Amendments to the Tax Code of Ukraine (Administration of taxes)

In the post dated 22 July 2011 I mentioned the draft law No 8217 (enacted by the Parliament of Ukraine but not signed by the President yet) considerably amending the Tax Code of Ukraine. Here, you can find the information on the chief novelties introduced by the aforesaid draft law in respect of the administration of taxes:

- Improvement in the regulation of tax consultations given by the tax authorities: (i) individual tax consultation must be awarded within 30 calendar days; (b) the possibility to obtain tax consultation in an electronic form; (с) the revival of general tax clarifications (consultations) as a basis for the release of a taxpayer from the responsibility for the breach of tax laws;

- Broadening the grounds on which the information from taxpayers can be required by the tax authorities based on a written request. The draft law lays down the following additional grounds: (a) unreliability of data constrained in tax returns; (b) the receipt by the tax authorities of a complaint against a taxpayer pertaining to its incompliance with VAT invoicing rules; (с) the conduction of cross tax audit;

- Clarifying the grounds on which a taxpayer can bar the tax authorities from exercising its documentary tax audit. According to the draft law, a taxpayer is not only entitled to disallow the tax authorities to proceed with the field documentary tax audit if the tax authorities fail to deliver to such a taxpayer an assignment to carry out the tax audit, but also if they fail to deliver to the taxpayer an order on the appointment of the tax audit and identity cards of the tax officials specified in the said assignment.

- Making clear that in the course of their tax audits big taxpayers  are obliged to submit  in an  electronic form to the tax authorities not all available to them source documents, company accounts, and financial reporting documents,  but only those originally executed in an electronic form;

- Eliminating the tax fines for the overstatement of the negative balance of corporate profit tax and removing the special 75 per cent tax fine for three or more violations of tax laws committed within 1095 days.

As you can see, most of the novelties brought by the draft law No 8217, of course, except for those relating to widening the grounds to demand information from taxpayers, seems to be beneficial for business.

TAX ASPECTS OF IPO PREPARATIONS

This article examines the tax aspects of preparations for the conduct of an IPO (initial public offering) on a foreign stock exchange.

In the course of IPO preparations, the tax lawyer’s job is mainly narrowed down to the following: (1) identification and minimization of the issuer’s tax risks, (2) creation of a tax-efficient corporate structure of the issuer, and (3) development of a scheme for distributing and using IPO proceeds.

1. Identification and Minimization of Tax Risks

During a due diligence review of the issuer, relevant tax risks are identified (to be further outlined in the offering prospectus) and recommendations are given as to their minimization. Obviously, the existence of any significant tax risks can greatly reduce the attractiveness of the issuer’s shares for potential investors.

The tax lawyer’s task is to minimize such risks. There can be different ways to do that: from the execution of additional documents revealing the nature or the economic implications of certain business transactions to the removal of the company plagued by serious tax risks from the structure of the holding participating in an IPO.

2. Creation of a Tax-Efficient Corporate Structure of the Issuer

Nowadays, issuers usually consist of not one but several legal entities, both Ukrainian and foreign. A successful IPO is impossible without an efficient corporate structure of the issuer. Tax lawyers play a very important role in the creation of such a corporate structure. Apart from being transparent and easily understandable for potential investors, the issuer’s corporate structure must be non-burdensome from a tax standpoint.

In view of the flaws in the applicable securities laws (the impossibility of issuing foreign currency-denominated shares, the need to obtain a permit from the Securities and Stock Market State Commission to float a Ukrainian issuer’s shares abroad, etc.), issuers usually prefer to conduct an IPO through their foreign companies.

Thus, tax lawyers are also charged with the task of choosing the most tax-efficient jurisdictions for setting up the holding’s foreign companies. Other criteria for the choice of a jurisdiction include the taxation of dividends, interest, royalties and gains from the sale of shares or other corporate rights and the favorability of the terms and conditions of the applicable double taxation treaties.

A rather popular practice is to incorporate the parent company, which will directly float shares on a foreign stock exchange, in the Netherlands. Cyprus-based companies are often used as the holding’s intermediate companies.

