Report No: ACS9985 Republic of Paraguay Strengthening Tax Administration & SOE Corporate Governance Output Version for Decision Meeting August 5, 2014 GGODR LATIN AMERICA AND CARIBBEAN 1|Page Standard Disclaimer: This volume is a product of the staff of the International Bank for Reconstruction and Development/ The World Bank. The findings, interpretations, and conclusions expressed in this paper do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. Copyright Statement: The material in this publication is copyrighted. Copying and/or transmitting portions or all of this work without permission may be a violation of applicable law. The International Bank for Reconstruction and Development/ The World Bank encourages dissemination of its work and will normally grant permission to reproduce portions of the work promptly. For permission to photocopy or reprint any part of this work, please send a request with complete information to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, USA, telephone 978-750-8400, fax 978-750-4470, http://www.copyright.com/. All other queries on rights and licenses, including subsidiary rights, should be addressed to the Office of the Publisher, The World Bank, 1818 H Street NW, Washington, DC 20433, USA, fax 202-522-2422, e-mail pubrights@worldbank.org. 2|Page TABLE OF CONTENTS I. INTRODUCTION ..................................................................................................................... 1 II. COMPONENTS ACTIVITIES AND RESULTS.......................................................................... 6 Component 1: Technical assistance on tax refund management and strategic management .............................................................................................................................. 6 Component 2: SOE corporate governance and oversight ...................................................... 8 Results and Outputs of FY14 .................................................................................................. 12 III. LESSONS LEARNED .......................................................................................................... 13 1|Page I. INTRODUCTION Background 1. This document describes the activities carried out and results achieved under the Strengthening Tax Administration & SOE Corporate Governance NLTA1 (P148234). The objectives of this NLTA are (i) to contribute to protect sources of VAT revenue through enhanced control/management of tax refund claims and cross cutting strategic management support, and (ii) to contribute to improve corporate governance of State-owned Enterprises (SOEs) for more efficient and transparent public enterprises. Activities under the NLTA were carried out primarily in FY14. 2. The document is divided into three parts: (i) Introduction, (ii) Components, Activities and Results, and (iii) Lessons Learned. Part I provides an overview of the evolving Bank engagement in the two areas over the past six years, and of the challenges in tax administration and SOE corporate governance in Paraguay. Part II presents the achievements and activities pursued under the NLTA. Part III presents the lessons learned and describes the proposed next steps. Strategic Fit 3. The NLTA was conceptualized at the request of the newly designated counterparts from the Paraguayan Government incoming Presidential Administration. The current administration in Paraguay declared at the outset of the presidential period the fight against extreme poverty a national priority. This commitment has been reinstated through the National Development Plan, where Poverty Reduction and Social Development stand as a strategic pillar. With this objective in mind the Administration of President Cartes has evidenced its commitment to continuing engagement in areas where the Bank’s involvement has shown progress over the last years. In particular, the Bank has continued the engagement with the National Tax Administration (Subsecretaría de Estado de Tributación –SET) and the SOE oversight body (Consejo Nacional de Empresas Públicas – CNEP) during the administration’s transition and now enjoys a thriving working relationship with the new managerial leadership. 4. But more importantly, the policy areas covered by the NLTA are capable of providing a pathway to decrease poverty and enhance shared prosperity. In Paraguay 2 , resources allocated to social development are scarce, public service delivery is poor, and low tax revenues restrict the resources available for the provision of public services. A regressive tax system with 1 Non-Lending Technical Assistance. 1|Page unexploited revenue potential hinders further re-distributional efforts, and SOEs with limited transparency and accountability are not as efficient as they could be and provide low quality public services. In this sense these two policy areas can contribute to the wellbeing of the bottom 40 percent. 5. The Bank has been supporting the country’s reform efforts in the areas of tax administration and SOE corporate governance for the past 6 years. Bank support in the areas of tax administration and policy, and SOE corporate governance has been provided through both lending and technical assistance. Initial reform efforts were supported under the 2009 First Public Sector Programmatic DPL (P113457), which addressed challenges of weak capacity and institutional arrangements. The 2011 Public Sector Reform Development Policy Loan (P117043) then built on and consolidated the previous efforts and continued the reform process. The DPL operations were accompanied by technical assistance, which provided the government with international experience and knowledge exchange (NLTAs and TFs), assessments and technical advice. Despite several changes in the administration throughout the past years, the relationship of the Bank with the counterparts has been strengthened and there has been a continuous government commitment and priority for reforms in these areas. 