Parliament’s Plans in the Field of Taxation of Business Entities with Economic Ties to the Aggressor State

On April 1, the Verkhovna Rada of Ukraine adopted the Draft Law on Amendments to the Tax Code of Ukraine on Taxation of Business Entities with Economic Ties to the Aggressor State (No. 7232 of March 30, 2022). Please note that the Draft Law has so far been adopted as a basis, but is likely to be finalized and adopted as a whole. The Draft Law envisages the peculiarities of taxation of business entities related to the Russian Federation, in particular, the use of an increasing rate in the calculation of certain types of taxes. Key provisions of the Draft Law are provided below.

General Provisions

1. The concept of the Register of Business Entities with Economic Ties to the Aggressor State (hereinafter – the Register) is introduced. The procedure for forming and maintaining the Register shall be approved by the Cabinet of Ministers of Ukraine. The Register shall be formed and maintained by the controlling bodies.
2. It is determined that the aggressor state is the Russian Federation.
3. In essence, the Law applies to all businesses that are directly or indirectly related to Russia. It is established in more detail that the business entities with economic ties to the aggressor state are:
4. legal entity – a resident of Ukraine (its branches, representative offices and other separate divisions located on the territory of Ukraine), which carries out its activities in accordance with the legislation of Ukraine on its territory with the following characteristics:

– its founder (participant, shareholder) or ultimate beneficial owner (controller), which directly or indirectly as of February 23, 2022 is a resident of the aggressor state (natural or legal person) and/or in which the aggressor state directly or indirectly, or legal persons whose founder (participant, shareholder) or ultimate beneficial owner (controller) is the aggressor state and/or citizens of the aggressor state, and/or in whom the aggressor state and/or citizens of the aggressor state directly or indirectly have a share in the authorized (composed) capital, shares, other membership (participation in any form) in a legal entity.

The wording of the Draft Law is not precise enough and leaves many questions about its interpretation. We hope that before the consideration the Dratft Law as a whole, it will be improved.

2) a legal entity – a resident of Ukraine (its branches, representative offices and other separate subdivisions located on the territory of Ukraine) which:

– receives income in any form originating from the aggressor state or

– directly or indirectly has a share in the authorized (composed) capital, shares, other membership (participation in any form) in a legal entity – a resident of Ukraine or a foreign law firm, non-resident organization of Ukraine, which in turn receives income originating from the aggressor state or conducts business transactions that, based on their legal essence, may lead to obtaining income.

The same provisions apply to non-residents whose activities form a permanent representative office in Ukraine.

In that case, any income derived from any activity in the territory of the aggressor state, its continental shelf, or the exclusive (maritime) economic zone shall be considered income.

1. legal entity – a resident of Ukraine (its branches, representative offices and other separate divisions located in Ukraine), which is a member of an international group of companies, if the parent company or any other member of such an international group of companies receives income from the aggressor state or carries out business transactions which, based on their legal essence, may lead to income (including cases when such income is received or may be received as a result of activities of the parent company or a member of an international group of companies, which leads to the establishment of a permanent representative office of a non-resident in the aggressor state), or which has or may have financial obligations in relation to the residents of the aggressor state or in relation to which the residents of the aggressor state have or may have financial obligations (including as a result of a bank guarantee, transactions under letters of credit).

The same provisions apply to non-residents whose activities form a permanent representative office in Ukraine.

As stated earlier, income in this case will be any income received from any activity in the territory of the aggressor state, its continental shelf, or the exclusive (maritime) economic zone.

4) a legal entity – a resident of Ukraine (its branches, representative offices and other separate divisions located in Ukraine), which is a member of an international group of companies, if the parent company or any other member of such international group of companies provides economic support to the aggressor state (including cases when such support is provided as a result of the activities of the parent company or a member of an international group of companies, which leads to the formation of a permanent representative office of a non-resident in the aggressor state).

The same provisions apply to non-residents whose activities form a permanent representative office in Ukraine.

The provision of economic support to the aggressor state means transactions carried out free of charge. The Draft Law defines the following list in more detail:  transactions in favor of residents of the aggressor state or related persons (including cases when such transactions are carried out with the involvement of intermediaries or agents who are not residents of the aggressor state) on:

• free provision of goods, works, services for consumption or storage on the territory of the aggressor state, its continental shelf, in the exclusive (maritime) economic zone;
• gratuitous transfer of intellectual property rights and other intangible assets or granting other property rights in respect of such intellectual property rights to residents of the aggressor state or residents of any other states for use in the territory of the aggressor state, its continental shelf , in the exclusive (maritime) economic zone.

1. Tax rate. For business entities with economic ties to the aggressor state, the tax liability determined by law is calculated at the rates determined by the relevant sections of the Tax Code of Ukraine with the application of an increasing rate of 1.5 per each tax (reporting) period  provided for such tax.
2. The Draft Law proposes to extend the increasing rate to the following taxes:

• corporate income tax (except for rates applicable to the income of non-residents and persons equated to them with their source of origin from Ukraine, regulated by paragraph 141.4 of the Tax Code of Ukraine);
• ecological tax;
• rent;
• property tax.

1. Exemption from the obligation to apply an increasing rate. A taxpayer shall be exempted if their economic activity is of social, humanitarian or economic significance for Ukraine, in particular, but not limited to, if the business entity supplies goods, equipment and machinery that are not produced and have no analogues in Ukraine. The list of criteria according to which the business entity is recognized as having the right to exemption from taxation is established by the Cabinet of Ministers of Ukraine.
2. Obligation to recalculate taxes. A taxpayer is obliged to recalculate tax liabilities for all months of the relevant reporting (tax) periods, which fall on the period from the first day of the month in which the status of a business entity with economic ties to the aggressor state is acquired, until the last day of the month in which the notification of the acquisition of such status is submitted, without the application of penalties specified in subparagraph 50.1 of Article 50 of the Tax Code of Ukraine (5% of the amount of arrears).
3. Peculiarities of the simplified taxation system. A taxpayer who is a business entity with economic ties to the aggressor state is prohibited from being included into the simplified taxation system (single tax, single tax with the peculiarities of martial law).

