Sokolovskyi and Partners Digest: Tax Trends of 2021

Sokolovskyi and Partners Digest: Tax Trends of 2021

Tax Trends of 2021 Digest

Prepared by Sokolovskyi and Partners experts team for the Ukrainian Network of Integrity and Compliance (UNIC)

English PDF version

 

Deoffshorization, fiscalization and transparency have already taken root in the Ukrainian tax reality

Fiscal trends cannot be separated from the global processes that keep taking us at a breakneck speed through the epoch of COVID-19 and lockdowns. No doubt, coronavirus has acted as a catalyst for many tax trends of the recent years. The end of the offshore era as well as the increase in control over transfer pricing are just a part of the global changes aiming to fight the tax ‘shadow’. Introduction of the interstate financial information exchange will prevent everyone from finding a quiet safe haven hidden from the tax collector’s eyes. In the Ukrainian reality these international process are intensified through the increase in the budget deficit. The state will keep tightening fiscal screws, often making two rotational movements in clockwise order, and then one – counterclockwise.

BEPS

BEPS (Base Erosion and Profit Shifting – BEPS). Global trends in fighting BEPS can also be traced in Ukraine. In September 2013 the Organization for Economic Cooperation and Development (OECD) and the G20 countries adopted the Action Plan to regulate the issue of BEPS. It consists of 15 items based on the three key elements: introduction of harmonized national regulations affecting international activity, making of the requirements of the current international standards related to the essence harsher, as well as improvement of transparency and confidence. The Action Plan suggests the activities aimed to combat abuse related to the use of special taxation regimes and conventions on avoidance of double taxation. Already more than 100 countries have joined the program, including Ukraine – on January 1, 2017. In 2020 amendments were made to the Ukrainian legislation in the part related to partial BEPS plan performance, in the laws: 

  • On Amendments to the Tax Code of Ukraine on Improving Tax Administration, Elimination of Technical and Logical Inconsistencies in Tax Legislation” as of January 16, 2020 No. 466-IX; 
  • “On Amendments to the Tax Code of Ukraine and Other Laws of Ukraine on Ensuring the Collection of Data and Information Necessary for Declaring Certain Objects of Taxation” as of December 17, 2020 No. 1117-IX; 
  • “On Amendments to the Tax Code of Ukraine on Functioning of the Electronic Cabinet and Simplification of the Work of Sole Proprietors” as of July 14, 2020 No. 786-IX.

Ukraine ensures performance of 8 actions out of 15 BEPS plan measures

Action 3: disclosure of involvement of natural persons-residents of Ukraine in foreign companies they control (CFC) by them, and taxation rules for such companies;

Action 4: restriction of the costs of financial operations with related persons;

Action 6: prevention of abuse related to the application of the treaties on the avoidance of double taxation;

Action 7: prevention of artificial evasion of the recognition of the permanent representation status;

Actions 8-10: improvement of control over transfer pricing;

Action 13: rules of reporting for international groups of companies by countries.

The implementation of international tax rules into the “body” of the Ukrainian fiscal system will become a new impetus towards the increased interest of fiscal authorities in the CFC structures, permanent representations, TP control in 2021

Controlled foreign companies (CFC)

The year 2020 was marked by the appearance of the term “CFC” – controlled foreign company – in the Ukrainian tax legislation. The rules of taxation are set out in Articles 39-2 of the Tax Code of Ukraine. In the Law of Ukraine On Amendments to the Tax Code of Ukraine on Improving Tax Administration, Elimination of Technical and Logical Inconsistencies in Tax Legislation” as of January 16, 2020 No. 466-IX Article 39-2 is set out in the revised version. 

To put it simply, any residents of Ukraine (be it a legal entity or a natural person), possessing (or controlling) directly or indirectly a foreign company (foreign formation) is the CFC owner. Such owner shall inform the fiscal service about the existence of the CFC as well as declare the income obtained by the CFC and pay taxes on it. A legal entity shall pay corporate tax at the rate of 18%, while a sole proprietor shall pay income tax at the rate of 18 (9)% plus military tax at the rate of 1.5%.

The aim of CFC introduction is to get back the taxes owners of foreign companies tried not to pay using the gaps in the Ukrainian legislation.

