Such Wanted Agency

In March 2017 the Cabinet of Ministers of Ukraine approved a bill on the establishment of the Service of Financial Investigations (the “Service”). The main purpose of this bill is to eliminate the Tax Police and optimize the system of law-enforcement agencies dealing with financial crimes.

Currently, there are four law-enforcement agencies in Ukraine counteracting financial crimes:

- the Tax Police;

- the Department of Economic Security of the National Police;

- the Department of Counter-Intelligence Economic Security of the Security Service of Ukraine (the “SSU”);

- The investigative bodies of the State Prosecutor’s Office.

Once the law is adopted, the Service will be richly endowed with all the powers as to detection and pre-trial investigation of crimes in  economic, financial and tax areas. Thus, there will arise “a monster” taking on all the powers on combating crimes in the economic sphere.

The establishment of the Service will mean not only “extermination” of the Tax Police, but also the elimination of the Department of Economic Security of the National Police.  In the meanwhile, the powers of the Department of Counter-Intelligence Economic Security  of the SSU will be considerably narrowed.

Co-authored by Anton Havryk 

 

It is planned that the Service will investigate crimes related to the use of financial resources, tax and the turnover of excisable goods, to name but a few.

Approximately thirty sections of the Criminal Code of Ukraine will fall under the jurisdiction of  the Service,  including such popular ones, as:

- section 191 - misappropriation of property through the abuse of office; 

- section 212 - tax evasion;

- section 222 - financial fraud;

- section 358 - forgery of documents, seals, stamps and forms, sale or use of forged - documents, stamps, seals.

The establishment of the Service can be regarded as a certain kind of lustration process aimed at the Tax Police and other law enforcement agencies concerned with financial crimes. 

The bill provides that the Service will filled by quite a new staff. Persons who have been working at law-enforcement agencies counteracting financial crimes since 2010 onwards will not be admitted to the recruitment process.

In our opinion, the admission criteria are not clearly formulated. 

If, for instance, to talk of once employees of the National Police (former Militia), one may take note of the following. The road to the Service is surely opened  for district inspectors  (sheriffs). On the contrary, this road is  unequivocally closed for former servicemen of the Department of Economic Security of National Police. The latter are considered to be former employees of a law-enforcement agency concerned with financial crimes. 

There is a much more difficult situation with investigating officers and former employees of the once legendary Organised Crime Department of the National Police. Those two categories of the servicemen were only  partially involved in dealing with financial crimes (along with dealing with ordinary crimes). The moot point here is whether they can be allowed to the recruitment process.

The officers of the Service, just as those of National Anti-Corruption Bureau of Ukraine (the “NABU”), will be called detectives. There will be no intelligence and investigating officers as they currently exist in the Tax Police and other law-enforcement agencies responsible for financial crimes.

It is planned that the detectives of the Service will have decent salaries. For example, the usual detective’s salary will be 20 living wages, which is about 32 000 hryvnias. This approach is used following the example of the NABU to reduce the temptation of the Service’s detectives to continue “deep rooted corrupt practices”.

In our opinion, the creation of the Service may be of a great benefit to Ukraine.  At least, the beneficial effect is visible in the concentration of powers to investigate financial crimes in one body. This will lead to the elimination of the duplication of the functions of law-enforcement agencies and may improve the efficiency of investigation.

For example, it is well possible today that the same criminal offences, say, related to taxation, are being investigated by different law-enforcement agencies. If information on a VAT evasion gets to the National Police, the offence may be qualified and investigated under section 191 of the Criminal Code of Ukraine (misappropriation of property through the abuse of office). If the same information gets to the Tax Police, the offence may be qualified and investigated under section 212 of the Criminal Code of Ukraine (tax evasion). The creation of the Service must bring an end to such a wrongful practice.

However, the real and much more significant beneficial effect will take place, if only the reform fully succeeds. Instead of the currently existing law-enforcement agencies with excellent “corruption track records” we will have the new independent agency totally free from corrupt practices.

