A new dawn for special economic zones

Poland is once again changing the rules of operation of Special Economic Zones. After the recent proposals of the Ministry of Economy, some experts predict their revival. Especially after Prime Minister Donald Tusk recently declared support for investors. Permanent state aid may be criticised, but it is a path followed by almost all countries.

It is still unclear how, but it is certain that the Ministry of Economy will actively persuade entrepreneurs to invest extensively in special economic zones (SEZ) by 2016. The new rules are being prepared by the Ministry of Economy and will be presented to the government by mid-August.

The zones are very likely to attract plenty of investment over the next two years, even if the Ministry of Economy does not introduce any changes to make investments easier. This is due to the fact that many investors have waited for the government’s decision on extending the operation of SEZs until 2026. Another issue was lifting the temporary ban on zone expansion. Positive decisions in both cases were made at the end of July.

Two barriers

The extension of the operation of the zones from 2020 to 2026 has been discussed for over two years for a good reason. The investment process lasts several years. A company enters the zone, buys land, obtains building permits, erects a building, installs production lines and launches production. This takes a dozen or more months at least. The company receives state aid in the form of CIT exemption when it begins to generate profits. The ceiling on state aid amounts to 40-50% of the value of investment in most areas of Poland. How can possibly the enterprise collect these millions of zlotys within 5-7 years (for companies investing in SEZs in the last two years)? They have little chance to utilise the entire state aid available.

Therefore, in recent months an increasing number of zone presidents have admitted that investors have suspended their projects awaiting the extension of SEZ operation. Without the extension, investment in SEZs would be unprofitable. The companies which have waited for the decision will now rush ahead with their projects.

The expansion of the SEZs area, which takes place at least once a year in the most active zones, was blocked in January. The government then decided not to debate ordinances on their extension and ordered that the Ministry of Economy and the Ministry of Finance should agree on criteria for the functioning of the zones.

Only at the beginning of the year, when lay-offs at FIAT were announced, the Łódź, Kraków and Pomeranian Economic Zones were expanded. Then the expansion was blocked and, at the end of July, 12 out of 14 SEZ awaited expansion of their area, which could generate 30 400 new jobs and investment projects totalling up to PLN 8.7 billion. The estimations are based on declarations of individual companies and average results generated in the given zones.

Poland has lost several investments due to the blockade. For example, Mars Poland, the animal feed and sweet manufacturer, having invested over PLN 700 million in Sochaczew, planned two new projects worth over PLN 300 million, but wanted to run them in the Łódź Special Economic Zone. However, it could not wait that long for the expansion of the zone and thus Poland lost one project. Attracting another will take effort.

No flood in sight

– The extension of zone operation until 2026 will undoubtedly boost the number of new investments. Numerous potential investors have suspended their projects awaiting the decision on whether the tax exemption will stay in place for another 6 years. Less state aid (reflected in the amount of available tax exemption) for projects implemented from 1 July 2014 is also important. If the permits effective until the end of 2026 are to be issued after 1 January 2014, the launch of most projects may be expected in the first half of next year. Such projects can receive a 12-year tax exemption and the amount of aid available will be in line with the “old” rules, says Krystian Bortlik from Deloitte.

Beyond any doubt we should see an increased number of investments after 1 July 2014, in particular in the regions where projects have not been located yet, which is also related to the new map of state aid.

– A special economic zone is a very efficient investment incentive, with its effectiveness increasing with the profitability of the business and the duration of tax exemption. Additional 6 years should therefore bring about a revival of the zones, adds Krystian Bortlik.

However, not everyone is so optimistic.

– I am waiting for the plan to intensify the influx of foreign investment to Poland. Now, when it is already known that SEZs will operate longer, some projects which have been in limbo may be implemented. But this will not increase Poland’s slice of the “global cake” significantly. We will rather just maintain our attractiveness, says Kiejstut Żagun from KPMG.

– The decision to extend SEZs until 2026 is a signal for both potential and existing investors in the zones that we offer a stable instrument. This may be decisive for some companies planning large investments and pondering on selecting the country. But we can hardly expect a flood of investment. Over 20 projects are waiting for the changes in the zones to materialise and for the expansion blockade to be lifted, but not everyone is so patient, adds Rafał Pulsakowski from PwC.

How to attract investors over the next two years

– A carrot may consist in the rule that investors implementing new projects can take advantage of the tax exemptions over a longer period, and also on their previous projects. A possibility to deduct losses would provide another incentive, says Rafał Pulsakowski.

– Today, competition is fierce and one must offer something really special to stand out. This could be a larger share of government grants in the state aid package offered to investors. As the importance of technology is increasing, Poland could benefit from introducing R&D tax incentives, adds Kiejstut Żagun.

Details of legal regulations will be crucial, in particular with regard to the new criteria for including private land in the zones. From the point of view of existing zone investors, one crucial question in terms of stability of current investment – as well as plans to reinvest – is whether zone business permits issued before the latest extension but “till the end of their existence” will remain in effect.

Flexible legal regulations and prompt operation of public administration should be particularly conducive to the process of applying for new permits and effective use of the current ones, in particular if the zones are expanded to include private land. Flexibility should be exercised especially in determining the conditions for the permit and the methodology for calculating employment (in particular in the case of reinvestment). Clear rules should be set concerning any possible extensions of the deadline for fulfilment of the conditions laid down in the permits.

As regards expansion of the zones, the criteria must be feasible and the operations must be performed quickly, since projects cannot wait for the zone expansion for over 18 months, as the investors will have simply given up.

The essential benefit of the zones is the tax exemption and so zone and off-zone activity must be clearly defined, along with their implication for the calculation of income tax. Unfortunately, recent decisions of tax authorities have been increasingly restrictive, resulting in a rising complexity of tax settlements, says Krystian Bortlik, adding another item to his wish list.