It is not required to submit a CFC declaration in 2021. The process of declaring will start in 2023 for the income obtained in 2022. Owners of controlled companies may use this period of time to analyze the structure of foreign companies, reconsider the correlation of the shares in corporate rights ownership, change the resident status of legal entities. 

Multi-layered company ownership structures used to allow protecting the end beneficiary’s assets and reduce the tax load in Ukraine. In the new situation this may lead to taxation of one and the same income several times. 

Attention should be paid to the expediency of maintaining “non-working” companies-non-residents. Since Ukrainian tax authorities must also be informed about them. A fine for the owner of such company for absence of notification about CFC ownership (a share in the CFC’s authorized capital stock) makes 300 subsistence minimums for a person capable of working, as set by the law as of January 1 of the tax (reporting) year, for each such fact. For instance, in 2021 that would be 681,000 UAH.

Permanent representations

The term “permanent representation” also underwent changes in 2020. The Law of Ukraine On Amendments to the Tax Code of Ukraine on Improving Tax Administration, Elimination of Technical and Logical Inconsistencies in Tax Legislation” as of January 16, 2020 No. 466-IX amended subparagraph 14.1.193, paragraph 14.1, Art.14 of the Tax Code of Ukraine. 

Now representations of non-residents which, though not carrying out any entrepreneurial activity in the Ukrainian territory, still get some foreign funding may get “under blow”. They mainly deal with information collection, advertising of the articles/goods of the parent company, other preparatory or supportive activities. Such activity is carried out under the power of attorney for holding negotiations and conclusion of agreements on non-resident’s behalf. That allows tax authorities to speak about the availability of a permanent representation, for the tax legislation purposes. That may result in the conclusion of the fiscal authorities that the non-resident has obtained income from the Ukrainian territory and there is a need to tax it with corporate tax in our state. And the financial result determined by the rules of business accounting standards (national or international) constitutes the object of taxation

Special attention should be paid to this by the representations of the companies from the countries with which Ukraine has not concluded treaties on the avoidance of double taxation. That is caused by the expansion in the interpretation of the term “permanent representation” in the Tax Code of Ukraine. The point is that most Conventions/Treaties concluded by Ukraine contain the rules that are more loyal for tax-payers than the norms of Ukrainian fiscal legislation.

Ukrainian companies carrying out mediatory operations with non-residents in relation to sales or acquisition of goods (works, services) at the expense of and in the interests of (in favour of) a non-resident may also be acknowledged to be permanent representations. In this case the Ukrainian legal entity must estimate the non-resident’s income and have it taxed in Ukraine. Still, there is no established methodology for such estimation set in the norms of the Tax Code.

Also, the Law On Amendments to the Tax Code of Ukraine and Other Laws of Ukraine on Ensuring the Collection of Data and Information Necessary for Declaring Certain Objects of Taxation” as of December 17, 2020 No. 1117-IX presupposes the duty of permanent representations to get registered with the tax authorities by March 31, 2021. And carrying out of activities via a permanent representation with no registration with tax authorities may lead to the imposition of a fine on the non-resident in the amount of 100,000 UAH. In some cases managers may be brought to criminal account for non-payment of taxes in such cases.

Transfer pricing (TP)

The principle of “outstretched hand” constitutes the basis of Article 39 of the Tax Code of Ukraine “Transfer Pricing”, which keeps being improved over the recent seven years. The principle states that the conditions for carrying out controlled operations should not differ from the conditions applied between unaffiliated persons in comparable usual operations. Controlled economic operations are primarily the operations carried out by tax-payers with unaffiliated persons-non-residents. In case a controlled operation does not meet the outstretched-hand principle, the company-resident of Ukraine must additionally pay corporate tax.

In  2021 a number of amendments introduced by the LawOn Amendments to the Tax Code of Ukraine on Improving Tax Administration, Elimination of Technical and Logical Inconsistencies in Tax Legislation” as of January 16, 2020 No. 466-IX will come into effect.

In particular, the content of transfer pricing has been expanded, new notions “international group of companies”, “parent company of the international group of companies”, “authorized participant” have been introduced. The duty to notify the controlling body of the participation in the international group of companies as well as to submit the report by the countries of the international group of companies has been introduced. 

The list of documents on TP has been expanded, and tax officials are now entitled to require submission of global documents on TP (master file). The condition of availability of a reasonable economic cause (business aim) for carrying out a controlled operation has been introduced, and the tax-payer has to prove it not just during any inspections, but in the preparation of TP documents as well. 

