The decentralisation is one of the most successful reform in Ukraine, according to the unanimous opinion of the government officials, international partners, experts and citizens. Even in the context of a full-scale war, local self-government bodies (further referred to as LSGs) proved to be able to withstand extraordinary challenges, ensuring the economic functioning and the vital activity of the population. LSGs significantly contributed to strengthening the state's defence capability, and therefore, the continuation of fiscal decentralisation remains an important priority for the social and economic development of the country. This process has to be accompanied by strengthening the fiscal sustainability of local budgets. It is local taxes and fees, which rates and bases are influenced by local self-government bodies (property tax, parking fees and tourist tax) that form the fundamental basis to ensure the financial viability of municipal budgets. In the current environment, there is a need to improve the efficiency of local taxes and fees administration.
The study "Diagnostics of the Local Taxation System", conducted by the experts of the Growford Institute with the support of the U-LEAD with Europe Programme, presents the results of a comprehensive diagnosis of the local taxation system of Ukraine with a key focus on property tax. An in-depth analysis of the structure and fiscal significance of local taxes and fees, the level of tax autonomy, determining the impact of key factors on local taxation, revealing the factors and causes of imperfections in the property tax administration, and assessing tax reserves allowed us to identify potential areas for strengthening the financial capacity of local self-governments.
The main results of the study are summarised in the following conclusions:
-
The role of local taxes and fees in the structure of the tax system in Ukraine remains insignificant. Starting from 2015, the share of local taxes and fees has moderately increased from 0.5% of GDP in 2014 to 1.6% of GDP in 2022, as a result of the decentralisation reform. However, this share remains low compared to the level of EU countries with decentralised governance systems. Local self-government bodies do not significantly affect the country's cash flows, but mainly use the funds allocated to them as local taxes and fees, fixed shares of national taxes, and intergovernmental transfers.
-
Property taxation can take various forms and methods, with the most common form in international practice being a recurrent annual (periodic) property tax. On average, property taxes generate 0.3–0.6% of GDP in low– and middle–income countries, and 1.1% in OECD countries. The average share of property taxes in GDP for the EU-27 in 2021 amounted to 2.19%. At the same time, the fiscal significance of recurrent real estate taxes amounted to 1.07% (48.86% in the total structure of property taxes). In Ukraine, the ratio of property tax to GDP in 2021 was 0.79%, with the share of recurrent real estate taxes at 99.6%. The remaining 0.04% came from the transport tax, which is a component of this tax.
-
Property as a tax base is an asset with natural and cost characteristics reflecting a combination of economic, social, physical, and legislative factors. Economic factors include the income level in the community, prices and taxes, infrastructure availability and proximity to economic activity centres, accessibility and quality of public services. The property tax corresponds to the principle of taxpayer solvency and links tax payments to public services financed by taxpayers.
-
Property tax models can significantly vary between countries. Such variability concerns approaches to taxation objects classification, tax base determination (rent, market value, area), tax rates (scale, interval, flat rate), exemptions, payment procedure and method, etc. The variety of property tax elements is due to the territorial structure of the state, historical practice, and social and economic goals of its introduction.
-
Efficient property tax administration is a prerequisite for ensuring sufficient tax revenues. The tax authorities are a key institution in the field of public revenue mobilisation. In the EU, tax authorities collect 62% of total government revenues. According to the OECD, in 2020, this figure exceeded 85.0% for a significant number of European countries. In the OECD countries and a selection of 18 countries with developed and transformational economies, tax authorities are responsible for budget revenues for only 45% of total property taxes. In other cases, either joint activities in this area with local self-government bodies are recorded, or the latter carry out such activities independently.
-
Land payments constitute a significant share of the property tax structure in Ukraine (over 80%). The amount of transport tax is relatively small (between UAH 100 and 300 million) and makes up no more than 1% of property tax revenues. At the same time, the share of real estate tax other than a land plot is growing annually. Over 5 years (from 2018 to 2022), the share of real estate tax grew by more than 5%, indicating a significant potential for increasing its revenues.