6. Components of the NLTA also supported two of the three objectives of the 2009-2013 CPS: poverty reduction and equitable growth, and continues to be aligned with the Bank’s current strategic priorities for Paraguay. The forthcoming Country Partnership Strategy proposes “Equal Opportunity” as a priority thematic engagement with the objective of Improving pro-poor policies and building institutional capacity for poverty reduction and social programs delivery. In this regard, the NLTA sought to contribute to creating fiscal space that can help increase social expenditure and a progressive tax system that could stop disproportionally burdening the poor, thus aiding the alleviate poverty and inequality. Moreover, SOE efficiency and transparency enhances public service provision to the people living under the poverty line, the main beneficiaries of the services. Progress and future challenge in tax administration 7. Tax administration processes have been improved. To address low tax revenues, the Government implemented a comprehensive tax reform beginning in 2004 aimed at simplifying and increasing the efficiency of the Paraguayan tax system. The SET focused on streamlining core processes such as taxpayer register and taxpayer single account and on overhauling IT infrastructure and IT systems. This resulted in significantly increasing the number of taxpayer registered in the tax roll and expanding e-service. In 2009, the Government had shifted its reform 2 Based on A Public Expenditure Review for Paraguay, The quest for optimal tax and expenditure policies for shared 2|Page effort to increasing the efficiency of its large tax payers unit, particularly its audit capacity through executive action and training, and doubled the number audits on large taxpayers since 2008 (from 20 to 40). In 2009-2010 the Government complemented Large Taxpayers Unit (LTU) reforms with issuing tax-compliance certificates, issuing 122,609 certificates in 2009 and another 280,105 in 2010. These certificates can only be obtained if the taxpayer has no payment arrears or delays in the submission of their tax statements, and are mainly required as a pre-condition for engaging in contracts with the public sector. 8. Further advances in tax policy have also been achieved in recent years. Authorities replaced the reduced VAT rate of 5 percent with a uniform rate of 10 percent (as envisaged during the 2004 reform) for financial sector transactions, and established a VAT rate of 5 percent to agricultural and livestock products while law 5061 eliminated several exemptions to the VAT, effectively expanding VAT collection to the agricultural sector. Moreover, the personal income tax (Impuesto a la Renta Personal –IRP), which had been contemplated on the 2004 reform but been stripped of effectiveness by subsequent decrees, was reinforced by Law 4.673 and further regulatory measures. 9. The combination of tax policy reform and tax administration modernization efforts in the recent years have resulted in a considerable increase in tax collection. Tax collection has been steadily increasing, while collection on the first semester of 2014, after VAT reforms were enacted, increased by 27 percent compared to the first semester of 2013. This increase in collection more than doubles the respective increase in 20133. Tax revenues have also steadily increased in nominal terms over the past years as the table below shows PARAGUAY Tax Burden Administración Tributaria (SET) y Dirección Nacional de Aduanas (DNA) (Millions of Guaraníes) Year GDP Adjusted GDP* Tax revenue Tax burden 2006 52,270,098 6,277,672 12.0% 2007 61,511,652 7,013,015 11.4% 2008 73,680,096 8,480,769 11.5% 2009 70,980,409 9,139,382 12.9% 2010 86,807,573 11,385,898 13.1% 2011 101,599,603 13,180,327 13.0% 2012 108.832.260 13,836,418 12.7% 2013 128.896.259 14.748.815 11.4% * A new methodology was applied to estimating GDP which resulted in a significant decrease of the GDP If we took into account the old series of GDP, the tax burden in 2013 would be 13.8 percent 10. However, despite advancements made during the last decade, the tax collection levels in Paraguay continue to be a challenge for the country’s shared prosperity. In fact Paraguay prosperity. World Bank (2013) 3 Year to year collection in the first semester of 2013 increased by 12 percent. 3|Page exhibits one of the most regressive taxes and transfers systems in the region, with the tax system aiding significantly to the resulting regressiveness. In comparison with other Latin American countries studied4 Paraguay redistributes relatively little through social spending and taxes: direct taxes and transfers reduce the Gini coefficient of the country (0.50) by less than one percent. However, indirect taxes reverse the enhancement in equality, putting the post-fiscal income Gini coefficient slightly higher than the market income Gini. As an example, the poorest decile spends 43 percent of its income, on average, on indirect taxes (VAT and combustibles tax) 5. 