Interstate fiscal information exchange

Fiscal information exchange constitutes an important element of Ukraine’s financial relations with other countries under the Convention on Mutual Administrative Assistance in Tax Matters and respective Conventions (Treaties) on the Avoidance of Double Taxation. The states exchange information: upon the request of one state or other, automatically or ad hoc. For instance, the Tax Code of Ukraine, starting with 2021, will have automatic exchange of tax and financial information with other countries in the part of the reports of the international groups of companies delivered within transfer pricing.

The new US Law on Money Laundering also sets a number of measures aimed at getting information from respondent banks and tax authorities of other countries.

Also, Ukraine intends to join the Common Reporting Standard (CRS) of the OECD in the nearest future to ensure automated tax information exchange with other jurisdictions. In the nearest year or two Ukrainian fiscal officials and their foreign colleagues will have all information about the economic operations carried out in any jurisdiction or the income obtained either by legal entities, or by natural persons. 

Tax amnesty 

The state also pays attention to the issue of capital amnesty. It has been under discussion in Ukraine over at least the last 4 years. At the end of 2020 a lot of statements were made that the relevant law would be passed already this spring. On February 25, 2021 the President of Ukraine registered draft Law No. 5153 “On Amendments to the Tax Code of Ukraine in the Part of Income Unshadowing and Improvement of the Tax Culture of Citizens via Introduction of Voluntary Declaring by Natural Persons of the Assets They Possess and Payment of One-Time Duty to the Budget”. The draft law can in short be called “the key draft law on tax amnesty”. The aim of its adoption is to unshadow the economy, to create pre-conditions for further implementation of the BEPS Action Plan in Ukraine as well as to take currency regulation liberalization measures. The draft law suggests a campaign in voluntary one-time (special) declaration of the assets of natural persons. Assets formed as the result of income not taxed before shall be subject to taxation, in accordance with the Ukrainian legislation. 

The draft law presupposes one-time declaring of the assets of natural persons over the period from July 1, 2021 to July 1, 2021. With this in view one should submit a one-time (special) voluntary declaration. It is necessary to indicate in it the assets that were not declared in violation of the Ukrainian tax and currency legislation over any of the tax periods by January 1, 2021. 

The declaration may reflect currency values (but for cash), securities, movable and immovable property, including uncompleted construction objects, shares (parts of shares) in the property of legal entities located (registered) both in Ukraine and abroad.

The state guarantees concerning exemption of the declarants from administrative and criminal liability for non-payment of taxes and duties for the income obtained and not taxed before shall be provided on condition of payment of the one-time (special) voluntary declaration duty.

The one-time (special) voluntary declaration duty shall be estimated at the following rates:

– 5% for currency values placed in bank accounts in Ukraine and the rights of monetary claims against the residents of Ukraine under specific circumstances, as well as other assets located (registered) in Ukraine;

– 9 % for currency values placed in the accounts of financial institutions abroad and the rights of monetary claims against non-residents of Ukraine under specific circumstances, as well as other assets (in particular, movables and immovable property, proprietary and corporate rights, financial instruments) located (registered) abroad;

– 2.5% for the face value of the government bonds of Ukraine with the circulation period exceeding 365 days with no right of pre-scheduled repayment, if acquired by the declarant in the period from January 1, 2021 to June 20, 2022 prior to submission of the one-time (special) voluntary declaration.

The draft law determines the objects that do not require to be declared. In particular, an apartment with the total area up to 120 sq.m., or a residential house (including uncompleted construction), with the area up to 240 sq.m., as well as other assets the total value of which does not exceed 400 thousand UAH.

The adoption of draft law No. 5153 may create the grounds for unshadowing of the income hidden from taxation as well as to improve the tax culture of citizens. Also, capital amnesty constitutes the necessary precondition for the adoption of the law on the general declaring of income by all residents of Ukraine. 