-
The normative monetary valuation of land (hereinafter referred to as NMV) is important for the growth of land payment revenues. The level of NMV coverage of lands and its updating rates are essential for filling local budgets. According to the information on the number of Ukrainian settlements with land requiring an NMV update, as of 1 January 2022, 49.8% of settlements had to undergo such a procedure (14822 out of 29721 settlements in total required NMV). Another issue is the lack of NMV indexation of agricultural land, settlements and other non-agricultural areas.
-
The cluster analysis revealed that in the leading municipalities, 57% of the territory of settlements met the deadlines for conducting NMV, and the levels of the respective tax rates are close to the maximum defined by the tax legislation and are above average. Some municipalities perform better in the development of property taxation than others due to their geographical location, economic development, infrastructure, higher income levels, as well as a higher level of local self-government performance in improving the fiscal efficiency of local taxes.
-
Agglomeration as an integral factor in the social and economic development of municipalities and territories significantly affects the evolution of the local taxes and fees system. In particular, land in large cities has the highest value and price. Administrative and territorial centres and the largest cities in all Ukrainian oblasts occupy less than 2% of the regional territory, but their share in total land payment revenues ranges from 9.7% in Korosten; 13.7% in Zhytomyr; 17.3% in Uzhhorod; up to 45.6% in Chernivtsi; 55.6% in Zaporizhzhia; 66.8% in Kharkiv and 77% in Kyiv.
-
Tax autonomy increases the fiscal sustainability of local self-governments. The indicator of absolute tax autonomy reflects the share of local taxes, where the base and rate can be determined by local self-government bodies, in the overall tax structure. For Ukraine, this indicator is 2.39%. There are set of factors significantly limiting the possibilities of expanding tax autonomy. In particular, these are imbalances in economic development across oblasts and territories, different property status of the population, uneven population density along with different demographic structure.
-
A key obstacle to the effective property tax administration is the low level of content in real estate registers. A survey of local self-government representatives in different oblasts of Ukraine concluded that the register of rights to real estate is only 30–50% complete, while the land cadastre is 70–80% complete. LSGs lack sufficient powers to encourage property owners on entering information into the register and to enforce against dishonest taxpayers.
-
The imperfections in the administration of local taxes and fees are mainly caused by the shortage of reliable information on all property owners officially recorded in state registers and, therefore, in the State Tax Service of Ukraine (hereinafter referred to as the STS) databases. Besides, the imperfection is not so much individual as systemic, caused by disproportionate allocation of administrative resources, incorrect definition of administrator performance indicators, insufficient level of material and technical base development of regulatory authorities, and specifics of the property tax itself.
-
The property tax gap is quite significant. The largest part of this gap is due to the diffusion of the rate and tax base. According to estimates, setting a minimum nominal rate of real estate tax other than a land plot at 0.5% of the minimum wage at 2021 prices could generate UAH 8.6 billion in additional tax revenues. According to the State Tax Service, the losses due to the tax benefits over this period amounted to UAH 14.8 billion. It is estimated that additional revenues from land payments could have amounted to UAH 5.43 billion. In total, these losses make up 2/3 of the actual property tax revenues paid in 2021.
-
The main reasons for the significant tax gap in the property tax are: 1) imperfect legislation; 2) imperfect tax administration; 3) lack of institutional capacity of stakeholders (local self-government bodies and the State Tax Service); 4) insufficient level and quality of property register content; 5) lack of a unified integrated database of taxation objects.
-
The factor of imperfect property tax administration is mainly due to the insufficient level of property register content and the poor information quality on the objects of taxation. The regulatory authorities record objects of taxation upon their availability, ownership of taxpayers, confirmed by the registers, while control and verification activities mainly consist of desk audits for legal entities. Obviously, considering the specifics of the property tax, to ensure its effective administration, objects of taxation should be registered initially, and then taxpayers, rather than vice versa, as it is currently done.
A full report on the diagnostic results to be published after the presentation at the panel discussion "Potential of local taxes and fees: transforming the role of national and local authorities in tax administration" on 12 September (11:00–13:00).
For any questions or to join the event online, please send an e-mail to vitalii.pylypiv@giz.de.