IMF Flags 2026 Shift: Fewer Tax Breaks, Smarter Spending in Portugal

The International Monetary Fund has dropped an early warning that will resonate in Lisbon kitchens as much as in the corridors of São Bento: Portugal’s economic upswing of recent years can only be sustained if the state stops giving away tax privileges and learns to make every euro of public spending work harder.

Pressure builds as growth cools

The Fund’s annual health-check, delivered this week in Washington and relayed to the Portuguese authorities, paints a picture that is neither catastrophic nor comfortable. Inspectors acknowledge the robust job creation, the record-breaking tourism revenues and the country’s new-found image as a magnet for multinational investment. Yet they also detect a slowdown in the pipeline—partly because European demand is sputtering, partly because higher interest rates are starting to weigh on businesses. That mix, the IMF argues, leaves Lisbon with little fiscal room to indulge in policies that drain the treasury without demonstrable social or economic return.

No more free rides on the tax code

At the heart of the report lies a hard message: Portugal must phase out what the Fund calls “inefficient tax expenditures”—from narrow VAT exemptions to sector-specific corporate rebates. Every year the state forgoes around €15 B, close to 6 % of GDP, in such incentives. According to the IMF’s modelling, trimming even one fifth of those benefits could generate enough revenue to double public investment in rail modernisation, or to slash the headline deficit well below 1 % in 2026. The Fund is particularly sceptical of temporary VAT discounts on electricity and certain processed foods, warning that these measures rarely reach the poorest households and often linger long after the original crisis has passed.

Spend smarter, not necessarily less

While the headline demand is to raise revenue, Fund officials stress an equally important second pillar: expenditure quality. Portugal’s public outlays already consume roughly 46 % of GDP, a ratio higher than Spain’s but lower than France’s. Simply squeezing ministries, they argue, would be unwise in a country where aging infrastructure and demographic pressures still require sizable public investment. Instead, they urge deeper digitalisation of tax and customs services, outcome-based budgeting in health care, and swift completion of the delayed school modernisation plan financed by EU recovery funds. IMF staff cite Estonia as a template for low-cost administrative reform that unlocks efficiencies without broad-brush austerity.

Government walks a tightrope

Finance Minister Joaquim Miranda Sarmento, briefed on the findings ahead of their publication, welcomed what he called the Fund’s “constructive challenge” but insisted that any withdrawal of incentives would be gradual. The cabinet’s working hypothesis for the 2026 budget includes a modest consolidation of 0.3 % of GDP, achieved mostly by capping new spending commitments and freezing certain vacancy replacements in the civil service. He also hinted at a review of the popular non-habitual resident tax regime, a flagship policy that lured thousands of foreign professionals to Lisbon and Porto but has drawn criticism for inflating housing costs.

What it means for households and firms

For ordinary taxpayers the IMF plan could translate into fewer special discounts at the checkout, but also into a slimmer deficit that helps keep debt-service costs contained. Portugal still carries public debt close to 100 % of GDP; lower interest bills free up room for targeted child-care subsidies and regional rail passes, both mentioned as priority areas in the Fund’s annex. Businesses, meanwhile, may lose some sector-specific deductions but would benefit if the corporate rate—currently 21 %—can be nudged down once the broader base stabilises revenues. The message from Washington is clear: broad, low rates beat narrow, high ones.

Europe’s changing rulebook looms

The timing is awkward. By 2026 new EU fiscal governance rules are expected to be in full swing, replacing the pandemic hiatus. Those rules give capitals more flexibility on investment but require credible debt-reduction paths. Portugal’s ability to show the European Commission that it has tackled tax carve-outs could secure extra breathing space for green and digital projects co-financed by Brussels. Failure to do so might invite stricter surveillance from the Commission’s revamped watchdog, raising borrowing costs just as global yields remain elevated.

Road ahead

Lisbon now has roughly eight months to translate the IMF’s recommendations into a medium-term fiscal framework. Draft guidelines circulate in December, the first revenue bills arrive in parliament by April, and the 2026 budget must clear final votes before next summer’s recess. The political calendar is unforgiving; local elections are scheduled for autumn 2026, and public appetite for another round of austerity is negligible. Yet the Fund leaves little doubt: without pruning inefficient tax breaks and sharpening the focus of public expenditure, Portugal risks slipping back into the low-growth, high-debt pattern it worked so hard to escape in the last decade.

For now, the ball is in Lisbon’s court—and every taxpayer will feel the bounce.