Ostap Onyschko got a very unwelcome New Year’s present.
Because of changes to tax laws, he had to rush to cancel the registration of his mother-in-law as an individual entrepreneur. If he hadn’t, starting in January she would have been liable to pay tax, even if she wasn’t earning any income.
The changes to the law, which came into effect on Jan. 1, require individual entrepreneurs to make a social tax payment based on 22 percent of the minimum wage (now Hr 3,200 or $116), regardless of income. Before, under the simplified tax system, a person would have to pay taxes only on income. This status lets employers easily hire workers and pay a lower tax rate than they would on official employees.
The changes have prompted many to end their private entrepreneur status. Since the new law came into effect, 178,000 individual entrepreneurs have canceled their registrations, according to member of parliament Tetyana Ostrikova. Most had no income in 2016, she said in an op-ed published in the Segodnya online newspaper.
Onyschko doesn’t actually mind the change. He just wishes the authorities had given more notice. President Petro Poroshenko signed the law only on Dec. 27, leaving people like him scrambling to cancel registrations, or from Jan. 1 be liable to pay Hr 2,112 for the first tax quarter.
Another inconvenience is that for many there is no way to cancel registrations online. While Onyschko was able to carry out part of the process electronically, and his mother-in-law thus won’t have to pay the tax, he will still have to physically go to the place of registration to complete the process. For him, that means travelling the 230 kilometers from Lviv to Rivne.
Fill pension gap
The changes are designed to raise revenues to help reduce the pension fund deficit, which had risen to Hr 150 billion ($5.5 billion) by October.
The deficit widened after the cabinet reduced the individual social, or payroll, tax on official employees from 40 percent to 22 percent at the end of 2015. The tax cut was intended to reduce the size of the shadow economy by encouraging employers to officially declare all of their employees.
It hasn’t worked as expected.
Dmytro Boyarchuk, an executive director at think tank CASE Ukraine, said the aim of requiring minimum tax payments from those registered as individual entrepreneurs was “very straightforward” – to fill the pension fund.
But he said that nobody in government anticipated that people would cancel their private entrepreneur registrations in response.
A better way?
Alexey Gerashchenko, a lecturer at Kyiv Mohyla Business School, said that the payroll tax of 22 percent should be collected from every working person, regardless of their form of business activity. If every working person paid Hr 704, there would be enough money to pay minimum pensions to 12.2 million retirees, he said.
He said the government must make payment easier and more automated, for example “online, through the iGov electronic service portal.”
And Tymofiy Mylovanov, a co-founder of think tank VoxUkraine, said the changes “were a bad idea” because they require tax payments from low earners.
Western practice
Ukraine’s individual entrepreneur tax regime isn’t a common system in the West. In the United States, individual entrepreneurs run businesses as regular companies, paying taxes on them without claiming any tax benefits simply because they themselves are entrepreneurs.
But Ukraine is not the United States, and in some cases its system for encouraging entrepreneurship through offering tax benefits makes a lot of sense. Gerashchenko said the individual entrepreneur’s category –and the simplified system of only two taxes, payroll and income – encourages a range of sectors to attract workers, especially the information technology sector.
“It gives us a competitive advantage in IT,” Gerashchenko said.
“But when we become huge and strong, we won’t need it.”