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Tax Evasion: Its Majesty Intention

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One of the key issues surrounding the qualification of tax crimes is an issue of intention. Intention (mens rea) is the attribute of tax evasion (s. 212 of the Criminal Code of Ukraine). If the tax has not been paid without the intention to do so, there is no criminal liability under s.212 of the Tax Code of Ukraine. However, given the existing practice the person who has failed to pay tax unintentionally (for instance, due to the poor knowledge of tax laws or their incorrect application) may incur criminal responsibility under s. 367 of the Tax Code of Ukraine (neglect of official duty).

There naturally arises a question as to how to determine that an intention aimed at tax evasion is in place? Undoubtedly, the main guidance here is para 3 of the Resolution of the Plenum of the Supreme Court of Ukraine dated 8 October 2004 No  15 "On Some Issues of Application of Tax Evasion Legislation" (hereinafter - "Resolution No 15"). This paragraph comprises  the non-exhaustive list of circumstances that may indicate the intention aimed at tax evasion, including:

• the absence of tax accounting records or keeping them at variance with the established procedure;

• distortions in accounting or reporting records;

• failure to register cash received for services rendered;

• maintaining dual (official and unofficial) accounting;

• the use of bank accounts not disclosed to the tax authorities;

• overstated cost of sales.

This very list is cited at almost all conferences, seminars and similar events dedicated to

tax evasion matters.

Unfortunately, the aforesaid circumstances are not formulated clearly enough to be safe in saying that there has been/has not been the intention aimed at tax evasion in a particular situation. I decided to try to go beyond the list and look at "live" criminal cases from the Unified State Register of Judgments.

Some examples from this register are outlined below.

No	Case	Court	Circumstances indicating the intention directed at tax evasion
1	In re Vinspetsodyag, 2010, http://reyestr.court.gov.ua/Review/7889655	Zamostyanskiy District Court of Vinnytsia	To substantiate the intention aimed at tax evasion, the court, namely, referred to the following circumstances from the Resolution No 15: (i) the keeping of tax accounting record in defiance of the established procedure; (ii) distortions in accounting and reporting records. In the court’s opinion, the tax accounting violations were evidenced by the declaration of deductable expenses/input VAT deduction related to the transactions with fictitious companies. The distortions in the accounting/reporting documentation, according to the court, were confirmed by the expert report pursuant to which the accounting was conducted improperly (confusions in line numbers and irregularities in the cash book).
2	In re Oris, 2009 , http://reyestr.court.gov.ua/Review/7499249	Chornuhynskiy District Court of  Poltava Region	The director’s failure to file annual corporate income tax return as well as three monthly VAT returns was regarded as an indicative of an intention leveled at tax evasion.
3	In re one private entreproneur, 2011, http://reyestr.court.gov.ua/Review/15414299	Andrushivskiy District Court of Zhytomyr Region	The private entrepreneur exceeded the revenue threshold allowed for the simplified system of taxation and failed to shift to the general system of taxation.

As you can see, even the rather modest sampling features how inventive courts and prosecuting authorities can be while deciding on the presence of the intention aimed at tax evasion.

New Criminal Proceedings Code of Ukraine: Bail Amount to Decrease

Photo from http://ibarraturismo.com The extremely famous Humanization of Liability for Economic Offences Act 2011 (for more details please see my post of 8 November 2011) being in operation from 17 January 2012 has received mixed estimates from taxpayers. The most of the criticism has been aimed at its provisions stating that: - A fine as a punishment for certain crimes, including large-scale tax evasion, must not be less than the amount of the actual damage caused by the crime (the amount of the tax evasion); - The amount of bail must not be less than the amount of the actual damage caused by the crime (the amount of the tax evasion). The existence of such provisions hampers or even makes it impossible to benefit from the progressive rules of this Act with regard to the replacement of an imprisonment by an fine and the replacement of an arrest (as a preventive measure) by bail. It seems that the government has accepted the criticism, at least in part. The new Criminal Proceedings Code of Ukraine (for more information on this code please see the post of 19 May 2012) has no rules determining that the amount of bail ought not to be less than the actual damage (the amount of the tax evasion). With the entry into force of the new Criminal Proceedings Code of Ukraine the amount of bail will no more tied to the amount of the damage and will be limited to 300 minimum wages (UAH 321.9 thousand for the year 2012).

