A well-planned tax policy provides the necessary incentives to promote economic growth. This chapter, along with two sub-dimensions, explores the effectiveness of tax policy and tax administration. The first sub‑dimension, tax policy framework, assesses the soundness and efficaciousness of the legal framework, the tax system, and the incentives for investment in promoting steady economic growth. The second sub‑dimension, tax administration, focuses on the efficiency and transparency of the tax administration organisation while also reflecting upon the tax filing and payment procedures and taxpayer services.
Western Balkans Competitiveness Outlook 2024: Bosnia and Herzegovina
Competitiveness and Private Sector Development
5. Tax policy
Abstract
Key findings
Bosnia and Herzegovina has improved its scores since the previous CO assessment, although the overall score is slightly below the regional average (Table 5.1). Overall performance in the tax policy framework sub-dimension remained the same. However, tax administration in the economy was strengthened due to improvements in compliance assessment and risk management as well as higher rates of e-filing in both entities covered by the CO assessment, i.e. the Federation of Bosnia and Herzegovina (FBiH) and Republika Srpska (RS). However, relatively underdeveloped personal income tax and social security contribution analysis offset these advancements.
Table 5.1. Bosnia and Herzegovina’s scores for tax policy
The key findings are:
Bosnia and Herzegovina levies a significant tax burden on labour income despite maintaining a low personal income tax (PIT) rate. This burden largely stems from the social security contribution rates (SSCs), among the highest in the region: in the FBiH, the total SSC rate is 41.5%, while in the RS, it is 31%.
The entities’ reliance on revenues from SSCs presents challenges given current trends in population ageing and emigration. These shifts risk reducing the size of the labour force, consequently leading to significant declines in the tax revenue collected.
Although RS made some progress in its tax expenditure reporting, this analysis remains weak in the FBiH and at the state level, which is detrimental to monitoring and the effectiveness of tax expenditures, including tax incentives, along with the tax revenue forgone.
The Ministry of Finance of RS, with the support of the International Monetary Fund (IMF), conducted aggregated tax expenditure accounting for the first time in March 2023.
E-filing of taxes has been progressively implemented for most main taxes in both entities. In the FBiH, e-filing is possible for corporate income tax (CIT), PIT, and SSCs, while in RS, taxpayers can electronically file any type of tax. Moreover, the frequency of e-filing system use has been growing across both entities, with rates in the FBiH increasing from 55% to 64% and rates in RS rising from 43% to 90% between 2019 and 2022.
There have been ongoing efforts to measure and improve taxpayers’ satisfaction with the tax administrations’ services in both entities. Namely, the Swedish Tax Agency has worked with both entities to assess satisfaction levels.
Despite progress in recent years, Bosnia and Herzegovina could still deepen its engagement within the international taxation framework. Specifically, the economy has yet to participate in the OECD Automatic Exchange of Information (AEOI) initiative.
State of play and key developments
Sub-dimension 4.1: Tax policy framework
While Bosnia and Herzegovina generates substantial tax revenue relative to its GDP, its tax mix heavily relies on indirect taxes. Corporate income tax (CIT) and personal income tax (PIT) revenues, on the other hand, are comparatively low (Table 5.2). Both the FBiH and RS have maintained tax-to-GDP ratios above the WB6 average, with 33.5% and 35.3% respectively, compared to the WB6 average of 30.4%. In FBiH, the share of tax revenues drawn from social security contributions (SSCs) stands at 44.2%, while taxes on goods and services account for 43.2% of the total tax revenue. This combination totals 87.4% of the entity's total tax mix. Similarly, in RS, SSCs contribute 39.9%, and taxes on goods and services contribute 47.3% to the tax revenues, totalling 87.2% of the tax mix. The proportion of total tax revenue contributed by PIT and CIT is lower in both entities compared to the OECD averages. The FBiH collects 5.7% of its total revenue from PIT and 5.5% from CIT, while RS collects 5.3% from PIT and 6.6% from CIT, all of which are notably lower than the OECD averages of 24.1% for PIT and 9% for CIT.
Table 5.2. Bosnia and Herzegovina’s tax revenues composition (2022)
Tax revenues are expressed as a percentage of GDP
Notes: BIH denotes Bosnia and Herzegovina. Information for Bosnia and Herzegovina is from 2022, and information from the OECD is from 2020.
