Investment council targets foreign investment

  • 2010-08-25
  • By Gunta Kursisa

RIGA - A high level council dedicated to the attraction of investments was established on Aug. 10 by the Latvian government so as to facilitate the country’s successful competition on the global investment market. The established investment attraction methodology “Polaris” will coordinate the activities of Latvian ministries, local governments, and public authorities - the key stakeholders - in order to attract foreign investors, announced representatives from Prime Minister Valdis Dombrovskis’ (New Era) office.

We are especially hopeful that this new initiative will provide investors with a proactive and coordinated approach by the government and local municipalities, says the president of the American Chamber of Commerce in Latvia, Ivars Slokenbergs.
Latvia has been on the receiving end of substantial foreign investment, especially during the economic boom years. Aigars Kalnins, balance of payments expert at the Bank of Latvia, says two thirds of total transactions’ growth in the past 10 years was observed during 2006 - 2008. During these three years Latvia received 2.7 billion lats’ (3.8 billion euros) worth of foreign direct investment (FDI), which coincides with a period when bank credits were easily accessible. In 2009, direct investment flow was still positive, at 36 million lats in total.

The economic crisis impacted business operations. Kalnins says foreign investors were faced with the need to cover losses in the amount of 1.1 billion lats last year, doing so with 700 million lats’ investment in equity capital and almost 400 million lats’ investment in kinds of other capital.
Slokenbergs says that despite the challenges raised by the crisis, Latvia in the mid-term has competitive advantages that are attractive to investors – an educated and relatively low-cost workforce, a relatively favorable tax regime and infrastructure and a strategic geographic position.

During the past decade Latvia was enticing for foreign investors in several sectors which were providing fast profits due to a rapidly growing internal market, says Kalnins. Banks, real estate, construction and trade have been the most promising sectors since 2000. Almost 30 percent, or 1.7 billion lats, of total investment stock are in the banking sector.

More than half of these investments in Latvia come from Sweden and from neighboring Estonia. Real estate, rental and similar business came second in terms of attractiveness for investors, which employed 1.2 billion lats in total. The biggest investment in Latvia comes from Estonia – 900 million lats - with its Nordic neighbor Sweden second at 800 million lats, followed by Denmark and Germany, the source of 400 million lats of investment each, but the list also includes the Netherlands, Finland, Russia, Ireland, Lithuania, U.S. and Cyprus, according to the Bank of Latvia representative.

Andris Ozols, general director of The Investment and Development Agency of Latvia (IDAL), which is assigned to carry out the newly established council, says manufacturing is the most significant sector for development of the national economy. IDAL has brought in 140 million euros by realizing 26 investment projects during 2003 – 2009, mostly in manufacturing. During these six years IDAL created 1,650 work places. Ozols says priorities for IDAL are in creating new work places and to increase the state’s exports.

Kalnins says that FDI in Latvia has risen more than five times during the past 10 years. The latest data of the Bank of Latvia put it at 5.8 billion lats at the end of the first quarter 2010.
In the past, Latvia has lost investment opportunities when potential investors walked away because they were unable to navigate all the legal and political obstacles put in their way, says Slokenbergs. He hopes the Coordination Council for Attracting Strategic Foreign Investment will provide investors a proactive and coordinated approach by the government and local municipalities.

The Baltic States and Latvia are attractive for foreign investors for different reasons; one of them is the low tax rates, compared to other countries. Tax policy to attract foreign investors in Latvia though has rather weakened when compared to the Estonian approach of 0 percent corporate income tax on retained earnings, and no taxation on debt-financed investments. Latvia still is attractive for foreign investors as a low tax jurisdiction, says Janis Taukacs, head of the Sorainen law firm’s regional tax team. For example, the corporate income tax flat rate is 15 percent in Latvia, the same as in Lithuania, compared to 21 percent in Estonia, if comparing taxation of return on equity-based investments. Taukacs adds that the notional interest deduction for retained earnings for corporate income tax purposes is beneficial for Latvian companies as a response to Estonia’s 0 percent CIT on retained earnings. Comparatively, though, payroll taxes for lower level salaries are high.

Unfortunately, there is a lack of tax-driven support of comprehensive innovation, research and development, says Taukacs. Such support could move Latvia ahead of its neighbors in attracting the corresponding foreign investments and in an effective use of the most likely exporting industry - services - by using the intelligence of our citizens, he says. More systematic direction in attraction of foreign investors would therefore be needed, for example, by deciding the priority industries to support (IT and e-commerce, transport and logistics, holding regimes, etc.). One of such approaches tend to lean towards large investments in general - the officials are now seriously considering amendments to the corporate income tax law, implementing a 40 percent  tax rebate for companies having large investment projects (above about 14.3 million euros) in certain industries as of 2011, Taukacs admits.

Predictability and stability are most prized by investors, and Latvia has to compete with other countries in this regard. During the crisis, taxes were raised with very short notice, which certainly has negatively affected the profitability of businesses that were not able to plan for such a tax hike, says Slokenbergs. It is not the specific tax rate that is determinative; it is that businesses must be given an opportunity to adjust to tax changes so that they can plan for it in advance. Thus, it is very important for the government and parliament to be consistent and clear in law-making so that businesses and investors know what to expect, he says.