CE countries forced to give up investment incentives

Central European countries are being forced to shed attractive investment incentives in the run-up to European Union membership even as they compete to lure big companies that will create jobs and add to the local economy. Government and company officials are especially concerned that investment breaks granted in past years might have to be rescinded or repaid. "We hope the politicians will honor their commitments," said Marta Wójcik, head of marketing for the Kraków Technology Park, one of 14 Special Economic Zones (SSE) in Poland where the national and local governments grant tax and investment breaks. The issue is one more sticking point in negotiations between the EU and candidates, which must meet ambitious schedules to be on track for membership in 2004. "This is a very difficult issue, it's going to be difficult to resolve this problem, but I am sure that negotiations will not be prolonged because of this, and some sort of compromise will emerge," said Péter Gottfried, head of the state secretariat for integration in Hungary's Foreign Ministry.

The efforts to comply with EU law have already had a chilling effect on investments, according to officials from Poland's special economic zones. From 1994 through the end of 2000, Poland negotiated deals with 700 companies investing zł. 11 billion ($2.62 billion) in SSEs, according to Economy Ministry figures. But only 19 companies have signed deals since the first day of 2001, when Poland introduced less generous incentives in an effort to comply with EU rules, Wójcik said. "A decrease in the number of companies entering SSEs cannot be attributed only to incentives as the economic conditions changed dramatically," said Teresa Korcińska, deputy director for the Economy Ministry's department of economic promotion. The ministry has said that the pre-2001 agreements - which in 2000 benefited firms to the tune of zł. 260 million ($61.9 million) - will also be open for negotiations as Poland continues talks to join the EU. Poland had hoped the EU would allow the agreements to last until 2017, Korcińska said. But that appears unlikely and in theory the EU could require some benefits to be paid back.

Working on the side of existing agreements, big multinational companies with investments in candidate countries and operations in today's EU are certain to lobby Brussels for continued exemptions. "The basic conflict of interest is between EU companies, which are in Hungary and enjoy tax holidays, and those that are not in Hungary, but do not want their global competitors to get such advantages in Hungary," said András Inotai, director of the World Economy Research Institute in Budapest. "Some sort of phase-in period will certainly be granted, otherwise the (European) Commission will clash with its own EU companies, if they terminate (tax holidays) immediately," he said. But until the government determines a final position and negotiations play out, it is unclear what will happen to the firms with existing agreements, Poland's Korcińska said. Several ministries are involved in formulating five or six options and a statement from the Polish government's European Integration Committee (KIE) is expected toward the end of March, Korcińska said. Hungary has offered to adopt EU rules immediately if old agreements are honored, Gottfried said. "The Hungarian government would stop granting new tax holidays immediately if the EU allows the already granted ones to run until the originally set dates are unchanged," he said.

Negotiations are in progress but it is hard to predict their outcome, he added. One of the main points of contention with the EU is the tax break formula. Pre-2001 deals set by the Polish government, for example, allowed a 100% discount on corporate or personal income taxes for 10 years and a 50% discount thereafter. In Hungary, companies with investments greater than Ft 10 billion ($35 million) are exempted from corporate tax; the breaks can also apply to smaller investments. "The EU's problem is that local tax exemptions are better than those in the EU," Gottfried said. "We have a principle that state aid is not permissible but there are many exceptions," said Michael Tscherny, competition spokesman for the EU. "We do allow aid that has economic development benefits for areas lagging behind." Candidate countries should be allowed to dole out investment incentives, though specific formulas have not been drawn up, Tscherny said. "We all assume that in virtually all of the candidate countries such aid can be paid out," he said.

But the aid is generally granted as a percentage of the investment, not as tax breaks on future earnings. Poland's latest formula allows personal and corporate income tax discounts but only up to 50% of a company's investment - in line with the EU, according to Polish officials. Some of the region's biggest foreign investors are watching the process unfold. General Motors, which in 1998 opened a plant in Gliwice following a $550 million outlay, has been in touch with SSE authorities in the Katowice zone and with the Office of Competition and Consumer Protection (UOKiK), which monitors public aid, said Wojciech Osoś, public relations manager for GM. "We believe that the government will keep what was promised in the special economic zones," he said.

- by Jeffrey Sparshott and Márton Bürger (Budapest Business Journal)