In late June, the Lithuanian parliament consolidated the tax base for the country’s social security contributions and reduced the contribution rate. This reform was a part of the Lithuanian Free Market Institute’s (LFMI) project within Atlas Network’s Leveraging Indices for Free Enterprise Policy Reform, or LIFE, program. The reforms will lower the tax burden for 1.3 million and reduce the cost of labor for businesses. According to LFMI, the increase in the tax-exempt income threshold from 1.3 to 2 average wages (EUR 1,760 per month) will directly benefit about 75 percent (1 million) of the working population.
“Rarely does government propose a reform which is all about ‘pluses’ and with no ‘minuses,’ or a reform that benefits all and hurts no one,” said Žilvinas Šilėnas, president of LFMI. “The consolidation of social security contributions is such a reform.”
This recent tax consolidation will raise Lithuania’s Doing Business ranking in the World Bank Group‘s index from 16th to 13th. Lithuania’s ranking will also increase from 18th to 6th in the index’s “Ease of Paying Taxes” category.
“Regardless of differences in economic perceptions or disputes as to whether taxes are too low or too high, taxes can and must be transparent and clear,” continued Šilėnas. “Taxpayers deserve this. And that’s precisely what the consolidation of social security contributions does.”
Example wages and contributions (in Euros), showing the difference between 2018 and 2019, using an example wage of EUR 1,000. Even as the PIT and social security contributions increase, the net wage increases from 2018 to 2019.
Employers’ social security contribution rate was cut from 31.18 to 1.47 percent. Employees’ contribution rate was raised from 9 percent to 19.5 percent, but a statutory wage increase of 1.289 times 2018 gross earnings will help compensate for the tax increase. Lithuania has also introduced a cap on social security contributions for income exceeding EUR 8,900 per month.
“The consolidation of social security contributions was a long-awaited decision,” said Ieva Valeškaitė, LFMI’s tax policy analyst on the consolidation. “The labor tax system was too knotty and too perplexing. Transparency was our first target. Taxpayers will now be better informed and more aware of the real tax burden. Importantly, this creates a solid basis from which we can build greater demand for lower taxes.”
While LFMI is excited about being in a better position to further tax reform, it is worried about the introduction of a progressive income tax (link in Lithuanian). Originally, Lithuania had a flat income tax of 15 percent, but the personal income tax was raised to 20 percent, and a progressive 27 percent tax was raised on income exceeding 120 times the average yearly wage.
“The progressive income tax is a real Trojan horse,” said Šilėnas. “Is there any guarantee that the next administration will not decide to remove the social security contribution cap but keep the progressive tax?”
LFMI’s work was part of Atlas Network’s Leveraging Indices for Free Enterprise Policy Reform, or “LIFE,” program. Under the LIFE program, Atlas Network provided 16 partner organizations with grants to conduct research, advocacy campaigns, and media campaigns that measurably move the needle in a specific prominent ranking or index. Such indices include the Doing Business Index by the World Bank Group, the Economic Freedom Index by the Heritage Foundation in partnership with the Wall Street Journal, and the Economic Freedom of the World Report by the Fraser Institute. Each of the 16 participating partner organizations were awarded $100,000, divided over the course of three years, and the LIFE program was generously sponsored by the John Templeton Foundation.