Sources: Information provided by the FBiH’s Federal Ministry of Finance and the Ministry of Finance of RS for the CO assessment; Data on the OECD are from OECD (2022[1]).
Both the FBiH and RS operate a relatively low statutory CIT rate of 10%. While this rate is in line with the lower spectrum of the WB6 region, it is considerably lower than the rate in most OECD countries. Both entities tax resident companies on income earned domestically and abroad. Non-resident businesses, on the other hand, are taxed solely on the income they generate within the jurisdiction. Capital gains are categorised as business income and are subject to the 10% CIT rate. There is no withholding tax for dividends distributed to resident individuals, but both entities levy withholding taxes on income generated by non-resident businesses paid to foreign entities. In the FBiH, the withholding tax rate on dividends by non-resident businesses paid to foreign entities is taxed at 5%.
In terms of investment incentives, both the FBiH and RS primarily offer cost-based tax incentives, with a significant emphasis on supporting research and development (R&D) expenditures. This targeted approach aligns with international best practices, as evidence supports the efficiency of cost-based incentives in driving R&D investment (OECD, 2022[2]).
The Global Anti-Base Erosion Rules (GloBE) could affect Bosnia and Herzegovina. The GloBE Rules ensure large multinational enterprises (MNEs) pay a minimum level of tax on the income arising in each of the jurisdictions in which they operate. While countries are not required to adopt the GloBE Rules, jurisdictions that adopt them will apply an effective tax rate test using a common tax base and a common definition of covered taxes to determine whether an MNE is subject to an effective tax rate below the agreed minimum rate of 15% in any jurisdiction where it operates (OECD, 2022[3]). For Bosnia and Herzegovina, that means that in-scope Ultimate Parent Entities of MNE Groups – that have their headquarters in a jurisdiction that has implemented the GloBE Rules and that operate a subsidiary (or Constituent Entity) in Bosnia and Herzegovina – may be subject to a top-up tax in the residence jurisdiction, if the profits earned in the subsidiary are taxed at an effective rate below 15%. As Bosnia and Herzegovina's statutory CIT rate is below this rate, subsidiaries of multinational enterprises that fall under the scope of GloBE and operate within Bosnia and Herzegovina could be impacted by these rules.
In recent years, Bosnia and Herzegovina has become increasingly engaged within the international taxation framework. In 2019, it became a member of the Inclusive Framework on Base Erosion and Profit Shifting (BEPS) and has signed the Convention on Mutual Administrative Assistance in Tax Matters. That said, Bosnia and Herzegovina has yet to participate in the exchange of tax information initiatives. Exchanging information through the OECD Automatic Exchange of Information (AEOI) standards and implementing the Country-by-Country (CbC) Reporting Package can incentivise taxpayers to voluntarily disclose their assets and enable the tax authority to detect evasion activities better and concealed offshore assets. Strengthening its capacity in this area will also help Bosnia and Herzegovina more effectively tax capital income from its top earners (OECD, 2017[4]).
PIT rates in Bosnia and Herzegovina are relatively low. The FBiH applies a flat PIT rate of 10%, while in RS this PIT rate is only 8% (although a 10% rate applies to self-employed individuals). In the FBiH, the annual PIT allowance is BAM 3 600 (EUR 1 840). In RS, the PIT allowance is BAM 12 000 (EUR 6 145) per year, and taxpayers are also able to deduct BAM 1 800 (EUR 920) per year for each dependent family member, and a deduction based on interest paid on housing loans.
While PIT rates are relatively low, SSC rates are high in both entities. RS enforces an aggregate contribution rate of 31%, while in the FBiH employees face SSC rates of 31%, and employers face rates of 10.5%, leading to a total SSC rate of 41.5% (Figure 5.1). These rates are applied uniformly across all sectors of employment. This reliance on SSCs presents challenges given the demographic shifts due to population ageing and emigration trends. These two trends risk shrinking the labour force, and consequently tax revenues (Brys and Colin, 2019[5]).
Figure 5.1. Total SSC rates, Federation of Bosnia and Herzegovina, Republika Srpska, WB6 economies and the OECD (2022)
In percentage
Sources: Information provided by the FBiH’s Federal Ministry of Finance and the Ministry of Finance of RS for the CO assessment; (OECD, 2024[6]).
