Areas of Strength

• Latvia assesses various tax gaps and seems to follow up to reduce those. Latvia estimates the personal income tax (PIT) gap and social security contribution gap for the undeclared wages component (payroll taxes), and provides data on the VAT gap. In contrast to most EU countries active in the area of tax gap estimation, it publishes most of its tax gap estimates. Next to tax gap analyses, Latvia also assesses and monitors the size of its informal economy. Latvia has also laid out a detailed action plan with the aim to reduce the shadow economy by 1 percentage point of GDP by 2027.
• Latvia has made significant improvements in reducing the VAT compliance gap. The VAT compliance gap has been reduced from 12% of the VAT Total Tax Liability in 2020 to 5% in 2023 and appears to remain at a similar level in 2024.
• The country has achieved a high level of digitalisation of the state revenue service. Almost all the services of the Latvian state revenue service are available electronically, and a strategy for a full digitalisation has been developed. All corporate income tax and VAT returns and 94.9% of personal income tax returns are submitted electronically, and a taxpayer portal provides an overview across the major taxes.

Areas for Improvement

• Tax expenditures are widely used and increasing, with considerable budgetary implications. In 2023, national authorities estimate tax expenditures at 8.0% of GDP and 23.2% of total tax revenues. There could be potential to reduce policy gaps and boost Latvia’s tax revenues, which are below the EU average. Tax expenditures related to VAT and PIT are responsible for most foregone revenues (although the VAT policy gap is relatively low in EU comparison). A systematic assessment of the effectiveness and cost efficiency of tax expenditures could provide valuable insights.
• The proportion of undeclared salaries (‘envelope wages’) is still high. The overall trend is positive, and the share of undeclared wages has decreased in the last years despite an unfavourable economic situation. However, the underreporting of salaries and envelope wages is still very common and makes up the biggest proportion of the shadow economy in Latvia. In this regards, high tax wedge for lower earners can have played an important a role in this past. What is more, European Commission estimates suggest a relatively high corporate income tax (CIT) gap in Latvia. Broadening the bases of corporate and personal income taxes by moving informal or undeclared activities into the formal economy could help increase tax revenues, as also recommended in the 2025 Country-Specific Recommendations (CSR).

Tax Complexity

Latvia ranks 6^th out of the 27 Member States in the Tax Complexity Index (‘TCI’), where a higher rank corresponds to lower tax complexity. The TCI is based on the Global MNC Tax Complexity Project, a joint research project of Deborah Schanz (LMU Munich) and Caren Sureth-Sloane (Paderborn University). The TCI 2024 places Latvia 2^nd among the Member States with regards to Tax Code Complexity, and 18^th with regards to Tax Framework. This may indicate that whereas the structure of the tax regulations is very efficient (notably, in the area of group treatment, according to the authors), there might be some room for improvement in areas related to the tax processes carried out by the tax authorities (notably, audits).

The full Commission Staff Working Document of the Mind the Gap Report - Challenges and opportunities for tax compliance and tax expenditure in the EU regarding Latvia can be found here.

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