Tax inspections. Financial liability

COVID-19 has also introduced some amendments into the tax control. Over the period of the quarantine restrictions set by the Cabinet of Ministers of Ukraine the moratorium for planned as well as for most of extraordinary and actual tax inspections has been in effect. By the end of February the quarantine was in place, and it was prolonged till February 03, 2021. The Government passed Resolution No. 89 which allowed to conduct planned and part of extraordinary inspections. The legitimacy of this resolution is doubtful. Article 7 of the Tax Code of Ukraine allows regulating taxation issues only by the Laws on Amendments to the Tax Code. In 2020 the State Tax Service published the plan-schedule of planned inspections for 2021, which was updated in the early 2021. Most probably, the tax officials will be guided by Government’s Resolution No. 89 and their own plan-schedule. Therefore, businessmen should expect increased controlling tax measures.

Besides that, tax-payers should not be happy about the fact that due to the quarantine moratorium the tax inspection lost its chance to check the year 2017. The point is that the time restriction (1,095 days) for holding inspections was terminated over the period of its effect.

Still, fiscal authorities have not stopped any extraordinary inspections of the companies that indicated the tax credit for the amount of 100,000 UAH and more in their VAT tax return — the moratorium does not refer to them. 

Since January 1 financial sanctions for tax offences have been charged differently. In some cases, to determine the amount of fine the State Tax Service needs to take into account the tax-payer’s guilt of the tax offence commission. For example, if after the inspection the tax inspection additionally charges any monetary commitment, but does not establish the intention of committing the offence, the fine will constitute 10% of the amount charged. Availability of the intention increases the fine to 25%. Or, committing of the offence, in particular, due to the controlling body’s fault, or under the effect of force majeure makes the tax-payer generally exempt from financial liability.

Criminal proceedings. The Bureau of Economic Security

So far several law-enforcement bodies are entitled to investigate into economic crimes in Ukraine: tax police, the Security Service of Ukraine and the National Police of Ukraine, the State Investigations Bureau. In January-December 2020 the tax police had 910 criminal proceedings registered under Art. 212 of the Criminal Code of Ukraine (tax evasion). 10 indictments were sent to court, 28 petitions on exemption from criminal liability were submitted, and 124 proceedings were closed. The aim of launching quite a number of such criminal proceedings is to make an attempt at exerting illegal pressure on companies, including foreign ones. And this is all accompanied by searches, seizure of belongings and documents, interrogations of businessmen, arrests of legal entities’ accounts. The conclusion to be drawn from this statistics is rather sad — most criminal proceedings are still launched by the tax policy with no sufficient legal grounds thereto!  

This data also testifies to the inefficient work, primarily, of the tax police in the investigation of economic crimes. Therefore, the urgent need for the establishment of a single state body to be responsible for combating economic crimes and for avoiding duplication of the respective functions in different law-enforcement bodies has long been there. The issue of the establishment of such entity to replace the tax police was discussed for many years, and several draft laws were submitted to the Verkhovna Rada. On January 28 the Verkhovna Rada passed in the second reading and in general the draft Law “On the Bureau of Economic Security of Ukraine” No. 3087-д. On March 22, 2021 the President signed Law No. 1150-ІХ.

Law No. 1150-ІХ establishes that the number of the Bureau’s staff members shall not exceed 4,000 persons. The former staff members of the tax police may be hired by the Bureau on a competitive basis and after they have undergone psychological testing. Contrary to the expectations, the BES will not just be “analytical”, but will also be a “law-enforcement” body, will be entitled to apply physical influence, special means and use fire weapons. In fact, the Bureau will perform the same intelligence and search as well as investigative functions that the tax police did. The latter must be finally liquidated within six months from the date the Law on the BES comes into effect. The issue of the Bureau’s mandate has not finally been settled as of now. Amendments in the Code of Criminal Procedure, that will determine the crimes that are within its jurisdiction, have been passed by the Parliament only in the first reading. This very draft law supplements the Criminal Code with new Article 222-2: “VAT Fraud” as well as makes the liability for tax evasion harsher. Thus, there are still serious concerns left that the new entity will inherit all the drawbacks and faults of the tax police. 

Fiscal expectations

Ukraine, bound by the terms of international treaties, requirements of international financial institutions and budget problems, cannot turn away from the path of fighting tax evasion. Within this competition the state will further reduce the opportunities for tax maneuvers both for business, and for ordinary citizens. That is the global trend, and, taking all the knowledge and achievements, one should adjust them to the new fiscal conditions. The tax world is changing at a breakneck speed, and the former entrepreneurial experience already does not work in full!