Given the likely impact of these demographic changes on Bosnia and Herzegovina’s economy, it is crucial for both entities to utilise modelling and forecasting to assess the impact that demographic changes will have on its revenue generation (see, for example, OECD (2018[7])). Such an assessment is a critical step in formulating a plan to bolster the resilience of the economy’s public finances. RS has already started evaluating how projected changes to the population will impact the sustainability of its pension system but has yet to look at the effect on PIT revenues. Moreover, Bosnia and Herzegovina has developed and uses other models, namely micro-simulation models, that simulate the effects of PIT, SSC, and CIT reforms, including their distributional impacts.
A presumptive or simplified tax regime targeting small businesses or vulnerable self-employed individuals could also play a role in formalising Bosnia and Herzegovina's tax system. These regimes aim to induce businesses to formalise by reducing tax compliance costs and setting lower tax rates than the standard tax system. RS has implemented such a regime for small entrepreneurs, where a small entrepreneur is defined as a natural person who does not employ more than three workers and does not exceed an annual income of BAM 50 000 (EUR 26 000). The annual tax for a small entrepreneur is calculated at a rate of 2% on the total income of the entrepreneur. However, the annual tax cannot be less than BAM 600 (EUR 300). The maximum tax burden is capped at BAM 1 000 (EUR 510) on the total income of a small entrepreneur, effectively applying a 2% tax rate on a maximum income of BAM 50 000.
Regarding the design and structure of the value added tax (VAT) system, Bosnia and Herzegovina levies a 17% VAT on a relatively broad base. The following services are exempt from VAT: public postal services (except telecommunications), medical and healthcare services, social security services, education services, and sports or sports education services (Bosnia and Herzegovina Administration for Indirect Taxation, 2023[8]). However, there are no goods for which a 0% rate applies, and the VAT registration threshold is the lowest in the region. Notably, the VAT registration threshold in Bosnia and Herzegovina was increased from BAM 50 000 to BAM 100 000 in November 2023.1 Bosnia and Herzegovina imposes a VAT on cross-border digital services. The country's VAT rules predominantly follow the destination principle outlined in the international VAT/goods and services tax (GST) Guidelines, referencing the consumer's place of residence.
In terms of environmentally related taxes, Bosnia and Herzegovina imposes excise duties on gasoline and diesel fuel. There remains ample room for further carbon pricing and elevated excise taxes to enable Bosnia and Herzegovina to meet its climate objectives and accelerate the shift towards net zero greenhouse gas emissions. Additionally, Bosnia and Herzegovina need to evaluate the consequences that the EU Carbon Border Adjustment Mechanism (CBAM),2 scheduled to take effect from January 2026, may have on its economy. Depending on this analysis, Bosnia and Herzegovina may wish to enhance its carbon pricing to avoid potential revenue losses. The domestic pricing of carbon offers the dual advantage of generating revenues that can be channelled towards the green transition and/or other government policies (OECD, 2022[9]).
In Bosnia and Herzegovina, health taxes include a specific and ad valorem excise tax on cigarettes and a specific tax per kilogramme of smoking tobacco, alongside an ad valorem excise tax on cigars and cigarillos. Cigarettes are subject to a specific excise tax of BAM 82.50 (EUR 42) per 1 000 cigarettes and an ad valorem rate of 42% on the retail price. An excise tax of BAM 133.20 (EUR 68) per kilogramme is imposed on smoking tobacco. Such a system that incorporates both ad valorem and specific excise taxes can be found in many OECD member countries and aims at deterring the consumption of both high- and low-value products while simultaneously optimising revenue generation (OECD, 2020[10]). These taxes offer potential revenue gains and have important health implications, as they can help decrease smoking rates and thus alleviate associated healthcare costs. Thus, there is further scope to augment taxes on tobacco products, given their health and revenue benefits, and align more closely with World Health Organisation (WHO) recommendations and OECD averages (OECD, 2022[11]).
Efforts towards conducting regular tax expenditure reporting have been mixed across the state and entity levels. Notably, RS conducted aggregated tax expenditure accounting for the first time in March 2023 and plans to do so regularly. Conversely, tax expenditure reporting does not occur regularly at the state level or in the FBIH. Reporting would allow both the state and the FBIH to monitor the use and effectiveness of tax expenditures, including tax incentives, along with the tax revenue forgone.
