Iceland: Technical Assistance Report-Modernizing the Icelandic VAT
IMF Staff Country Reports, September 23, 2014
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Bibliographic details
- Published: September 23, 2014
- Series: IMF Staff Country Reports
- DOI: https://doi.org/10.5089/9781484391761.002
Executive summary and diagnosis
- Iceland’s government, elected in 2013, is conducting a general review of tax policy to make it more efficient and less distortionary, with VAT reform a priority to shift reliance toward consumption taxation.
- The Icelandic VAT has a narrow base and a wide gap between the main VAT rate of 25.5 percent and the lower rate of 7 percent, which:
- Distorts economic behavior.
- Encourages tax arbitrage, evasion and lobbying.
- Produces VAT efficiency well below European and OECD averages.
- Government near-term strategy: broaden the VAT base by eliminating exemptions, raise the lower rate, and reduce the top rate.
- Government medium-term target: transition to a single-rate VAT system.
- To offset potentially inflationary effects of VAT reform and reduce price distortions, the government is considering:
- Repealing the commodity tax.
- Reviewing the trade regime for agriculture.
- Increasing social benefits for low-income households most affected by VAT increases.
- These measures align with recommendations from IMF missions in 2010 and 2011.
Near-term recommendations reiterated by the mission
- Eliminate exemptions at least for:
- Tourism
- Transport
- Sports
- Culture
- Limit VAT refunds to local government to services that could be outsourced.
- Double the lower VAT rate to 14 percent.
- Reduce the top VAT rate as revenue permits, contingent on base broadening.
- Medium-to-long term: move to a single VAT rate of about 21 percent.
Major additional recommendations from this report
- Consider at least doubling the VAT registration threshold to ISK 2,000,000 (about USD 17,850 or EUR 12,900) to:
- Ease administration.
- Allow limited RSK resources to focus on large taxpayers who generate most VAT revenue.
- Fully tax:
- All sales and leasing of commercial buildings.
- First sales of new residential buildings.
- Rationale: while materials and construction activities are subject to VAT, sale of buildings has been exempt, creating pressure for special refund schemes for builders and potential cascading; taxing these sales broadens the VAT base to include housing consumption and removes need for refund schemes.
- Eliminate special VAT refund schemes for:
- Buses
- Domestic boats and aircraft
- CO2 tax refunds for rental car imports
- Rationale: these schemes are encouraged by the exemption of passenger transport and the anomalous taxation of car rental services at the top rate; taxing transportation removes the need for these accommodations and levels the playing field for car rental companies.
- Repeal the commodity tax on building products, appliances and electronics to:
- Help offset one-off inflationary effects of VAT reform.
- Remove price distortions on goods that do not have inelastic demand nor negative externalities and therefore do not meet criteria for special excise taxation.
- If the sugar tax portion of the commodity tax is retained:
- Conduct a study to ensure the price increase it imposes on sweetened products is sufficient to discourage their consumption.
- Alternatively, repeal the sugar tax and move sweetened products to the top VAT rate.
Key quantitative values and targets (as stated)
- Main VAT rate: 25.5 percent
- Lower VAT rate: 7 percent
- Proposed doubled lower rate: 14 percent
- Longer-term single VAT rate target: about 21 percent
- Suggested VAT registration threshold: ISK 2,000,000 (about USD 17,850 or EUR 12,900)
International Monetary Fund — Iceland: Technical Assistance Report-Modernizing the Icelandic VAT