The small business tax trap
For the past decade Poland has relied heavily on foreign direct investment for economic growth. The two are closely related; it is not a coincidence that the recent domestic economic slowdown parallels a slowdown in FDI inflows into the country. This downward trend seems to finally be turning around, and forecasts for GDP growth are turning around with it. One example of this is auto manufacturer Fiat, which has announced plans to hire 500 people in Poland even as it cuts jobs elsewhere. Poland can expect more of this sort of trend, as manufacturers across Europe look to the newest members of the EU, the emerging markets of central Europe, as a source of less expensive labor. The government's fiscal reform program, including a significant decrease in the corporate income tax, should also make Poland more attractive to foreign investors. That Poland has fallen behind its neighbors in attracting international capital is nothing new; domestic market watchers have been eyeing the trend with dismay since 2001. So the news of Fiat moving jobs to Poland, though obviously disheartening to the company's employees across western Europe, is a welcome harbinger of things to come - but it is not a signal that all is well.
The country cannot count on a return to the economic situation of the 1990s, when GDP growth and increases in real wealth were driven primarily by foreign investment. Simply put, when setting up shop, international investors are looking farther east these days. India, Russia and China, with labor costs considerably lower than those in central Europe, are emerging as the favored targets for foreign investment. For Poland and the other central European countries, sustained growth will require not only competing more aggressively for the foreign buck, but also development of indigenous businesses. And this requires the creation and expansion of small businesses.
So how is the country doing on that front? Not too well. Three years ago there were 10,000 one-person companies in Poland; today the number is around 7,000. To make matters worse, the government is doing little to support these businesses. In fact, if anything, the policies being pursued by the government today are damaging small enterprises. One dramatic - and almost unbelievable - example of this is a contradiction in the Commercial Companies Code (Kodeks spółek handlowych) that allows the tax office to effectively bleed a one-person company dry.
Article 158 of the Code states that if a company is established by a single shareholder, that person is entitled to all the decision-making rights that would otherwise belong to the shareholders or supervisory board. Article 235 states that shareholders do not have the right to vote on remuneration that they receive as co-owners of the company. For one-person companies the result of this contradiction is disastrous. The tax office collects tax on income the company owner earned, and then notifies the owner that he did not have the right to determine his own salary. So the cost of the owner's salary is not a "cost of doing business" and therefore should be taxed at a much higher rate. Thus, through no fault of its own, the one-person company now owes back taxes. For the tax office, the incentive to perform this runaround is obvious: tax collectors in Poland are paid commission for securing back taxes, at a rate that can reach as much as 30 percent. This fundamental contradiction in the law thus allows tax officers to make substantial amounts of money at the expense of honest, tax-paying businesses.
The result of this absurd situation is obvious: a decreasing rate of new companies being established, and an increasing rate of bankruptcies. It would be worthwhile for Poland's legislators to take a break from their futile attempts at rescuing aging and uncompetitive heavy industries, and take a look at what government policies are doing to the real sources of future economic growth.
