Imagine you are a foreigner who was employed by a Ukrainian company. Being a diligent corporate citizen, the company obtained a work permit for you, concluded an employment contract and made you obtain a temporary residency permit.
Assuming all steps for obtaining a work permit have been successfully carried out, the company usually feels confident enough to withdraw 15 percent Personal Income Tax from the salary paid to you.
Not bad for a foreigner, whose domestic law likely requires a significantly higher tax rate.
However, read on.
Until recently, the position of the tax authorities was that if a foreign individual is employed by a Ukrainian company, his salary is subject to 15 percent personal income tax. This approach was and still is based on the Ukrainian Personal Income Tax Law. A number of tax clarification letters confirmed this approach, including annual overviews on the taxation of foreigners’ income issued by the Kyiv City tax administration.
But the necessity of increasing the state’s revenue amid falling tax receipts during the recession has developed into a re-consideration of the position formerly taken by the tax authorities.
At the moment, a key criterion for applying the 15 percent tax rate to non-residents’ salaries is the obtaining of tax residency status by such foreigners. This worrying position was voiced by the State Tax Administration not long ago.
In the tax authorities’ view, the only way to become a tax resident (and to pay tax at the 15 percent rate) is to apply for an annual Ukrainian certificate of tax residency issued by the Ukrainian tax office. Still, this position of the tax authorities, as well as their current approach to the taxation of salaries paid to non-residents, could easily be challenged.
The Personal Income Tax Law provides an exhaustive list of criteria according to which an individual may qualify as a tax resident. Many of the criteria you may be well aware of, but I will take the liberty of reminding you: permanent place of residence in Ukraine; center of vital interest in Ukraine; spending more than 183 days in Ukraine in a calendar year
If even a single criterion is met, a foreigner can potentially qualify as a Ukrainian tax resident for personal income tax purposes. Either the individual’s own identification of his or her principal place of residence on the territory of Ukraine according to established legal procedure, or his registration as a self-employed person, constitute a sufficient basis for identifying an individual as a tax resident.
The law provides no indication of the necessity of applying for a certificate of tax residency.
Still, the tax authorities are rather insistent in their approach.
Clearly, a change of the approach to the taxation of non-residents’ salaries may trigger a wave of tax audits. As a matter of law, tax authorities will be able to check the three years preceding the tax audit, and the assessment may be rather significant.
Since Ukrainian companies are responsible for applying the correct tax rate, apart from underpaid taxes, they run the risk of being fined for up to 200 percent of underpaid taxes – to say nothing of the personal liability of the company’s CEO and chief accountant.
Obviously, the company can use all means envisaged by both by the law and administrative or court settlements and have a good chance of convincing the courts to apply the 15 percent rate, but the process is likely to be time and cost-intensive.
Unfortunately, there is no general remedy for all these situations. Having become a Ukrainian tax resident, an individual must report on his worldwide income unless otherwise specified by an applicable Double Tax Treaty.
In some cases, the domestic law of a non-resident does not allow him to change or obtain a different tax residency status. Sometimes, it is not in the interests of a foreigner to become a Ukrainian tax resident.
Nor can Ukrainian individuals feel safe in the current atmosphere.
Recent letters of the State Tax Administration describe a new opinion on the tax residency status of Ukrainian nationals. In their view, all Ukrainian citizens are tax residents of Ukraine and are subject to personal income tax, even if they reside abroad. As residents, they are expected to submit annual tax returns to avoid penalties for non-compliance.
Bearing in mind the above-listed criteria for acquiring tax resident status, the position of the tax authorities seems to invite challenge.
Obviously, an individual has more grounds for being a Ukrainian tax resident if he or she is a Ukrainian citizen. However, once a Ukrainian national has stayed abroad for an entire calendar year, he or she may qualify as a non-resident for personal income tax purposes, especially if his or her family has moved as well.
Moreover, in many cases a Double Tax Treaty between Ukraine and the country where the Ukrainian national lives should provide exemption from personal income tax in Ukraine.
In closing, it is expected that state bodies will become more and more creative in their attempts to levy taxes on all potential taxpayers of all legal categories, and taxpayers should correspondingly be ready to respond to ever-changing demands.
Andrey Pronchenko is an attorney at the Kyiv offices of PricewaterhouseCoopers, one of the so-called Big Four business consulting firms. His specialization is in corporate and labor law, tax and customs disputes. He may be reached at email@example.com.