Criminal Liability for Declared but Non-Discharged Tax

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In practice, there is a question whether the criminal charges can be brought against a company’s officers who have declared tax but have failed to remit it to the budget within the prescribed term.

It appears that the Unified State Register of Court Decisions (an “inexhaustible source of knowledge” to a certain extent) is able to provide an answer even to this question.

Let me look at two analogous cases from the register. These are In re Mirgorod Kombinat Khliboproductiv № 1 (http://reyestr.court.gov.ua/Review/20486739) and In re Tsukrovyi Zavod Maharynetskyi (http://reyestr.court.gov.ua/Review/9105838). The cases were resolved in 2011 by the general courts of first instance.

In the given cases directors were convicted because of the failure to discharge the declared tax liabilities on personal income tax and unified social contribution (pension contribution) in the presence of the financial ability to do so. 

The conduct of the Director of Mirgorod Kombinat Khliboproductiv was classified as neglect of official duty (s. 367 of the Criminal Code of Ukraine), while the conduct of the director of Tsukrovyi Zavod Maharynetskyi was classified as tax evasion/unified social contribution evasion (sections 212 and 212-1 of the Criminal Code of Ukraine).

Can this approach be extended to other taxes and contributions? For example, may the director who has declared corporate income tax due but has not paid it in time be exposed to criminal conviction?

It seems that the answer is rather ‘yes’ than ‘no’. Even though there is no priority for paying corporate income tax liabilities over any other liabilities at law, the prosecuting authorities can identify a crime in the conduct of the director remitting an amount “X” available at the company’s account not to the state budget, but to the supplier providing raw materials needed for the continuation of the company’s business.

In the above cases, the judges did not apparently burden themselves with considering the matter of priority/non-priority of certain payments. If they had opined that the criminal responsibility for the declared but not paid tax is only possible insofar as the legislation lays down the priority of the payment of such tax to the budget over making other payments, the directors of these companies would have been convicted only for the failure to remit unified social contribution (pension contribution), and would not have been convicted for the failure to discharge personal income tax.

Currently, the law sets forth the priority of discharging unified social contribution (pension contribution)*, but does not provide such a priority for personal income tax.

* - para 12 of s. 9 of the Law of Ukraine "On the Collection and Accounting of Unified State Social Contribution" and para 12 of s. 20 of the Law of Ukraine "On Compulsory State Pension Insurance".

New Criminal Proceedings Code of Ukraine and Taxpayers

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The new Criminal Proceedings Code of Ukraine (hereafter – the “CPCU”) was officially published the other day. The new code will take effect in six months after its publication (on 19 November 2012). This article is devoted to outline what taxpayers can specifically expect of the enactment of the new CPCU.

The biggest blow to taxpayers, in my opinion, is the deprivation of the possibility to challenge a decision on instituting criminal proceedings in court. The institution of criminal proceedings stage is displaced by the entry of the information on a crime into the Unified Register of Pre-trial Investigations. Although the new CPCU does not preclude the judicial review of the decisions of the pre-trial investigators/prosecutors on making entry into the aforesaid register (the analogue of the decision on instituting criminal proceedings), the corresponding type of complaints are not included in the list of the complaints to be dealt with by a court at the pre-trial investigation stage (s. 303 of the CPCU).

Thus, the court may consider the complaint only after the pre-trial investigation is completed. But the hearing of the complaint at this late stage eliminates any reasonability behind lodging the complaint at all and makes taxpayers virtually defenceless in face of the arbitrarily initiated criminal proceedings.