11. Specifically, the levels of tax effort6 remain a concern for the country. In terms of tax effort, Paraguay does not fare well with other countries in the region: Pessino and Fenochietto (2010) show a tax capacity of 25.80 percent while the average of Latin America is 34.36. Low tax effort hinders further re-distributional efforts and is hence an important challenge in the pursuit of shared prosperity, 12. The taxes and transfers system is a considerable challenge to poverty reduction and shared prosperity agenda. The main challenge in this regard is to turn the tax system in the country into an element that contributes to the overall equity of the system of taxes and transfers. Progress and future challenge in corporate governance of SOEs 13. Important progress was achieved in the oversight of SOEs. The oversight of SOEs was strengthened through the establishment of a centralized oversight and monitoring function. Financial transparency has been enhanced by requiring the publication of annual audited financial statements of SOEs and monthly reporting from SOEs to the oversight institution. Annual performance contracts have been introduced in all nine SOEs monitoring quarterly targets in terms of financial performance, overall management, and service delivery. Finally, Congress approved the Law Nr. 5058 institutionalizing the role of National Council of SOEs (Consejo Nacional de Empresas Públicas - CNEP) in September 2013 as the ministerial-level oversight body. Furthermore, the General Directorate for SOEs (Dirección Nacional de Empresas 4 Argentina, Bolivia, Brazil, Guatemala, Mexico, Paraguay, Peru, and Uruguay were the sample used in the “Commitment to Equity Study”: Higgins, Sean; Lustig, Nora: Ramirez, Julio; Swanson, Billy (2013). Social Spending, Taxes and Income Redistribution in Paraguay. Commitment To Equity, Working Paper No. 13. 5 Higgins, Sean; Lustig, Nora: Ramirez, Julio; Swanson, Billy (2013). Social Spending, Taxes and Income Redistribution in Paraguay. Commitment To Equity, Working Paper No. 13. 6 As defined in Le, Moreno-Dodson, and Rojchaichaninthorn (2008) , taxable capacity is the predicted tax-to-GDP ratio calculated using the estimated coefficients of a regression specification, taking into account the country specific characteristics. Tax effort is the index of the ratio between the share of actual collection to GDP and taxable capacity. 4|Page Públics – DGEP) was established to function as a technical body supporting the CNEP to comply with its legal mandate. 14. The SOE’s in Paraguay play an important role in the country’s economy and the delivery of public services. SOEs contribute an aggregated 14.4 percent of GDP, represent 31.8 percent of the national budget, and provide for 0.55 percent of total employment. With investments made by SOEs worth about 1.3 percent of GPD, Paraguay still lags behind most of its regional peers. Given the contribution of SOEs to the GDP and the national budget through transfers and taxes, efficient management of the SOE sector is a crucial factor for the fiscal sustainability of the country. Furthermore, basic public services such as electricity distribution, water and telecommunications are provided by SOEs; other SOEs are operating in petroleum import and distribution, and transport management. 15. While Paraguay has increased its public services, their efficient provision is an important factor for the equitable growth of the economy. This is reflected in the role of SOEs in the provision of basic public services to the vulnerable population as well as satisfying the rising demand due to increasing investment projects. Although Paraguay has increased the efficiency and coverage of basic public services there still is room for improvement. 16. Looking forward, the main challenge is to improve the efficiency and quality of service delivery by SOEs. This would imply the consolidation and further strengthening of the institutional framework and arrangements for an effective oversight mechanism, including mechanisms to monitor and mitigate fiscal implications. The CNEP, with the support of the Bank, has prepared a strategy and action plan to increase the financial autonomy and corporate governance of SOEs. 5|Page II. COMPONENTS ACTIVITIES AND RESULTS 17. The Tax Administration and SOE Corporate Governance NLTA was implemented between September 2013 and June 2014 and focused on two development objectives: (i) to contribute to protect sources of VAT revenue through enhanced control/management of tax refund claims and cross cutting strategic management support, and (ii) to contribute to improve corporate governance of State-owned Enterprises (SOE) for more efficient and transparent public enterprises. Consequently, the NLTA was comprised of two components: Component 1: Technical Assistance on Tax Refund Management and Strategic Management, and Component 2: SOE Corporate Governance and Oversight. 18. The NLTA achieved its development objectives as well as the expected intermediate outcomes. Specifically, Component 1 supported (i) an upgraded tax administration IT system with a risk-based approach that minimizes risks of fraudulent tax refund claims; (ii) an increased tax administration capacity, particularly for the main source of tax revenue (VAT) and (iii) the adoption of a holistic approach to the control of tax obligations by covering the entire cycle of tax administration processes. Component 2 (i) improved UMEP’s short and long term planning, whereas (ii) stakeholders (policy makers and SOEs high management) have been informed on corporate governance issues and potential actions for improvement. 