Sub-dimension 4.2: Tax administration
Tax administration functions are divided among different jurisdictions, with direct taxes designed, collected, and administrated by the FBiH, RS and the Brčko District, and indirect taxes managed at the state level by the Indirect Taxation Authority. In FBiH, the tax administration approach is split between functions such as registration and tax return processing, and a taxpayer group approach for audits, with separate units for different types of taxpayers. RS utilises its tax administration central office for co‑ordination and policy implementation, with regional centres taking on varied functions, from audits to tax collection, and local offices handling document processing and tax liability calculation.
Regarding compliance assessment and risk management, a risk-based approach is applied throughout Bosnia and Herzegovina. At the state level, a Risk Analysis and Management Department prepares a monthly audit plan, prioritising taxpayers based on their calculated risk points. Both entities have developed audit plans targeting large taxpayers, with an automated system for selecting high-risk taxpayers currently in development in RS. These risk-based selection strategies allow for effective resource allocation in compliance programmes.
Regarding independence and transparency, neither the FBiH nor RS has an independent management board of the tax authority. In both entities, however, the tax administration budget is set via annual budgetary procedures and is not dependent on the amount of revenue collected. Misconduct by tax administration members is regulated in RS but not in the FBiH, underscoring the need for strong safeguards to ensure tax administration independence.
With respect to tax filing and payment procedures, e-filing has been progressively implemented for different taxes. Notably, e-filing became mandatory for VAT and excise duties in 2019. The uptake has been significant; in 2022, 90% of tax returns were filed electronically in RS, and 64% in the FBiH. To facilitate this process, taxpayers are provided with free software for tax compliance. However, while neither entity has an independent body to review these procedures regularly, both undergo evaluation by their respective Ministries of Finance.
In the FBiH, regular surveys are conducted to measure the level of satisfaction with taxpayer services. As part of the Tax Administration’s Modernisation Project, in March 2023 the Swedish Tax Agency helped carry out an independent survey on taxpayers’ satisfaction with the Tax Administration’s services. Taxpayer services are available on line and payments can be made on line.
Overview of implementation of Competitiveness Outlook 2021 recommendations
Bosnia and Herzegovina’s progress on implementing past CO Recommendations has been mixed: in some areas, such as strengthening the use of electronic filing, the economy has made strong advances since CO 2021. Conversely, its progress has stagnated in several domains, including strengthening the tax administration’s independence and rebalancing labour income taxation. Table 5.3 shows the economy’s progress in implementing past recommendations for tax policy.
Table 5.3. Bosnia and Herzegovina’s progress on past recommendations for tax policy
The way forward for tax policy
Considering the implementation level of the previous recommendations, there are still areas in which Bosnia and Herzegovina could enhance the tax policy framework and further improve the functioning of the tax administration. As such, policy makers may wish to:
Diversify the tax mix by lessening reliance on SSCs and taxes on goods and services and increasing revenues from PIT and CIT. Diversifying the tax mix can raise revenues and make them more resilient to shocks and long-term trends, such as population ageing.
Review the SSC rates and consider the labour market outcomes of shifting towards a progressive PIT system. Shifting the tax burden from SSCs to a progressive PIT system could also potentially enhance the tax system's equity and efficiency. Regarding equity, increasing the number of PIT brackets and introducing a higher top PIT rate would make the tax system more redistributive and help raise revenues. On the efficiency front, reduced SSC rates and low bottom PIT rates could decrease barriers to formal employment.
Implement environmentally related taxes, such as carbon pricing and elevated excise taxes. This would help Bosnia and Herzegovina to meet climate objectives and generate additional revenues. The example of Indonesia’s introduction of carbon pricing could be relevant for policy makers in Bosnia and Herzegovina (Box 5.1).
Box 5.1. Indonesia’s Carbon Tax
Indonesia passed the Law on the Harmonization of Taxation Regulations in October 2021, with which it introduced a carbon tax. The tax will be payable on purchasing “goods containing carbon” and activities that produce greenhouse gas emissions. The revenue generated from the carbon tax may be used to finance the economy’s climate change mitigation and adaptation activities through the national budget. The carbon tax was put into force on 1 July 2022. The minimum carbon tax rate is set at IDR 30 per kilogramme of CO2 equivalent (approximately EUR 2.7 per tonne), less than half of the originally proposed rate of IDR 75. While low, according to the law the tax rate will be “higher than or equal to the carbon market price per kilogram of carbon dioxide or its equivalent”, when the cap‑and-trade carbon emissions trading system will be operational. For the initial phase, beginning in 2022, the carbon tax will only apply to coal power plants. The carbon tax will be levied on the amount of emissions that exceed a given cap, based on intensity criteria depending on the power plant size. From 2025 onwards, the full implementation of the carbon trading system and an expansion in the number of sectors subject to the carbon tax will be considered depending on several factors, including economic conditions, the readiness of actors and impact assessments. Indonesia is the fourth Asian economy to implement a carbon-pricing mechanism, after the People’s Republic of China, Japan, and Korea.
