At the initiative of the Government of Georgia, a new model of corporate taxation was introduced in 2017. The so-called Estonian Model of Corporate Income Tax (CIT) reform envisaged a transition to a model wherein enterprises would only be taxed on profit distribution. The overall objective of the reform was to accelerate the country's economic growth through the elimination of retained earnings tax, as well as to create a conducive environment for business start-ups and improve tax administration. According to our estimates, it costs the state budget of Georgia more than 1bn Georgian Lari of forgone profit taxes.
The ISET Policy Institute has been engaged with the Budget and Finance Committee of the Parliament and PwC in the ex-post Regulatory Impact Assessment (RIA) of the CIT reform, commissioned by the GIZ. The objective of the ex-post RIA was to provide an interim assessment on the reform implementation; making sure the reform is on the right track to achieve its defined objectives. On October 24, 2019, a team of ISET, government, and PwC researchers working on the project presented their findings at a high-level meeting attended by the Chair of Parliament, Mr. Archil Talakvadze, and the Chair of Budget and Finance Committee of the Parliament, Mr. Irakli Kovzanadze, as well as other guests.
The indicators of success analyzed and presented in the ex-post RIA report (which will soon become public) show overall positive trends. It did not take long for Georgia to advance on the World Bank’s Paying Taxes indicator under the Ease of Doing Business reports. A significantly reduced number of disputes on profit tax reporting within the Revenue Service is yet another indicator of the reform’s success in terms of improved tax administration. On the Macro side, one of the main objectives of the CIT reform was to create extra incentives for the firms to retain earned profits in the business. It is noteworthy that after the change, both the volume and the share of reinvestment in FDI have increased significantly. The volume of private savings, deposits in national currency, and loans to the national economy continue to increase steadily after the reform. During the same period, real GDP growth has increased, along with the volume of profit generated by private companies and, as expected, the share of dividends paid out in total profit has decreased.
There are also positive trends in the financial performance of private companies, which are based on the data reported in the financial accounting documents prepared by large companies and public interest entities and submitted to Service for Accounting, Reporting, and Audit Supervision. Following the reform, the financing structure of companies has changed significantly, with companies shifting from borrowing to equity financing, which reduces both financial costs and risks. The volume of private corporations' total assets and equity has increased significantly, driven by increased retained earnings. While a common practice abroad, the use of firm-level administrative data for policy research purposes was one of the first instances of this in Georgia.