19. A summary of the activities and achievements from the NLTA are described below by component and sub-component. Component 1: Technical assistance on tax refund management and strategic management 20. Activities under the NLTA achieved the objective of contributing to protect sources of VAT revenue through enhanced control/management of tax refund claims and cross cutting strategic management support. The objective was attained through three subcomponents focused on (i) tax refunds, (ii) implementation of corporate business plans, and (iii) the design of a management information system that builds on the IAMTAX tool. The specific products resulting from the activities of this component were: (i) Diagnostic of the current VAT Refund system (Annex 1) and functional requirements for managing VAT refunds (Annex 2), (ii) Technical Assistance for the SET: Mass Audits (Annex 3), and (iii) IAMTAX Assessment (Annex 4). Subcomponent 1.1: Support for the design of the VAT refund I.T. system 21. Activities under this subcomponent attained the objective of paving the way, in terms of process survey, user profiles, and general technical bedrocks, for the design of the VAT 6|Page refund module of the overall tax management I.T. system. Specifically activities led to drafting the business design of the new module of VAT refund, based on regulations contained in the new Law 5061 signed on 10/04/2013. This included the functional specifications, organization and detail of the business solution, the definition of the associated rules, and the validations, restrictions and interactions with other systems. 22. A report was prepared assessing strengths and weaknesses of the current IT system (Marangatú) and its key functionalities in terms of control of tax refunds. Also, a gap analysis was performed by comparing the Mexican model (MORSA) and SET requirements. The business design of the VAT refund module was presented in a two-day workshop during May 2014, and the Report was shared with the counterpart shortly afterwards. 23. Tax refund system and processes had been previously identified as a priority area by the IAMTAX assessment. In this regard, it should be noted that the MORSA risk parameters were strongly recommended by a WB team that undertook a comprehensive assessment (Annex 2) of the Paraguayan tax refund system in 2013. The recommendations stemming from the IAMTAX assessment (Annex 4) provided strategic direction to the NLTA’s work areas, particularly in terms of tax refund processes. 24. The business design is an essential input to the VAT returns system and as such paves the way for enhanced efficiency in the service. The VAT returns module of the Marangatú system is still in its initial phase, but through this input it has given a significant step forward. The next phase would require progress directly from the IT team on the SET´s part to code the business design and include it in the Marangatú system. 25. An enhanced efficiency of the VAT refund system will free resources within the administration for the attainment of other strategic objectives while at the same time protecting VAT revenue from fraudulent claims as VAT refund requests remain are a source of substantial revenue leakage. In addition, the tax administration has to devote a significant number of valuable resources to control these refund claims which results in high administrative and opportunity costs. In this sense, support of the implementation of an automated control of VAT refunds system based on risk-based principles significantly enhances the tax administration’s efficiency. Subcomponent 1.2: Implementation of corporate business plans 26. Activities under the NLTA achieved the subcomponent’s objective of supporting the effectiveness of the tax administration through assistance on the implementation of the corporate business plans that stem from the strategic planning process. Specifically, activities 7|Page focused on building the corporate business plan for the Audit Directory, focusing on mass audits techniques. 27. The objective was attained through close interaction with the counterpart, including workshops with the Audit Directory to ascertain capacity, needs, and performance gaps. The team held meetings with the tax audit area in order to support implementation of tax audit strategies and a more efficient design of tax audit plans. Special consideration was given to available sources of third party information and results of tax audits. It was recommended to put a strong focus on segmenting taxpayers by size and sectors in addition to strengthening taxpayer services (prevention). Furthermore, the team worked with the Audit Directorate and IT Directorate, to draft the annual audit plan for the institution. 28. The result was a detailed annual audit plan (Annex 2) based on strategic risk assessment and focused on mass audits. The report enumerates specific recommendations and procedures needed to be followed to establish mass audits within the Directorate, including specifications on information matching for selection of different interventions. Through this technical assistance the SET is now capable of implementing mass audits and hence enhancing the effectiveness and efficiency of their tax collection methods. Subcomponent 1.3: Management Information System and IAMTAX review 29. The objective of this subcomponent was to provide an input for the implementation of the SET’s strategic plan and further refining and improvement of the strategic plan and associated business plans. This subcomponent supported the design of a management information system focused on tax audit control. The system would involve qualitative and quantitative indicators that would provide managers with information about the timeliness, effectiveness and efficiency of tax administration in delivering on its mandate. As a widely used tool within the SET, IAMTAX would serve as a starting point for this system. 