3. Development of a Scheme for Distributing and Using IPO Proceeds

Depending on how the issuer intends to use its IPO proceeds (either for investing in operating companies, or for buying a new business, or otherwise), tax lawyers need to come out with a mechanism for distributing such proceeds between the holding’s companies with least costs. Possible solutions are increases in the share capitals of the holding’s member companies, the provision of loans by one of the holding’s member companies to another, etc. The result of such tax planning largely depends on how tax-efficient the issuer’s corporate structure is.

In Place of an Epilogue

Summing up the above, it can be concluded that the success of an IPO depends chiefly on the involvement of qualified tax lawyers.

Amendments to the Tax Code of Ukraine

The Verkhovna Rada (Ukrainian parliament) enacted the Law on the amendments to the Tax Code of Ukraine on 7 July 2011 (the draft law No 8217).

The law sets out to introduce a bulk of amendments to the Tax Code of Ukraine as well as to other laws of Ukraine. The amendments are made to improve certain provisions of the Tax Code and touch upon such issues as administration of taxes, corporate profit tax, personal income tax, VAT to name but a few.

As at the date of the publication of this post, the law has not been signed by the President of Ukraine yet.

Protecting trade secrets during tax audits

Recently, the tax authorities have been paying more and more attention to auditing contractors of taxpayers (with a view to identify null transactions or other facts required to challenge the taxpayers’ right to input VAT or deductible expenses). If your enterprise makes money in that it buys goods and resells them at a higher price to other business entities, the conduction of such audits could be devastating for your business.

There are some situations in practice where such audits can result in the disclosure of the information on the suppliers of the taxpayer and the prices at which it buys goods from them to the customers (buyers) of the taxpayer. On the receipt of this information, it no longer makes sense for the customers (buyers) of the taxpayer to deal with the taxpayer and they may begin to purchase goods directly from the suppliers of the taxpayer. As a result, the taxpayer’s revenues can sharply decrease. In particular, this situation may occur when the tax authorities carry out a documentary audit of a customer (buyer) of the taxpayer and reflect in the audit report the movement of goods from the suppliers of the taxpayer to this customer (buyer).

To avoid a similar situation, it seems reasonable to take advantage of the legislation protecting trade secrets from disclosure by the tax authorities. The Tax Code unambiguously stipulates the right of a taxpayer for nondisclosure of trade secrets by the state controlling bodies (p17.1.3).

The following actions may be suggested to protect the interests of the taxpayer:

- Setting out in the internal documents of the taxpayer the list of information constituting trade secrets as well as the mechanism covering the protection of such information - the right of a taxpayer to trade secrets does not occur by itself and requires that certain  formalities are complied;

- A written notice to the tax authorities that the information on the suppliers of the taxpayer and the prices of goods at which they are sold to the taxpayer makes up the trade secrets of the taxpayer (with confirming internal  documents enclosed);

- Compliance during the documentary on-site tax audits with the requirement of the Tax Code to hand over documents containing trade secrets (such as contracts with the suppliers) to the tax authorities based on an acceptance certificate only (p 85.3); the acceptance certificate must clearly indicate that these documents contain the trade secrets of the taxpayer;

-  A written warning to the tax authorities that in the case of the disclosure of the trade secrets, including information on the suppliers of the taxpayers and the prices at which the goods are purchased from them, the taxpayer will have to (a) appeal to the prosecution office to hold the tax officials concerned criminally liable for breaching its trade secrets  (2) apply to the administrative court for the recovery of damages caused by the disclosure of trade secrets committed by the tax authorities.

International Financial Reporting Standards in Ukraine

The amendments to the Law on Accounting and Financial Reporting contemplating the transition of Ukrainian companies to International Financial Reporting Standards was enacted in May 2011. The amendments will take effect from 1 January 2012. The transition to IFRS will commence from this same date.

The transition to IFRS will be mandatory only for certain categories of business entities: public joint-stock companies, banks, insurers and companies involved in the list of activities defined by the Cabinet of Ministers. By the way, the Cabinet of Ministers has not approved the respective list of activities yet.

Other companies have a choice. They may either submit reports based on national standards, or "master" IFRS. If they decide to apply IFRS, the local state statistics authorities must be notified.