Zimpapers Logo

Dr Gift Mugano

The Ministry of Small and Medium Enterprises and Cooperative Development is finalising Micro Small and Medium Enterprises (MSMEs) formalisation strategy. As we rally in supporting this important thrust, I found it necessary to look at the experience of Costa Rica. By and large, the economic structure and geographical factors of Costa Rica are different from Zimbabwe. However, the circumstances of the MSMEs in Costa Rica appeals to Zimbabwe situation. It is therefore necessary to compare lessons.According to data from the Ministry of Economy, Industry and Trade in the year 2012, micro, small and medium-sized enterprises (MSMEs) accounted for 95 percent of businesses in Costa Rica, 46 percent of total employment, and 30 percent of Gross Domestic Product. That same year, 70 percent of Costa Rican firms were classified as micro-enterprises.

Before formalisation, the International Labour Organisation (ILO) in 2000 show that 45,6 percent of micro and small enterprises failed on one or more of their obligations in order to be considered formal enterprises.

Amongst these informal or semi-formal enterprises 7,3 percent did not meet initial registration requirements, 18 percent did not pay income tax, 76,6 percent did not pay occupational safety and health insurance and 76,3 percent did not contribute to social security.

Policies to formalise small and micro-enterprises

The next section presents the main policy initiatives in Costa Rica that supported the transition of micro and small enterprises to formality. Although none of these policies were specifically designed to formalise small and micro-enterprises, they included mechanisms and incentives favouring formalisation.

This set of policies helped the country to advance towards a situation in which small and micro-enterprises are informed, encouraged and capable to comply with administrative, labour and tax obligations.

Law 8,262 On small and medium enterprise promotion

In 2002, Costa Rica promulgated Law 8,262 on Small and Medium Enterprise Promotion. The main objective of this law was to develop the small and medium enterprise sector as a means to support economic development and job creation.

This law saw the creation of an MSME Registry in the Ministry of Economy, Industry and Trade, the creation of credit and guarantees schemes, technical assistance and business support programmes as well as mechanisms to improve the participation of small and micro-enterprises in public procurement.

Part of the institutional framework of the law was the need for established universities, technical and technological institutions to develop educational and technical assistance programmes to improve the productivity and competitiveness of micro, small and medium enterprises. The law also created a small and medium enterprise (SME) advisory council.

One of the most innovative strategies included in Law 8,262 was the creation of the SME Support Programme that co-finances SME’s projects in the area of technology development and innovation. Its purpose is to finance projects that aim to improve SME’s management capacities and competitiveness through technological development. Funding comes from the national budget and the Ministry of Finance. The programme provides grants that cover up to 80 percent of total project costs.

Law 8,262 also created mechanisms to increase MSME participation in public procurement, internal trade promotion programmes, sectoral training and technical assistance programmes, as well as a business portal for SMEs, created within the framework of the Costa Rican Business Information System.

Law 8,262 clearly defines the criteria to be met by MSMEs in order to benefit from the different services created: compliance with social security contributions, tax regulations and labour standards. In this sense, the Law does not only support business development but also business formalisation.

The Costa Rica development banking system

One of the key policies that has helped small enterprises to start and improve their businesses is Costa Rica’s Development Banking System, created under Law 8,634. Operational since 2008, the purpose of this scheme is to finance technically and financially viable productive activities in accordance with the country’s development model.

The Law establishes certain priorities, among them, women, ethnic minorities, the disabled, young entrepreneurs, development associations, cooperatives, and enterprises located in underdeveloped regions, along with projects that promote clean production.

In 2008 three sources of funding were created, namely: i) the National Trust Fund for Development, whose funds come from the public budget and other trust funds; ii) the Credit Fund for Development, financed through 17 percent of private bank deposits; and iii) the Development Finance Fund, financed through 5 percent of net annual profits generated by state banks, which are administrated by each bank. This way, the Development Banking System manages its own equity.

The Development Banking System offers services to micro, small and medium enterprises that range from loans to implement certain projects, guarantees and collaterals as well as technical assistance in the elaboration of business plans and investment projects. The ceiling for any of its products is CRC 65 million per client.

The beneficiaries of the Development Banking System do not necessarily have to have legal personality as they may also be sole proprietorships operating under the name of their owners.

Business entities that are not formally registered can still become clients. From the moment they enter the system, however, they are given a deadline by which they have to comply with business regulations. This way the system incentivises gradual formalisation.

According to Costa Rica’s Central Bank, the Development Banking System has improved small enterprises’ access to finance. Between 2008 and 2011, the number of new clients increased by 27 percent, while the number of operations augmented by 50 percent. Costa Rica’s state banks contributed most to this expansion as they were responsible for 93 percent of the total number of new clients served by the system.

National Policy For SME Development and Entrepreneurship

Costa Rica’s 2010-2014 National Development Plan recognised the crucial role of micro, small and medium enterprises in regional and national development. Given the sector’s economic importance, the Government in 2010 launched its National Policy for SME Development and Entrepreneurship.