30. The technical counterparts reinstated their commitment to pursue a self-assessment based on the IAMTAX methodology. However, they deemed it necessary to wait for a time when the current managerial leadership in the administration has more resources in terms of staff time to devote to the assessment, and when there is a larger lag between the last assessment, in order to allow for a the improvements made by the leadership to take effect. The assessment is expected to be pursued in 2015, with the Bank’s support. Additionally the Mission offered the use of the Tracking Tax Administration Progress (TTAP) instrument as way to measure advancements in tax administration efficiency; the counterpart is now assessing the possibility of using the instrument. Component 2: SOE corporate governance and oversight 8|Page 31. The component’s objective of contributing to increase the efficiency and quality of service delivery by SOEs through improved corporate governance was achieved. To attain said objective the component was divided in two sub-components. Following up on the previous work developed with the Government of Paraguay in the area of SOEs, a series of activities had been identified to ensure the sustainability of the reforms achieved and to build upon them. Subcomponent 1.1: Support on the development of a reform agenda for SOEs 32. The objective under this component of defining a clear agenda of reforms in the SOE sector to function as future guidelines for the Government was achieved. As mentioned earlier, in September 2013 a law was passed institutionalizing the National SOE Council (Consejo Nacional de Empresas Públicas - CNEP) as a ministerial-level oversight body of SOEs and the General Directorate for SOEs (Dirección General de Empresas Públicas - DGEP) as its technical body. Hence, the focus of Bank support was placed on the preparation of a Strategic Plan for CNEP which defines the CNEP’s policy priorities and associated steps to be taken to comply with its legal mandate. The activities included a series of assessments and case studies and the sharing of international experiences to feed into the preparation of the CNEP Strategic Plan and a roadmap with concrete activities. 33. Activities focused on supporting the DGEP in the preparation of the Strategic Plan 2014-2018. In order to achieve the objectives the program focused on providing technical assistance and capacity building to support the DGEP on the development of a Strategic Plan for 2014-2018 for CNEP (see Annex 5). This plan is complemented by an Action Plan which proposes specific activities for 2014-2015 (Annex 6). The development of said documents was prepared in close coordination with the stakeholders through workshops and consultation events. The specific activities undertaken in the preparation process of the Strategic Plan are described as follows. 34. Workshop with SOE managers. In March 2014, a workshop was carried out with 30 representatives of nine different state-owned enterprises. The main goal of the event was to build capacity and inform the managers about the conceptual framework and practical application of SOE corporate governance. The workshop was held in three parts: first a presentation of the conceptual framework of corporate governance for SOEs; second, case studies on corporate governance models for SOEs from other countries in the region; and third, the example of corporate governance in Empresas Públicas de Medellín (EPM), Colombia (see Annex 7 for the presentations). The workshop included discussions on how corporate governance could help SOEs reach their strategic goals and collected suggestions for the preparation and implementation of the CNEP strategic plan. 9|Page Picture 1: SOE managers at Corporate Governance Workshop 35. Presentation/Discussion of the outline strategy with CNEP. A workshop with high-level government officials was held for the presentation of the suggested outline of the CNEP Strategic Plan. In coordination with the technical counterpart, DGEP, the Bank’s team prepared an outline with policy options for the Strategic Plan and presented these to the members of the CNEP (Minister of Finance, Minister of Public Works and Communication, Minister of Industries and Trade, and Attorney General). The Vice-minister for Economy and the technical team of DGEP were also present. Along with the presentation of the proposed policy outlines, the Ministers engaged in discussion and agreed on the proposed policies presented by the Bank team. Picture 2: Members of the CNEP discussing the draft outline of the Strategy 36. Consultation with SOE managers. Following up on the two initial workshops a second meeting with SOE managers was held. The objective of the workshop was to consult with SOEs 10 | P a g e on proposed reform processes to be included in the Strategic Plan and to receive feedback and inputs to support DGEP on its preparation. Finally, the draft Strategic Plan along with the Action Plan prepared for the year of 2014/15 was finalized in June 2014 and presented to the CNEP in July 2014. Consequently, the CNEP approved the Plan and instructed the DGEP to initiate its implementation. A summary of the policies approved in the Strategic Plan can be found in Annex 8, attached at the end of this document. 