Bulgaria will definitively join the pool of European countries who have adopted a flat tax, beginning next year, Bulgaria’s new Economy and Energy Minister Petar Dimitrov said on August 15. The country will finally venture into the daunting reform after the idea had received a “no-go” on several occasions over the past few years. Then, most politicians said it intimidated the poorer strata of society, while the public did not take any interest in the issue.

Now that a quarter of Europe is painted in flat-tax colours and a number of nations have brought about dramatic increases in foreign direct investments as a result of its introduction, the opposition to flat tax, both on a parliamentary and expert level, has been waning.

The discussion of the pros and cons of the system remains heated. This is only natural, the topic was debated strongly in the countries whose path Bulgaria is following and Bulgaria is enacting its most radical tax reforms since the early 1990s.

The rates for both personal and corporate taxable income are likely to be set at 10 per cent, although talks are under way about fixing it at 12 per cent. This will be the lowest tax rate in Europe. It will be equal only to the rate in Albania, which is also due to introduce a flat tax in January 2008.

Proponents of the flat tax argue that its introduction will increase the competitiveness of the Bulgarian economy, resulting in huge growth. Although there is no direct correlation between the introduction of a flat tax rate and a country’s macroeconomic performance, analyses of the economies in a number of countries where the flat tax has been introduced have shown a positive trend after the introduction of the new system.

Advocates of the idea hope Bulgaria will duplicate the success of Slovakia. The country enacted the 19 per cent corporate tax rate in 2004 and since, the once struggling offspring of the disintegration of former Czechoslovakia, has attracted dozens of billions of euro in investments to the country, which has a population of six million. The landmark investments of South Korean car-maker Hyundai, the Japanese consumer electronics producer Sony, both in excess of one billion euro, have also prompted the creation of the so-called business clusters as dozens of Hyundai-Sony sub-contractors have followed suit with multi-million factory construction plans.

The volume of investments has also gone hand-in-hand with growing employment levels and GDP growth that had no parallels in the past year. In 2006, growth hit nine per cent, to the surprise not only of foreign, but also of local analysts.

This is what Bulgaria, alongside Slovakia’s kin nation Czech Republic – who are also to introduce a flat tax – and Albania, will be looking for as of early next year.

The good macroeconomic prospects and the general improvement of the business climate aside, the chorus of opponents are still there. Their most pronounced complaints are the complete waiver of any non-taxable income and of all tax relaxations, both would hit low-income people the hardest.

This argument has been most eloquently presented by the Association of Bulgarian Journalists. In a declaration in the week starting August 20, it said that people of their and other freelance vocations will see their annual tax declarations inflate dramatically next year.

Their impoverishment, the declaration adds, goes against social principles. Conversely, the tax reforms are making the more affluent portion of the population even more affluent, they maintain.

The argument has been partially heeded. Currently, the Government and a number of tax experts are considering retaining the non-taxable income thresholds alongside some tax relaxations. These would be interim measures ahead of further reforms aimed at boosting the minimum wage levels, Dimitrov and other governmental officials said.

The debate is not unknown in the other countries that have a flat tax system. Even in Estonia, the country to pioneer the flat tax system in Europe, the criticism has been as strong as to consider reverting to the progressive tax system, local media reported.

The camp of advocates, though, has been tabling the argument that a flat tax rate means a simpler tax system. Hence, Bulgaria – brandished by the EU as a country with cumbersome administration – could enjoy less red tape and expenditures related to filing tax declarations.

Another argument presented in favour of a flat tax is that majority of the population will have a lower annual tax bill. This will result in higher disposable income for the many, a situation that is conducive to enacting the principle that whichever measure is to the benefit of the majority is the best possible option.

In addition, the experience of other countries shows a low flat tax is said to encourage a number of entities, both individuals and companies, into emerging from the grey sector. If for only the reason that the taxes they will pay are already be perceived as the “smaller evil” when compared to the charges they pay, when there is progressive tax system, to avoid paying tax.

The process, called locally “bringing income to the light”, is a move toward legitimising the state economy. Similar developments have been under way in a number of countries, present in the European flat tax map, the best example being Russia.

Critics counter this argument saying that the enactment of the 10 per cent tax rate will, on the contrary, result in the lowering of tax revenues. The economy minister cited figures that in the first year of flat tax enactment, the country’s budget will suffer 170 million leva in forgone tax revenues.

Dimitrov recognised, however, that although the trend is likely to be reversed in the years to come, the loopholes in revenues are tangible. This means that the Government has to urgently devise measures to offset the gap and avert an unrestrained widening of the budget deficit, he said at a news conference earlier in August.

All said, one has to take into account that the debate on as radical a reform is taking place after 11 countries of similar political and economic background, three of which are on the Balkan peninsula, have done so. All the more, the flat tax has been fact in a number of countries since the mid-1990s, which means there has been ample time for tax experts and politicians to carry out all relevant SWOT analyses on the reform.

Therefore, Bulgaria can move the smart way and learn the easy way the hard-learned lessons of the pioneers. With many nations embracing the system, it might be worthwhile to give it a try.