A year of scramble

His concerns about the criteria for incorporating private land into the zones are not altogether unfounded. The Ministry of Economy has still not reached agreement with the Ministry of Finance on the rules governing the SEZ functioning. When 14 ordinances extending the functioning of all zones until 2026 were submitted for government debate at the beginning of the year, with reservations of the Ministry of Finance which in principle opposed the entire concept of the zones, the government put the decision off and obliged the Ministry of Economy to develop, in cooperation with the Ministry of Finance, the criteria determining the further functioning of SEZs. The criteria were to be ready by 16 May. However, the deadline passed unheeded.

There are seven contentious issues and the only thing the ministries agree on is that entrepreneurs leaving the zone before meeting all their commitments must return the unpaid tax. The issue has not been regulated and the possibility has been taken advantage of by several investors, such as Funai, which failed to create the promised number of jobs, laid off its employees and requested the termination of the permit, while at the same time using state aid (in the form on tax exemption on zone activities) since 2007. What is more, such practices are lawful according to the existing legislation. But this is the only point on which both ministries agree.

Furthermore, solutions proposed by the Ministry of Finance are so restrictive that, if the Ministry of Economy approves them, there will hardly be any projects in the zones. The Ministry of Finance does not want already operating companies to enter the zones. However, this is very often the case, since tax exemptions allow factories to win the competition for a new project in their group. Thanks to tax exemptions, domestic entrepreneurs are more willing to expand their production plants rather than building new ones in a country with lower production costs. To prevent relocation of jobs, the Ministry of Finance also demands the introduction of a mechanism preventing enterprises from employing persons from the companies in the same capital group under the zone business permit. The Ministry also wants that the consent of the Minister of Finance be required for every modification of the permit.

This already bodes ill for zone investors, as information flow is notoriously sluggish  between the two ministries . Yet what would hamper SEZs even more is the proposal to establish the zones solely in the areas (regardless of whether it is private land or land owned by gmina) where the unemployment rate is 130% of the national average. This criterion is met by only 46 out of 101 poviats of Eastern Poland. The Ministry of Economy is concerned that such a solution will greatly restrict this instrument of public aid.

After the failure to reach agreement by mid-May, the Ministry of Economy and the Ministry of Finance were to agree on the rules governing the functioning of the zones on 25 July, i.e. two days after the government’s approval of  SEZ extension. But a winning streak for SEZ, which had begun with the government’s decision on extension of their functioning until 2026 on 23 July, continued.

Although in the morning of 25 July an anonymous representative of the Ministry of Finance told the Polish Press Agency (PAP) that they would agree to extend the functioning of the zones, but only for the companies that will invest over the next two years, by the afternoon it was clear that the Ministry of Finance did not hold all the cards anymore. The Chancellery of the Prime Minister no longer wants the ministries to meet halfway. Now the Ministry of Economy is to set the rules, taking into account the proposals of the Ministry of Finance.

– My interpretation is that no further restrictions will be introduced until 2016. Afterwards, when the government is no longer keen on attracting the maximum influx of investment, we will consider the introduction of the solutions proposed by the Ministry of Finance, says Ilona Antoniszyn-Klik, a Deputy Minister of Economy.

The expansion of the zones was to be blocked until the rules governing the SEZ functioning are in place (here we go back to the seven contentious issues between the Ministry of Economy and the Ministry of Finance). However, the week between 22 and 26 of July brought another nice surprise the extension of SEZ functioning and the shift in the approach to the criteria to be agreed by the two government departments. The Permanent Committee of the Council of Ministers, which prepares the documents for government debate, approved the ordinances expanding the area of the Kostrzyn-Słubice Special Economic Zone and the Mielec Special Economic Zone. The Ministry of Economy declares that the government will now quickly approve the expansion of the remaining 10 zones. However, there are those who are somewhat sceptical.

– Let us wait and see whether other zones will also be expanded. The Mielec SEZ and the Kostrzyn-Słubice SEZ own some land in Szczecin and maybe this decision is a response to the problems of the former Szczecin Shipyard, warns the president of one of the zones.

Changes, changes

The Ministry of Economy tries to force through another important document for SEZs. At the beginning of June, the Ministry submitted draft assumptions for the Act amending the Act on SEZ for interdepartmental consultation. What will the amended Act include? The rules governing the repayment of state aid when the permit is terminated. It is a reaction to the already mentioned smartness of entrepreneurs. Another change is the replacement of a representative of the voivode with a representative of the Ministry of Finance on the supervisory boards of the SEZ managing companies. Rumour has it that the Ministry of Finance once wanted such positions for its representatives. However, the management of the zones reacted nervously and blocked the proposal. Now the experts argue that if the Ministry of Finance has its people in the supervisory boards, it will be less critical of SEZs.

One of the most important issues is the change in the scope of activity of the companies managing the zones. They will no longer be property administrators but managers involved in the process of adjusting vocational education to the needs of the labour market, creating conditions for development of clusters and coordinating their operations. It should be noted that this is already happening in some zones, e.g. the Katowice Special Economic Zone is the initiator of Silesia Automotive. There is one more change that many companies have been waiting for since 2008. At that point investors were offered a possibility to reduce employment by 20% compared to the figure declared in the permit. However, these anti-crisis measures related only to the companies which received permits after the changes have entered into force (the summer of 2008).

Yet this is somewhat belated. The companies which received permits in the spring of 2008 undertook to create a specific number of jobs and maintain them for five years. The five years are coming to the end. The change called for by the companies for so long is not needed anymore. But it is enough to listen to the experts’ suggestions for the employees of the Ministry of Economy to have their hands full for another several years.

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