37. The involvement of the DGEP/CNEP and other stakeholders was given high importance in the preparation process. All activities leading to the draft versions of the strategic documents sought to include the DGEP/CNEP and other stakeholders, such as SOE Managers, throughout the preparation process. Even though more time intense, this approach resulted in several inter-related benefits, which are likely to facilitate the next steps and implementation:  First, it built strong ownership and buy-in on the Strategy, both on the political decision-making side through the close collaboration with CNEP, and with the technical department DGEP, that will be in charge of the implementation and oversight of the activities. Furthermore, through engagement with the SOE managers in the preparation process, the operational aspects and the implementation of the strategy with and within the companies is likely to be facilitated.  Second, extensive working sessions served as capacity building exercise. The several workshops and working sessions with the DGEP and SOE managers and technical staff enhanced their knowledge and understanding in the areas of corporate governance and planning.  Finally, the engagement process proved to be a valuable feedback mechanism. As the development of the suggested policies and activities were shared and discussed with the different stakeholders throughout the preparation process, the DGEP and Bank team received valuable feedback on the feasibility of the proposed actions, which then were taken into account in the preparation of the Strategy. This included political, technical and operational aspects of the Strategy and Action Plan. Subcomponent 1.2: Technical support on strengthening SOEs corporate governance 38. Subcomponent 1.2 attained the objective of providing technical support to further strengthen the corporate governance and oversight of Paraguayan SOEs. The expected activities included sharing of international experience and recommendation for the country context to support the government for the enhancement of their corporate governance. 11 | P a g e 39. Activities undertaken during the year focused on capacity building and knowledge exchange. This included the presentation of the case of Empresas Públicas de Medellín (EPM) (see Annex 9), an SOE whose corporate governance framework is seen as regional and international good best practice. 40. Additionally, the DGEP team participated in the Annual Meeting of the Latin American Network on Corporate Governance of State-owned Enterprises organized by the OECD, CAF and the World Bank, which took place in March 2014 in Buenos Aires, Argentina. This event was attended by about 200 participants, including representatives from other LAC countries (Brazil, Colombia, Paraguay, Peru, Chile, Uruguay, Ecuador, Mexico and Suriname), and other regions (Turkey, Hungary and Korea, Cape Verde and Mauritania). The Paraguayan delegation also presented the recent Paraguayan experience in SOE reforms at the conference, which was outlined as a good practice example. (See Agenda of the Conference in Annex 10) Results and Outputs of FY14 41. The NLTA largely achieved its expected intermediate outcomes. The intermediate outcomes as outlined in the original Concept Note and the status of the outputs and results are summarized in the table below. Expected intermediate Results Output outcomes  An upgraded tax Achieved. The business design of the Functional administration IT system VAT control module for the Marangatú requirements for the S Tax Refund Management and Strategic Management with a risk-based system contributed to upgrading the VAT refund request approach that minimizes tax administration´s IT system with a system (Annex 2) risks of fraudulent tax risk-based approach that minimizes refund claims. risks of fraudulent tax refund claims.  Increased tax Partially achieved. SET has already Diagnostic of the administration capacity, started conducting mass audits in June current VAT refund particularly for the main 2014, the Bank team is monitoring system (Annex 1) and source of tax revenue progress made under this activity. functional (VAT). requirements for managing VAT refunds (Annex 2)  Adoption of a holistic Achieved. The SET is combining Technical Assistance approach to the control intensive audits with mass audits in for the SET: Mass of tax obligations by order to broaden audit coverage. This Audits (Annex 3) covering the entire cycle holistic approach entails a more IAMTAX Assessment of tax administration efficient allocation of resources by (Annex 4) processes. directing tax audit function to the areas that pose a higher risk to revenue.  Medium and long-term O O G Achieved. A Strategic Plan for 2014 – Strategic Plan (Annex o o o p n n n d h C e e e e a a a E g v v c s r r r r t t i 12 | P a g e agenda/roadmap for 2018 and Action Plan describing the 5) continuous SOEs reform activities for 2014-2016 have been Action Plan 2014/15 prepared. The implementation is (Annex 6) planned for FY15 (with Bank support) Presentation of workshops (Annex 7)  Identification of best Partially Achieved. While not focused Presentation of the practices and on the legal framework, general good good practice example international practices of SOE corporate governance EPM (Empresas experiences in the (which includes the legal framework) Públicas de Medellín) development of an SOE was shared with the client. (Annex 8) legal framework to give technical support for a proposed future implementation of such law in Paraguay III. LESSONS LEARNED 42. Useful lessons can be drawn from the engagement with the Government of Paraguay over the past and previous years, as for example:  Focus on a limited number prioritized areas. The support in two very specific areas as a response to government priorities has allowed focusing resources and attention, avoiding a thinning of Bank support across several areas. This also deepened the relationship between the Bank team and the Government, as well as with the technical teams.  