The main purpose of this policy is to enhance the competitiveness of micro, small and medium enterprises through regional strategies that improve their productivity and support these entities in taking advantage of business opportunities both in local, national and international markets.

In 2010 the Government assigned the task of promoting SMEs and entrepreneurship to the Ministry of Economy, Industry and Trade, defining eight strategic areas (encouraging legal compliance, entrepreneurship, association building, market access, access to finance, business development services, regionalisation, technological development and innovation).

The National Policy for SME Development and Entrepreneurship envisages the registration of micro, small and medium enterprises in the Costa Rican Business Information System, administered by the Ministry of Economy, Industry and Trade.

It also provides for certain tax incentives. By 2012, over 10,000 micro, small and medium-sized enterprises had registered with SIEC in order to be eligible for fiscal and other benefits.

Within the framework of the National Policy for SME Development and Entrepreneurship, the Government of Costa Rica promotes the development of new financial products tailored to SME needs.

Commercial banks are incentivised to expand SME finance, either through existing financial instruments or by designing new instruments, such as seed capital, venture capital and factoring.

Complementary to these initiatives, the National Technical Assistance Programme provides personalised assistance to SMEs in different areas, and offers information about the different kind of training opportunities that exist in the country.

Costa Rica also promotes a better integration of SMEs in the different value chains, through its National Association Building Programme. This programme seeks to strengthen SME’s ability to work together and to become reliable suppliers to bigger companies. At the same time a strategy on regionalisation has implied the subdivision of the country into smaller areas with common characteristics for the purpose of enterprise development policy implementation, which enables better planning and evaluation on the basis of specific indicators.

Protecting Citizens from Excessive Red Tape

Law 8,220 on protecting citizens from excessive red tape,its amendments (2011) and operational regulations (2012) establish the obligation of public entities to provide citizens with the relevant information on their procedures, requirements and processes, in order to facilitate compliance.

The goal of this Law is to protect citizens from administrative inefficiency and corruption, encourage coordination among public entities, foster the efficient use of state resources and, in general, provide citizens with legal certainty.

The Law protects citizens from excessive bureaucracy and red tape, recognising the right of the administered party to information and fair treatment.

Under the law, public agencies cannot require applicants to resubmit information already provided, whether for the same or additional procedures. Moreover, regardless of its normative origin, any legal procedure or obligation required of a business owner must be based on either on law, executive decree or regulation, and be published in the Official Gazette, along with the procedure to be followed.

The law also promotes inter-agency coordination, establishing that any public agency requiring information issued or held by another public agency cannot request it from the person, but rather must coordinate with the other public agency.

National Network of Business Incubators and Accelerators

The National Network of Business Incubators and Accelerators was conceived as a platform to support entrepreneurs in strengthening their businesses, along with creating and encouraging opportunities for new business creation.

The network provides advice, support and tools to business owners seeking to create the necessary conditions to start, develop and consolidate their business activities. To join the network, companies must be registered with the Business Information System.

The mandate of the incubators is to create new companies by providing the necessary support during their early stages and ensuring they have the necessary infrastructure and legal documents to carry out their productive and commercial activities. Accelerators, on their turn, support existing companies with potential to innovate, so they can access international markets or expand into a larger share of the domestic market.

Tax Exemptions for Registered Small and Micro-enterprises

Law 9,024 (2012) establishes an annual tax equivalent to 50 percent of a monthly minimum wage to be paid by all corporations and limited liability companies.

The same Law exempts small and micro-enterprises from paying this tax, provided they are registered with the Ministry of Economy, Industry and Trade and with the internal revenue service.

Law 9,024 reinforces formalisation, since the Business Information System of the Ministry of Economy, Industry and Trade does not issue MSE certificates to companies that are behind on their tax or social security payments. Non-payment of this tax for three consecutive periods is grounds for dissolving the firm.

The Business Information System maintains a publicly available, electronic data base which allows the public to see whether taxpayers are up to date with their obligations.

Preferential Income Tax Rates

Law 7,092 (1988) establishes preferential profit tax rates, of either 10percent or 20percent of gross revenue, for small companies that register revenues up to certain ceilings that vary from year to year, compared to 30percent for larger firms.

The same Law also establishes suitable mechanisms for small and micro-enterprises experiencing losses. Companies that register losses during a certain fiscal period, can deduct these amounts from taxable income over the three following periods (five in the case of agricultural firms).

Cooperatives that have been legally constituted in accordance with Law 6,756, and business organisations that bring together small and medium producers of agricultural goods and services are exempt from this tax.

Along with the Law on Corporations, Law 9,024 and Law 7,092 have consolidated a regulatory environment that assuages business owners’ fears that the formalisation of their business may lead to a heavy tax burden.

At the same time, the regulatory framework encourages formalisation, as business registration is necessary in order to be eligible for the exemptions provided for in Law 9,024.

 

Dr Mugano is an Economic Advisor, Author and Expert in Trade and Competitiveness. He is a Research Associate of Nelson Mandela Metropolitan University. Feedback: +263 772 541 209 or [email protected]