site.btaBulgaria’s Fiscal Council Frowns on IMF Proposal that Country Should Abandon Flat Tax in Favour of Progressive Regime

Bulgaria’s Fiscal Council objects to an International Monetary Fund (IMF) proposal that the flat income tax in the country should be replaced by progressive taxation. In an analysis published on Friday, Fiscal Council Chair Simeon Djankov and Council member Lyubomir Datsov argue that the flat tax, when combined with social transfers and targeted social support programmes, achieves a level of fairness without the distortions caused by progressive tax.

Among its recommendations following a visit to Bulgaria from September 10 to 23, the IMF noted that in the medium term, Bulgaria’s flat tax regime has limited potential to generate sufficient revenue and recommended considering a more progressive taxation model to reduce inequality.

The Fiscal Council analysis recalls that the IMF has repeatedly advised Bulgaria to abandon the flat income tax in favour of a progressive system. However, the authors argue that the country’s economic context and the effectiveness of the flat tax over the past two decades suggest that such a recommendation is inappropriate.

The analysis provides several examples of why maintaining the flat tax is advantageous. Introduced in 2008, the flat tax contributed to a period of high economic growth compared to regional competitors. By maintaining a low, single tax rate of 10 percent, Bulgaria created incentives for entrepreneurship, investment, and formalization of economic activity, the authors note, adding that switching to a progressive system could undermine these benefits.

Other advantages listed in the analysis include that a single rate reduces opportunities for tax evasion and simplifies law enforcement. Introducing a multi-tier progressive tax system increases administrative complexity, raises compliance costs, and creates loopholes that can reduce actual revenue collection. The analysis points out that data from countries that have moved from flat to progressive taxation often show a short-term increase in nominal revenues, but also a long-term risk of revenue loss due to tax avoidance and the relocation of high-income individuals.

The flat tax is also described as a key signal to investors, indicating a business-friendly environment. In contrast, progressive taxation, the authors note, would lead to capital flight, brain drain, and reduced domestic investment in high-income sectors.

They stress again that the combination of the flat tax with social transfers and targeted support achieves a form of fairness without the systemic distortions of progressive taxation.

The IMF claims that progressive taxation ensures long-term fiscal sustainability. However, the analysis argues that destabilizing the current tax system could reduce compliance, dampen investment, and ultimately undermine both revenues and fiscal sustainability.

According to the authors, maintaining the flat tax — while simultaneously improving targeted social policies — is a better approach for Bulgaria than adopting the IMF’s progressive taxation proposal. They argue that introducing progressive taxation would disrupt the entire tax system — from changes in the balance between direct and indirect taxes to shifts in profit taxation, VAT rates, and beyond.

The analysis further states that building social policy through the tax system is inefficient and causes major distortions in structure and tax payment incentives — a basic principle of public finance. The main problem with shifting to progressive taxation, they say, is that it would shift the tax burden primarily onto the middle class and high-skilled workers, while benefitting low-skilled earners. Therefore, they conclude, the key issue is not inequality itself, but what kind of economy Bulgaria aims to build and incentivize.