Source: OECD (2022[12]).
Continue to conduct tax expenditure reporting and further strengthen the level of analysis to evaluate the effectiveness of tax incentives and expenditures. Improved tax expenditure reporting is key to enhancing transparency in the tax system and allowing for independent evaluation of tax incentives. A regular tax expenditure report should be realised to identify, measure, and report on the cost of tax expenditures in a way that enables their cost to be compared with direct spending programmes. Policy makers can then conduct cost-benefit analysis to evaluate whether specific tax incentives meet their stated objectives and, if not, whether they should be abolished or replaced.
Improve transparency and exchange of information by participating in initiatives such as the OECD AEOI standards and implementing the CbC Reporting Package. Progress in this area allows for the possibility of using exchanged data for tax enforcement purposes (i.e. from tax assessment to tax collection). Additionally, the availability of offshore financial account information domestically may have a deterrent effect against tax evasion practices.
Assess the impact of the GloBE Rules on the economy’s tax system and tax incentives. To avoid potential revenue losses, both entities will need to consider aligning their tax policies with international standards and, in the short term, may wish to consider introducing a qualified domestic minimum top-up tax (QDMTT).
References
[8] Bosnia and Herzegovina Administration for Indirect Taxation (2023), The Threshold for Entering the VAT System Has Been Increased to BAM 100 000, https://www.uino.gov.ba/portal/en/news/the-threshold-for-entering-the-vat-system-has-been-increased-to-bam-100-000/ (accessed on 18 July 2024).
[5] Brys, B. and C. Colin (2019), Population Ageing and Sub-Central Governments, https://doi.org/10.1787/22265848.
[6] OECD (2024), OECD Global Tax revenue Database, https://www.oecd.org/tax/tax-policy/global-revenue-statistics-database.htm (accessed on 14 June 2024).
[11] OECD (2022), Consumption Tax Trends 2022: VAT/GST and Excise, Core Design Features and Trends, OECD Publishing, Paris, https://doi.org/10.1787/6525a942-en.
[2] OECD (2022), OECD Investment Tax Incentive Database: 2022 Update: Tax Incentives for Sustainable Development“, https://www.oecd.org/investment/investment-policy/oecd-investment-tax-incentives-database-2022-update-brochure.pdf (accessed on 1 March 2024).
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[1] OECD (2022), Revenue Statistics 2022: The Impact of COVID-19 on OECD Tax Revenues, OECD Publishing, Paris, https://doi.org/10.1787/8a691b03-en.
[3] OECD (2022), Tax Incentives and the Global Minimum Corporate Tax: Reconsidering Tax Incentives after the GloBE Rules, OECD Publishing, Paris, https://doi.org/10.1787/25d30b96-en.
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[10] OECD (2020), Consumption Tax Trends 2020: VAT/GST and Excise Rates, Trends and Policy Issues, OECD Publishing, Paris, https://doi.org/10.1787/152def2d-en.
[7] OECD (2018), Reshaping the Personal Income Tax in Slovenia, OECD, Paris, https://www.oecd.org/tax/tax-policy/reshaping-the-personal-income-tax-in-Slovenia.pdf.
[4] OECD (2017), Standard for Automatic Exchange of Financial Account Information in Tax Matters, Second Edition, OECD Publishing, Paris, https://doi.org/10.1787/9789264267992-en.
Notes
← 1. www.uino.gov.ba/portal/en/news/the-threshold-for-entering-the-vat-system-has-been-increased-to-bam-100-000.
← 2. The EU Carbon Border Adjustment Mechanism (CBAM) is the policy instrument designed to reduce the likelihood of carbon leakage by instituting a carbon price on imported goods. This tool reflects the EU’s commitments to reducing its greenhouse gas emissions under the “Fit for 55” package while still ensuring a level playing field between EU and non-EU businesses. The CBAM’s transitional period, which started on 1 October 2023 and continues until the end of 2025, exclusively involves reporting obligations; however, from 1 January 2025, carbon pricing will also be implemented.