Ukraine’s new tax code is failing to bring the nation’s underground economy to the surface.
Coupled with general distrust of how public money is spent, rampant corruption, selective enforcement and inconsistent tax law interpretation, various estimates say that 30 to 53 percent of what the nation produces – some $50 billion to $80 billion – remains in the shadows, undeclared and untaxed.
The verdict comes on the heels of contrary assertions made by Ukraine’s chief tax collector, Oleksandr Klymenko, who said recently that tax revenue rose more than 35 percent in 2011 compared to the previous year. Klymenko also boasted that his agency has successfully begun reining in the gray economy.
“We have our work cut out for us. Pulling money out of the shadows will allow us to meet budget revenue targets,” Klymenko said in a televised interview on Feb. 1. “It doesn’t make a difference if this is big business, medium or small. But in practice these are large- and medium-sized businesses.”
The state tax administration didn’t answer a Kyiv Post inquiry before it went to press concerning the specific steps the agency is taking to bring the economy out of the shadows.
Enacted last year, experts said the new tax code is a step in the right direction of making life easier for businesses.
Additionally, commercial and tax accounting have been more closely aligned, and tax rates have been slashed across the board for companies of all sizes, according to Thomas Otten, director of Otten Consulting, which has advised German-speaking clients on Ukraine’s market for five years.
Still, experts say they haven’t seen a dramatic shift away from the gray economy. They say the tax code isn’t being administered and interpreted fairly by authorities, prompting businesses to stay underground.
“I believe that this is not necessarily due to poor conditions … within the tax code, but the fact that business of all sizes and nationalities are under increased, and often unjustified, pressure from the tax authorities in their attempt to fill government coffers during these difficult economic times,” said Jorge Zukoski, president of the American Chamber of Commerce in Ukraine, a leading business advocacy.
Kostya Solyar of Asters law firm
Zukoski said that, until the public perception changes about alleged quotas on tax collection, the “shadow economy will continue to thrive as there is little incentive to legitimize.”
Tax authorities say there are some 1 million registered entrepreneurs who benefit from the simplified tax system. Yet only big business in Ukraine run by influential oligarchs seems to be thriving.
This also appears to be the view of billionaire Dmytro Firtash, an ally of President Viktor Yanukovych who heads the Federation of Employers of Ukraine, which says it represents companies that control 70 percent of the economy and employ five million workers.
Firtash said this week that small and medium businesses account for only 10-15 percent of the nation’s gross domestic product. That is far below that in developed economies where this sector accounts for 50 percent or more of a nation’s GDP.
The World Bank’s 2012 report on the ease of doing business ranked Ukraine 181 out of 183 countries in taxes. According to the report, it takes on average 657 hours a year to meet tax compliance requirements.
Ukraine’s total tax rate as a percentage of profit stands at 57 percent, the World Bank said. Lawyers said the total tax rate is lower this year but isn’t doing much to pull money out of the gray zone.
One way to entice companies to pay taxes is to make it too risky to avoid paying them.
“If a business knows that they can’t get away by paying bribes, and they’ll be charged justified penalties, I think everyone will start thinking twice about not paying taxes,” said Kostya Solyar, senior associate at Asters law firm who co-heads their tax practices department.
Solyar said government needs to hire tax collectors who understand how the modern business world operates, eliminate penalty collection plans, interpret laws fairly and create fair and honest tax courts. Otherwise, aggressive tax optimization strategies will thrive no matter how business-friendly the tax code becomes, experts said.
Businesses evade paying taxes because they can, said Asters’ Solyar. Businesses find it more convenient to pay off a tax official than comply with taxes, he added. As a key evasion practice, the use of offshore jurisdictions to assist transfer-pricing practices is keeping money out of government coffers.
The government’s National Institute of Strategic Studies policy center said in a recent report that some $82 billion left the country between 2000 and 2008.
Smaller companies free up cash by having their employees register as private entrepreneurs, in turn enabling them to pay the smaller flat tax rate.
At times, entrepreneurs bill companies an amount that is paid in full, only to return all or some of the money under the table. “This is a widespread (small-scale) money laundering practice,” said Otten, the German tax adviser.
In the end, experts say, corruption is the main engine driving the gray economy, including public sector misspending.
“People don’t trust that their tax money will be used wisely. They see the government inadequately funding hospitals and schools yet purchasing expensive car fleets for themselves,” said Oleskandr Zholud, an economist with the International Center for Prospective Studies.
Kyiv Post staff writer Mark Rachkevych can be reached at [email protected].