It should be noted that the adoption of the new CPCU has turned out to be the highly successful continuation of the reform launched by the Tax Code of Ukraine and levelled at the denudation of the taxpayers of the right to oppose the unlawfulness of the institution of the criminal proceedings through the court. The Tax Code of Ukraine has significantly narrowed the possibilities for the judicial review of decisions on instituting criminal proceedings in view of its provision (para 58.4), whereby in the event of the institution of a criminal case the tax assessment ought not to be issued until the final resolution of the case and the delivery of the guilty verdict.

Because of these changes the taxpayers lost their possibility to appeal the tax assessments to administrative courts and later to use the judgments of the administrative courts on abolishing such tax assessments as an argument in favour of the illegality of the institution of the criminal proceedings. The CPCU goes much further by saying complete and the absolute "no" to any attempt on the part of a taxpayer to resist the criminal investigation through a court appeal.

Another no less remarkable aspect of the new CPCU is confining the jurisdiction of the tax police over certain tax-related crimes. In particular, the following crimes will fall outside the jurisdiction of the tax police since the effective date of the new CPCU: s. 191 (misappropriation of property through abuse of office), s. 366 (forgery in office) and s. 367 (neglect of official duty) of the Criminal Code of Ukraine (hereinafter – the “CCU”). The first section, in practice, is often used for qualifying activities aimed at obtaining illegal VAT refund (the unlawful receipt of VAT refund is viewed as a theft of public funds). The second section is almost always utilized in conjunction with s. 212 (tax evasion) of the CCU, given the fact that tax evasion in most cases is not possible without including false information into the tax returns (e.g. understating income or overstating expenses). Finally, the third section is employed in cases where there is an unintentional failure to pay tax (by virtue of an error, unawareness of tax laws technicalities, etc.).

In the confinement of the jurisdiction of the tax police over certain tax-related crimes one can identify something positive for taxpayers. It can be assumed that, not wanting to give the "lucrative" piece of its work to the ordinary police, the tax police will categorise the cases of illegal VAT refund as tax evasion (s. 212 of the CCU) rather than misappropriation of property through abuse of office (s.191 of the CCU). S. 212 of the CCU, in contrast to s. 191 of the CCU does not entail imprisonment (imprisonment in a tax evasion case is only possible when the fine adjudged has not been paid in time). It can also be supposed that tax evasion will not receive the additional qualification under s. 366 (forgery in office) of the CCU. By the way, the latter, just as s. 191 of the CCU, stipulates imprisonment.

When it comes to the exclusion of s. 367 (neglect of official duty) of the CCU from the jurisdiction of the tax police, it will most likely trigger no changes. In practice, the tax police usually do not utilise this section for the qualification of tax crimes. Even in cases of complete absence of evidence indicating the existence of intent aimed at tax evasion, the tax police in the pursuit of good performance figures institute criminal proceedings under s. 212 (tax evasion) of the CCU. Only during the trial stage the court sees the groundless of the qualification under s. 212 of the CCU and changes it to s. 367 of the CCU.

Initiating Criminal Proceedings and Pending Tax Assessments

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In practice, there is a position that the criminal proceedings on tax evasion cannot be instituted until the underlying tax assessment becomes due (effective). The proponents of this position refer to para 56.22 of the Tax Code of Ukraine (before the enactment of the Tax Code of Ukraine, to para 5.2.6. of the Law of Ukraine "On the Procedure for Discharging Tax Liabilities to Budgets and State Special Purpose Funds"). According to these points of law in case of an appeal is filed against a tax assessment the tax evasion charges cannot be rested on such a tax assessments until the end of the appeal procedure, i.e. until the tax assessment becomes due (effective).

In my opinion, the position is more than questionable, especially given that:

1. Pursuant to the novelty incorporated into the Tax Code of Ukraine (para 58.4) a criminal investigation should precede the issuance of a tax assessment, and not vice versa;

2. The prohibition established by the specified legal provisions applies to tax evasion charges, not to the institution of a criminal case;

3. The above rules clearly prescribe that this prohibition does not extend to the cases where the tax evasion charges are not only bolstered by a tax assessment, but also by other evidence collected in accordance with criminal procedure law.

