As the poorest country in the Southeast Asia region, Lao PDR currently suffers from an unstable macroeconomic environment and has been unable to sustain the economic growth of the past two decades (with an average rate of 7% between 2000 and 2020). Indeed, this landlocked country has recently experienced several consecutive years of public deficit (5.8% of GDP), inflation (over 20%), and currency depreciation (a 50% drop), resulting in public debt, mainly held by foreign investors, reaching 112% of GDP in 2023, doubling compared to the pre-Covid-19 pandemic period. Consequently, the State lacks budgetary leeway to invest in social sectors – public spending on education has decreased from 3.2% of GDP to 1.4% in ten years. This disengagement risks undoing some of the progress made in poverty alleviation efforts and forces the Lao State to set off in a race for concession agreements on a large scale, setting aside environmental concerns to attract foreign direct investment (FDI), particularly in hydroelectric projects, as Lao PDR aims to become the "battery" of the sub-region due to its strategic location in the Mekong River basin.

Over the past two decades, economic growth has been driven primarily by highly capital-intensive sectors, and few formal jobs have been created. The Lao government failed to take advantage of this favorable period to invest in a robust, sound, and fair tax system. Domestic revenue mobilization (DRM) has thus experienced a mismatch with economic activity, as tax revenues have not increased in line with GDP. Indeed, the most dynamic sectors, such as construction and natural resource exploitation, were exempt from taxes as Lao PDR prioritized tax incentives to become attractive internationally. Consequently, the tax-to-GDP ratio remains the lowest in the Asia-Pacific region (9.7% of GDP compared to 20% on average in the region). The low tax pressure, partly caused by an overly generous exemption system, a lack of tax compliance, and a ubiquitous informal sector, thus does not allow the tax system to effectively struggle against inequalities through redistribution mechanisms – Lao PDR remains the only country in the region to have experienced an increase in inequalities.

Based on this, the proposed Technical Assistance Project (TA) will be articulated around a general strategic objective aimed at improving the framework for mobilizing tax revenues from concession agreements in Lao PDR (within the mining, the hydroelectricity and transport infrastructure sectors).

One of the strategic components of the TA is focused on rationalizing tax incentives granted for these concession agreements.

Tax incentives, while often designed to attract investment, can inadvertently create opportunities for Base Erosion and Profit Shifting (BEPS). According to the OECD’s BEPS project launched in 2013, BEPS refers to tax avoidance strategies that exploit gaps and mismatches in tax rules to artificially shift profits to jurisdictions with low or no taxation. The provision of tax incentives as exceptions to the general tax regime can heighten the exposure of government revenues to these practices, undermining the integrity of the tax system.

In an increasingly globalized economy, the principle that profits should be taxed where economic activities occur and value is created underscores the importance of international cooperation. States must work collectively to curb harmful tax practices, ensuring a stable and transparent international tax environment that mitigates tax avoidance risks while fostering investment.

In the context of Lao PDR, tax incentives offered under the investment promotion framework, particularly within concession agreements, necessitate close monitoring to ensure alignment with the OECD BEPS Actions, notably Actions 4, 5, and 6. The existing framework for tax exemptions and incentives reveals a combination of structured regulations and discretionary practices, resulting in a system that is both complex and, at times, opaque. These concessions are primarily governed by the PPP Decree (2020), the Investment Promotion Law (2016), and sector-specific legislation such as the Electricity Law (2017) and the Minerals Law (2017). Over the years, these legal tools have been instrumental in attracting foreign direct investment (FDI) in strategic sectors such as hydropower, mining, and infrastructure. However, ensuring that these incentives do not facilitate BEPS practices is critical to safeguarding the country’s fiscal stability and fostering sustainable economic growth.

This project has been launched in September 2024. The estimated duration of the project is 18 months.