Bulgaria’s Towns Struggle Under Outdated Taxes as World Bank Urges Sweeping Reform

The World Bank’s Bulgaria Subnational Public Finance Review, prepared in partnership with the Institute for Market Economics (IME) and other research organizations, offers a revealing portrait of a country whose municipalities carry substantial service delivery responsibilities but operate under severe fiscal limitations. Bulgaria’s 265 municipalities manage education, healthcare, social welfare, waste services, and local infrastructure, yet in 2023, their combined revenues, including grants and EU funds, amounted to only 7.7 percent of GDP, far below the EU-27 average of 10.8 percent. Local tax revenues represented less than 1 percent of GDP, compared to nearly 4 percent in the EU. A narrow tax base, dominated by the recurrent real estate tax, the vehicle tax, and the property acquisition tax, which together account for about 95 percent of local tax income, has left municipalities deeply dependent on central government transfers, which supply nearly 69 percent of their total funding. More than half of this comes in the form of earmarked resources for “delegated activities,” leaving limited room for local discretion.

Property Tax Stuck in the Past

A central weakness in the municipal revenue system is the outdated property tax base. Valuations have not been updated since 2009, creating a yawning gap between assessed and actual market values, on average 2.5 to 3 times nationally, and as much as 5 to 6 times in some Sofia neighborhoods. This gap has eroded the recurrent real estate tax’s role, pushing municipalities to rely more heavily on property transaction taxes. Despite the fact that property prices have more than doubled in many areas since 2015, the recurrent tax has been losing importance relative to GDP. The review outlines two main reform scenarios: first, conducting a one-off update of base values and zoning maps, followed by regular adjustments, possibly through automatic indexation to a real estate price index; and second, adopting a mass valuation approach, supported by automated valuation models, geographic information systems, and rigorous data quality controls, to keep assessments closely aligned with market realities.

Greening Vehicle Taxation

Vehicle taxes represent another underutilized source of municipal revenue. Bulgaria has the EU’s oldest passenger car fleet, averaging 20 years, with correspondingly high CO₂ emissions. The current tax design perversely favors older, higher-emission vehicles by applying an age coefficient that reduces their taxable value. The World Bank proposes replacing this with a CO₂-based structure, in line with practices in 17 other EU states. Using the Future Technology Transformations (FTT) model, the review simulates two possible schemes: PVTS1, which imposes a fixed acquisition tax plus a CO₂-linked charge, alongside an annual ownership tax tied to emissions; and PVTS2, a more ambitious version with rates set 50 percent higher. Both would nearly double municipal vehicle tax receipts in the first year, sustain higher revenues through 2050, and encourage the gradual replacement of the dirtiest vehicles. The reform would also advance Bulgaria’s commitments under EU climate frameworks by embedding the polluter-pays principle more firmly into local taxation.

Rethinking Transfers from the State

Intergovernmental transfers remain the backbone of municipal finance, but their current design offers little incentive for efficiency or revenue effort. The equalization grant pool, at just 5 to 6 percent of all transfers, is too small to correct disparities in fiscal capacity and is distributed according to a formula whose overlapping components sometimes reward low revenue performance. Capital transfers are limited in scale and often channeled in ways that reinforce historical inequalities in infrastructure quality. The review recommends merging existing transfers into a single unconditional equalization grant calculated using a “fiscal gap” method that balances expenditure needs against local revenue capacity. Capital transfers should be retained but allocated through a transparent, competitive process with rigorous project appraisal, independent monitoring, and strong safeguards to ensure fairness.

Spending Efficiency Under the Microscope

The efficiency of municipal spending varies widely, and in some sectors, the picture is troubling. Over half of municipal roads are in poor condition, and in 2023, one-third of municipalities recorded below-passing results in national Bulgarian language exams for seventh graders. Data Envelopment Analysis shows average efficiency of 56 percent for kindergarten spending but only 27 percent for road spending, with significant variation across municipalities. While larger cities often benefit from economies of scale in waste management and early childhood education, road spending efficiency does not follow the same pattern, suggesting that factors such as planning capacity, governance quality, and technical expertise are equally important. The review calls for performance-based transfers, shared service arrangements between municipalities, and expanded use of data analytics to improve budget targeting and service delivery.

Building a Stronger, Greener, Fairer Municipal Finance System

The World Bank and IME conclude that revitalizing Bulgaria’s municipal finances will require a three-pronged approach. First, municipalities must expand and modernize their own-source revenues, particularly through property taxes aligned with market values and vehicle taxes tied to emissions. Second, the transfer system must be redesigned to improve predictability, equity, and efficiency, using fiscal gap equalization and reformed capital grants. Third, efficiency gains must be pursued through performance incentives, robust accountability mechanisms, and intermunicipal cooperation to capture economies of scale. The report stresses that decentralization can and should go further, but only if accompanied by stronger oversight, transparent reporting, and mechanisms that promote both horizontal and vertical accountability. Together, these reforms could provide Bulgaria’s municipalities with the fiscal space and institutional capacity to deliver better services, reduce inequalities, and address the dual challenge of local development and environmental sustainability.