafael González, president of BRC Standard & Poor's, told OBG. “The recent tax reforms will boost public finances, but they are as well likely to weigh on increase in the short term as the VAT increase hits consumption. At the same time, the country has become additional exposed to world circumstances in recent years. For example, policy changes under the new US government could have a negative, indirect impact on Colombia.”