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The Great Withdrawal: How $ 116 bln Were Withdrawn from Ukraine


Galyna Melnyk, Tax Lawyer at Ilyashev & Partners Law Firm
Source: The Liga

In the course of ten-year period Ukraine suffered withdrawal of $ 116 bln and this trend is still persisting. Galyna Melnyk, a lawyer at Ilyashev & Partners Law Firm describes the schemes applied to facilitate such withdrawal.

Global Financial Integrity has recently published a report entitled “Illicit outflow of capital from the countries”. The authors of the Report maintain the opinion that for a ten-year period (2004-2013) from out country more than $ 116 bln were transferred abroad.

The budget pie

It needs to be understood that intensity of the process of capital outflow depends on the overall situation in the country. In 2011-2012, for example, the most intensive stage of withdrawal could be related to the fact that, despite “Yanukovych family” being in power, there was an economic growth in the country. Ukraine was preparing itself to hosting final stage of Euro-2012, the vast majority of people were employed and there was a good flow of investments. It needs to be stated that the most active phase of outflow of Ukrainian capital funds abroad coincides with the period of sharp increase of the volume of the country’s foreign debt. For example, in 2008 the external debt of Ukraine increased by $ 20 bln., in 2011 – by $ 11 bln, and in 2012 – by $ 9 bln. This fact serves as a confirmation (although not direct) of the opinion that a part of transferred monetary funds included the money stolen from the state budget.

Offshore aid

The most popular legal scheme of transferring large-scale capital abroad is the use of offshore companies. To achieve such goals the companies resort to execution of loan agreements where residents of Ukraine act as the lessees and the lessor is represented by a person registered in country with low profit tax rate, as well as has an agreement on avoidance of double taxation with Ukraine (for example, Cyprus). As a rule the scheme with loans is used when Ukrainian business needs financing (for example, at the initial stage of company work – for buying assets, etc.). It needs to be noted that Ukrainian laws stipulate for the highest possible interest rate in the amount of 11% annually which allows transferring 11% of the amount of the loan abroad each year. The interest payments not only decrease the taxable base for profit tax in Ukraine, but are also taxed by the preferential rate of Ukrainian tax at source by virtue of the provisions of the agreement on avoidance of double taxation between Ukraine and, for example, Cyprus. It is notable that in Cyprus the tax load applied to the earned interest is decreased both by virtue of Cyprus tax rate being less than Ukrainian one, and by virtue of creation of expenses of Cyprian company for “classical” offshores (Belize, British Virgin Islands, etc.), for example, as payment for services and settlement of interest under the loans. Introduction of Cyprus as of an interim jurisdiction (instead of making direct payments for the benefit of the “classical” offshore company from Ukraine) is used for the purpose of application of the reduced rate of tax at source (in case of making a direct transfer to offshore company such rate would constitute 15%, as soon as settlement of interest in Cyprus is taxed only by 2% withholdings).

Royalty games

If business has existed for several years and there is no need to attract investment, Ukrainian companies quite often resort to the scheme of settling dividends. For this purposes a certain company registers a trade mark at the territory of a “classical” offshore issuing a license for its use to the companies established in the countries with preferential regime of royalty taxation, as well as have an agreement on avoidance of double taxation with Ukraine stipulating the reduced rates of tax on royalty repatriation. Again, Cyprus is one of such countries. The Cyprian company (owner of the rights for the trade mark on the basis of the license) issues a sub-license to the Ukrainian company. The rate of Ukrainian tax at source applied to royalty constitutes 5% (at the same time to the direct settlement of royalty the 15% tax at source is applied). Royalties, the same as interest, decrease the taxable base in Ukraine.

 Purchase of services

The companies also often resort to execution of the agreements with non-residents on provision of services. In particular, one may talk about ordering market research and settlement of agents’ services related to the search of new clients. Both options do not stipulate for settlement of VAT in Ukraine and allow increasing the expense base of the national (Ukrainian) companies. As a rule such services are provided by persons affiliated with Ukrainian companies. Among the disadvantages of such scheme is a legislatively established limit of the amount of such agreements: the mentioned amount must not exceed the sum of EUR 50 000 a year, otherwise the competent state authorities will have the right to perform an expert examination of the corresponding agreements (in needs to be note4d that such limitations are also applied to royalty).

Let’s all jump to offshore

It is notable that not only the companies in Ukraine have the possibility to transfer their money abroad, but ordinary citizens as well. To do this our fellow citizens may become a founder of an offshore company which will use one of the mentioned schemes. Formally, acquisition by the resident of Ukraine of a share in the foreign company is considered to be an investment abroad and requires obtaining the license of the NBU. It is quite easy to go around this obstacle: it is necessary to receive the shares of a foreign company on a free-of-charge basis. This procedure stipulates for the situation when a non-resident donates shares of a “dummy” company (cost of which does not exceed several Euros, thus relieving such person of the necessity to declare such donation) to the individual person. After establishment of control over this company it will further be used for implementation of the mentioned schemes of transferring money abroad. Profits accumulated at the bank accounts of offshore companies are mainly used for settlement of foreign expenses of Ukrainian citizens directly from the card accounts of the offshore companies (for example, substantiating such expenses by exercising by Ukrainian citizens of the representative functions on behalf of such company).

Modern history

It also needs to be indicated that outflow of capital was witnessed in 2014-2015 which were not studied by the authors of the report. In 2014 the active outflow of capital was related to the start of the conflict in Crimea and difficult situation at the parts of the territories of Donetsk and Luhansk Regions. At that time many of our citizens set themselves up to the most pessimistic scenario of development of the situation in the country. That is why outflow of capital was colossal. Well-to-do Ukrainians tried to transfer their money abroad regardless of great difficulties and, as a result, lost certain parts of their wealth.

Undoubtedly, the tendency of capital outflow will continue to persist. The country is in crisis and the decline of the economy is only fuelling peoples’ wish to transfer their money abroad. At the same time the nominal values of the transferred capitals will only decrease by virtue of the decrease of profits received by citizens and by companies as well. Further tendency of capital outflow will totally depend on development of the situation in the country.

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