The court practice on the issue raised is not consistent. In most cases, the courts dealing with the complaints against the initiation of the criminal cases do not adhere to this position. They observe that the above prohibition covers tax evasion charges, rather than the institution of criminal cases. The decision of the Highest Specialized Court of Ukraine on Civil and Criminal Trials of 7 February 2012 in re Striy Plant Metalist, JSC* seems to be a classic example of such practice.

Nonetheless, some judges turn out to be the "apologists" of the given position, especially if at the time of the consideration of the complaint against the institution of criminal proceedings an administrative court has already canceled the relevant tax assessment. An example here is the decision of the Highest Specialized Court of Ukraine on Civil and Criminal Trials of 28 April 2011 in re Blits-Trade, Private Enterprise**.

*- http://reyestr.court.gov.ua/Review/21840417

**- http://reyestr.court.gov.ua/Review/15724973

Pseudonullity from Height of Eagle's Flight

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Several years have already passed by since the tax authorities embarked on their raid against null transactions or, to be more precise, against the transactions that, in their understanding, which is very difficult to share are null.

Usually, the "battlefield" is as follows. The tax authorities manage to find among the suppliers of a taxpayer some problem, in their view, entities (not available at their registration office, under liquidation, registered in the name of false persons, with no fixed assets, with the small number of employees, etc.). It is concluded that the execution of the supply contracts with such problem contractors has been leveled at attaining unlawful tax benefits (artificial input VAT deduction or expenses). The relevant agreements are rendered null. The tax authorities believe that these agreements violate public order as those directed at the misappropriation of the public property (tax revenues). As a consequence, the taxpayer loses the right to input VAT deduction and/ or expenses.

Typically, these battles find their final resolution in the administrative courts. If the taxpayer can vindicate the real (true) nature of the business transactions and his unawareness of the violations made by the suppliers, it is in principle a good chance for him to come out of the "battle" as a winner. More detailed information on the practice of resolving such disputes can be found in my posts of 15 March 2012, 9 September 2011 and 6 April 2011.

Nevertheless, sometimes there occur unfortunate exceptions when combating "pseudonullity” goes beyond the administrative proceedings by putting the taxpayer under the extremely heavy "tracks of the criminal proceedings tank."

It so happened to the unlucky directors of “VLATA Ltd”, LLC and "Vizavi ", LLC who were convicted in 2010 of para 2 of s. 367 of the Criminal Code of Ukraine (neglect of official duty) for declaring the input VAT deduction based on the  transactions with the problem (in opinion of the tax authorities) contractors. The guilty verdicts were delivered by Justice Anatoliy Orel (Ukrainian “orel” means “eagle” in English) of the Slavutych Court of Kyiv Region.* The verdicts were affirmed in 2011 by the Appellate Court of Kyiv Region. **

Failing to ascertain that there were any dummy (not linked with the real movement of goods and services) transactions involving "VLATA Ltd", LLC and "Vizavi", LLC, the court justified the charges in neglect of official duty  in a manner like this:

...the defendant had not inquired into the real existence of the suppliers, had not personally met their directors, had not checked the lawfulness of the origin of the goods supplied, had not verified the trustworthiness of the contracts and primary accounting documents, VAT invoices included, had not visited for this purpose the offices of the suppliers, had not determined the real identities of the contracting representatives of the suppliers, while he had been able to do so taking account of the information, experience, organizational and technical capacities available to him; instead, he had unreasonably limited his enquiry only to the verification of the suppliers’ VAT registration...

On a good note, the conviction of the directors of the taxpayers who has had the business relations with problem contractors is not a systematic phenomenon nowadays. However, it is better to be prepared for the worst. FOREWARNED IS FOREARMED.

*- http://reyestr.court.gov.ua/Review/13269815 and  http://reyestr.court.gov.ua/Review/12158044

**- http://reyestr.court.gov.ua/Review/17131346 and http://reyestr.court.gov.ua/Review/14961212.