Need to conduct comprehensive diagnostic. An accurate diagnostic allows for a clear sense of what are the performance gaps, challenges and opportunities. In addition, having this baseline allowed the team to better prioritize the support needed and to address the identified needs through technical assistance.  ICT investment as a cross-enabler. ICT investment needs to be embedded in the broader context of reform efforts to efficiently act as a cross-enabler to improve core function and operational processes of public sector institutions. This lesson has been proven true in Subcomponent 1.1. where the technical specifications for the VAT refund module were developed under a broader movement towards better control of VAT collection.  Reforms take time. Especially in low capacity environment it takes time to see results. Significant time and resources, continuous dialogue as well as regular presence in the country are needed to accompany each step of improvement processes. In the area of 13 | P a g e taxation, while there are short gains resulting from tax policy reforms, it takes time for tax administration reforms to bear fruit. The same is true for the SOE sector.  Involvement of the counterparts and other stakeholders is important. Involvement builds ownership and is likely to facilitate next steps and implementation.  The NLTA's implementation concurs with the lessons learned proposed in the forthcoming Country Partnership Strategy Completion Report. Particularly, the NLTA benefited from a simple design with few executors and single agencies, while the synergy achieved with other Bank operations (mainly PSDPL and the preparation of the new DPL) improved delivery. In this sense the following proposed CPSCR's lessons learned are particularly relevant: (i) To promote the use of simple designs, avoiding schemes with several executors and unnecessary project complexities, which will help to reduce coordination demands; and (ii) to explore the use of different WBG instruments and services and their complementarity (DPLs, IPFs, TFs, RAS, TAs, ESWs) in key areas where the Bank and the Government would agree on. Next Steps going forward 43. The Governance Global Practice team working on Paraguay will align its efforts to assure a comprehensive approach. The GGODR Paraguay team (former Public Sector, Procurement and Financial Management Units) is currently preparing a joint umbrella proposal for a Programmatic Approach on technical assistance for the next two years. This proposal intends to align the activities within the Governance Global Practice members, and to identify and take advantage of synergies between the GGODR departments. 44. A continuation of support in the areas of tax administration and SOE corporate governance would be part of the upcoming Programmatic Approach. The work program would build on the current engagement, and continue and consolidate progress made under the FY14 NLTA. As during the previous year, much emphasis was given to assessments and diagnostic work, the next steps would focus on implementation in the following:  In the area of tax administration, this would include, inter alia, (i) continue to support the strengthening of the tax audit function by expanding the use of massive tax audits (ii) provide IT solutions aimed at improving the control of tax refunds (iii) developing an e-invoice model to support tax intelligence development and a better control of compliance thereby reducing tax evasion and encouraging business formalization (iv) supporting tax administration performance assessment, as well as (v) strengthening the legal function together with an statistical analysis of tax 14 | P a g e appeals and (vi) supporting of a comparative analysis of VAT exemptions of non-profit organizations..  In the area of SOE Corporate Governance, following the approval of the Strategic Plan through the CNEP, support would be given to the DGEP in the implementation through, inter alia, (i) review of SOE arrears and debt consolidation options, (ii) proposal for a new transfer and subsidy scheme, (iv) preparation of corporate governance guidelines, and (v) capacity building for the DGEP. 45. Preparation of a proposal for a South- South Knowledge Exchange (SSKE). As part of the capacity building activities for the DGEP, the Government has indicated its interest in a SSKE to learn from the experiences of Chile and Peru. Specific areas of the knowledge exchange would include learning about the experiences in the following areas: (i) Corporate governance frameworks, (ii) procurement policies for SOEs, (iii) SOE HR management policies, (iv) legal framework and mechanisms for regulatory bodies, and (v) cost and pricing systems for goods and services provided by SOEs. 46. The proposed work program would also be linked to a proposed lending operation. The proposed Enhancing Sustainability, Equity and Transparency in Fiscal Management and Promoting Financial Inclusion DPL (P151007), is likely to include Prior Actions for the Tax Administration and SOE sector. The suggested related Prior Actions are: (a) the Government has increased the tax revenues by: (i) increasing the VAT for the financial sector from 5 percent to 10 percent; and (ii) expanded the tax base by establishing a VAT tax for the agriculture sector of 5 %.; (b) the Government has prepared a Strategic Plan for the CNEP. The activities under the proposed programmatic approach are intended to be aligned with the DPL to provide continuous technical support during implementation. 