Procedure for Obtaining the Status

1. The Draft Law stipulates that if a taxpayer has acquired the status of a business entity with economic ties to the aggressor state during the tax reporting year, they shall submit a notification to the controlling body on the acquisition of such a status within 60 days from the date of such acquisition, indicating the date of acquisition of such status. The notification form shall be approved by the Ministry of Finance. In this case, tax liabilities are calculated using the increasing rate, starting from the first day of the reporting (tax) period, which falls on the date of acquisition of such status.
2. A taxpayer who, as of July 1, 2022, meets the characteristics of a business entity with economic ties ti the aggressor state, is obliged to submit to the controlling body a notification within 60 days from the date of entry into force of this Law and recalculation of tax liabilities for the taxes specified by this law (the list is provided above), from March 1, 2022 on the basis of submission of clarifying declarations (calculations) with the application of the increasing rate, without the application of penalties.
3. Consequences of failure to submit a notification. If, as a result of tax control, the controlling body has established the status of a business entity with economic ties to the aggressor state, the increased rate is applied to all cases of calculating tax liabilities of the taxpayer (including the addition of tax liabilities by controlling bodies).
4. Implications for non-profit organizations. Acquisition by a non-profit organization of the status of a business entity with economic ties to the aggressor state is the basis for its exclusion from the Register of Non-Profit Organizations and accrual of a monetary liability for corporate income tax.
5. Liability for failure to submit a notification or submission of a report with inaccurate information, as well as non-application of the increasing rate if there are grounds for its application, is a fine of 1.5 percent of the taxpayer’s income (revenue) for each tax (reporting) period for which tax liabilities were to be determined using the increasing rate.

Cases When Actions Are Taken to Omit Such Status

The Draft Law also provides for the actions of the payer if they or their affiliates take actions aimed at omitting the status (for example, withdrawal of the entity or parent company from the Russian market, withdrawal from the entity of participants – citizens or legal entities, which are residents of the Russian Federation, etc.). The following is assumed:

If the taxpayer, who is obliged to submit a notification on the acquisition of the status of a business entity with economic ties to the aggressor state, has information about the beginning of legal action, which should result in loss of such status, the taxpayer shall indicate in the notification the expected date of loss of status with reference to the relevant grounds.

Such grounds, in particular, but not limited to, may be a public announcement by the governing bodies of an international group of companies that includes the taxpayer, or a decision of the founders and/or members of the taxpayer who is not part of an international group of companies to cease operations in the aggressor state.

Therefore, the taxpayer shall still notify of the status associated with the Russian Federation, indicating information about the planned omission of such status.

In case of providing such information, the taxpayer has the right not to apply the increasing rate when calculating the tax liability for the months of reporting (tax) periods, which fall on the period of 18 calendar months from the date of entry into force of the Law.

Peculiarities of Inspections

1. Provisions on a cameral inspection have been supplemented. The subject of the cameral inspection may also be the application of an increasing rate by a taxpayer who has submitted a notification of the acquisition of the status of a business entity with economic ties to the aggressor state.
2. Additional grounds for unscheduled inspections have been identified, namely:

• in case of receiving from the executive authorities, local governments, the National Bank of Ukraine, authorities of other states, international organizations or non-residents, other taxpayers, as well as based on the results of tax control, information indicating the possible status of the taxpayer as a business entity with economic ties to the aggressor state, provided that such taxpayer fails to comply or does not meet the requirement to notify the controlling body of such status, or that there are no grounds for granting the taxpayer the right to exemption from the increasing rate on the basis of the list of criteria approved by the Cabinet of Ministers of Ukraine;
• if the data contained in the tax returns submitted by the taxpayer is inaccurate due to non-compliance of the taxpayer with the requirement to notify the controlling body of the acquisition of such taxpayer’s status of a business entity with economic ties to the aggressor state, or reporting inaccurate information about the right to exemption from the application of the increasing rate on the basis of the list of criteria approved by the Cabinet of Ministers of Ukraine.

The duration of such inspections shall not exceed 90 working days.

1. The Draft Law provides for the cases of accrual of monetary obligations without compliance with the statute of limitations. A monetary obligation may be accrued, or proceedings in the case of collection of such tax may be initiated without observance of the statute of limitations specified by the Tax Code of Ukraine (total period of 1095 days) if:

• according to the results of an unscheduled documentary inspection conducted on the basis of determining compliance with these provisions of the legislation, the status of a taxpayer as a business entity with economic ties to the aggressor state was confirmed, and the fact of non-compliance or late compliance by such taxpayer regarding the notification of the controlling body about such status was established;
• according to the results of an unscheduled documentary inspection conducted on the basis of determining compliance with these provisions of the legislation, the fact that the taxpayer has no right to exemption from the increasing rate based on the list of criteria approved by the Cabinet of Ministers of Ukraine was confirmed.

1. Such inspections are not subject to restrictions on inspections in cases provided by the Tax Code of Ukraine. As such, they can be carried out during martial law as well.

In conclusion, the Draft Law may affect a wide range of businesses, especially companies which are part of international groups. Therefore, such companies should already decide on the actions that need to be taken to avoid obtaining the status of an entity associated with the aggressor state.