15 | P a g e Annexes Annex 1: VAT Control: The Experience of VAT credit refunds in Paraguay (Spanish) Annex 2: Functional Requirements for the VAT refund request system Annex 3: Technical Assistance for the SET: Mass Audits Annex 4: IAMTAX Assessment Documents Compilation. Annex 5: Strategic Plan for CNEP Annex 6: Action Plan 2014/15 Annex 7: Presentation workshops Annex 8: Summary of Policies approved under the Strategic Plan (attached to document) Annex 9: Presentation EPM Annex 10: Agenda of Buenos Aires Conference Document of the World Bank Annex 9: Summary of Policies approved under the Strategic Plan Adoption of a prices and fees policy. Currently, only the water and the telecommunication sectors have a regulatory body, however, they are not exercising their role. This results in the companies and/or the government taking on the regulatory role. Consequently, the first activity proposed is an assessment of the technical capacity of the existing regulatory bodies to identify the gaps hindering them to exercise their mandate. Furthermore, the costs structure and current prices for the currently regulated sectors, as well as the energy sector (currently unregulated) and two other non-regulated sectors would be analyzed. Based on the findings, a policy on prices and fees and a reform of the regulatory bodies would be developed. Adoption of a subsidy policy for end users. Currently, subsidies are established through a progressive price structure (tarifa social) based on the household consumption level (i.e. up to a certain consumption threshold, households only pay a very low or no amount for those basic services). As a result, the subsidy does not necessarily target the desired beneficiaries (i.e. households under a certain income level), but is applied automatically also to single-person households, vacation homes, etc. To tackle this situation, a review of the existing subsidy structure, including criteria, beneficiary profiles etc., would be carried out. Based on the findings, recommendations for adjustments of the subsidy structure would be prepared with the aim to adopt a new policy that subsidizes the provision of basic public services to those beneficiaries identified as priority subsidy receivers (i.e. based on income). Elimination of the consolidated arrears between SOEs and between Government and SOEs. Government institutions have significant outstanding debt for non-payment of utility bills (i.e., water, electricity and phone services) with SOEs, which between 2009 and 2012 only decreased by 5.5 percent to from US$98 million to US$92 million. Proposed activities to tackle this issue are (i) an update of the inventory of outstanding arrears; suggestion of options for the debt consolidation; and review of the compliance with the budget law on payments of utility bills. This would also include the review and consolidation of inter-SOE debt. Establishment of a rule-based transfer mechanism. Paraguay’s SOEs contribute more than US$130 million to the budget via transfers, dividends and taxes. Direct transfers (more than US$43 million in 2012) are determined by the National Government’s budgetary needs and do not take into consideration the companies’ financial or investment needs. There are also quasi fiscal activities (implicit contributions) through lower tariffs such as the tarifa social mentioned above. The proposed activity would involve doing an assessment of the current status of the transfer mechanisms and proposing a new transfer scheme with a set of rules establishing quantity/percentage and timing of transfers and subsidies between SOEs and the government with the aim to enhance budget and investment planning. Adoption of a uniform model of principles of corporate governance for SOEs. To improve the corporate governance framework in Paraguay, the proposed activities include: (i) a review of the statues and/or legal framework of each SOE; (ii) development of a framework to establish boards of directors as well as to define the selection procedures for SOE managers; (iii) development of a corporate governance code or guidelines for SOEs; (iv) design of an efficient and transparent control environment; and (v) establishment of a policy or mechanism to guide the relationship between SOEs and stakeholders. 17 | P a g e Strengthening the oversight capacity of DGEP. With the goal to provide capacity building to DGEP in order to more efficiently exercise its role as technical body of the CNEP and as entity to oversee the implementation of the Strategy, activities would include: (i) assessment and gap analysis of DGEP’s current structure and capacity; (ii) based on the capacity needs, a preparation of a capacity building plan; (iii) development of plans for coordination and communication with its stakeholders; and design and implementation of a mechanism to monitor the implementation of the Strategic Plan. 18 | P a g e