Archive for August 12th, 2011

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Staying with the subject of tax – this time in Ukraine – and collection

August 12, 2011

Now I am not going to get into the good, bad and indifferent aspects of the new Tax Code, suffice to say all three are represented in it just as they are in all taxation systems in every country. There is no perfect tax system and to be honest, the longer the system has been in place, the more complex it becomes.

Let us however look at the ability to collect tax and thus the revenue the Ukrainian government generates from it.

I do not want to run off at tangents over the fact even most government officials dodge taxes no different to the Ukrainian public. Which parliamentarians don’t use tax loopholes to their advantage in any nation? Which businesses don’t?

Writing the new Tax Code and passing it into law is all very well but like many laws in Ukraine, it is the enforcement of it, or lack or/sporadic/selective application of it that is the problem.

Government can pass a law that my hair (what is left of it) should be dyed bright blue, but if nobody enforces it, when I don’t do it, what is the point of the law?

The previous tax laws, whilst archaic, suffered from the same lack of enforcement as the new laws probably will. Even when they are enforced, agreements defrauding the State coffers between society and collecting agency will undermine the structure of the State and the rule of law.

using very crude mathematics and guesstimated numbers, Ukraine has about 45 million people. Something like 18% will be too young to pay tax and about the same number will be pensioners. On that basis, somewhere between 60% and 70% of Ukrainians are of working and taxable age. Of that working age group, there will be a percentage that work abroad (legally or otherwise) and have no tax liability in Ukraine should bilateral tax agreements exist with the nations in which they work.

To make the numbers easy, having discounted 36% of Ukrainians being too young or too old for taxable purposes, we will say 4% work abroad and are also not eligible for tax by Ukraine. We have now removed 40% of the population, or 18 million people.

The remaining 27 million, should they actually be employed, would be working and therefore taxable in Ukraine. However the official unemployment rate is Ukraine is about 9.5%. As the official rate is nowhere near the real rate due to the bureaucracy of actually registering as being unemployed, it is significantly more.

For ease, we will call it 10% (but it could well be 20%) and remain close to the official figure, thus we deduct a further 2.7 million taxpayers from the mix.

This leaves us now with 24.3 million taxpayers. Then we now add into this mix the official estimate of between 2 and 4.7 million workers being paid in cash (and thus not paying any tax). As this is the official estimate, it is very likely to underestimate the problem so it is better to use the worst case scenario from the official figures.

That means a massive 19% of those 24.3 remaining taxpayers are not paying tax, or to look at it another way, after all the deductions from the national demographics, we have now remaining 19.6 million Ukrainians supporting 45 million Ukrainians.

We are now on 43.5% of the nation supporting 100% of the populous via direct taxation and discounting outside governmental income sums as export levies etc.

Of this 43.5%, almost all, as I said at the start will not pay anything like the tax they should pay. Based on empirical (but somewhat slip-shot) observations over the many years I have been here, I can honestly say I don’t know of a single Ukrainian who pays more than half of what they should. Quite often they pay 10% or less.

This became very clear to me when selling commercial and industrial real estate here prior to the crash. Everybody has two sets of accounts. One for the tax authorities and one real set of accounts for the owners and prospective buyers. All prospective sellers insisted on Non-Disclosure Agreement contracts with any potential buyer to prevent the release of the genuine accounts to the Ukrainian authorities by potential buyers.

To be quite liberal with the figures (rather than realistic) those remaining 19.6 million taxpayers will pay 30% or less of what they should. Adjusting that to a populous figure paying what it should remove another 5.88 million taxpayers from the mix, leaving about 13.7 million people to support 45 million via direct taxation.

With the exception of foreign companies who are easy targets, one would imagine that at most 30% of due corporate taxation is actually paid as well.

Another problem is that some state pensions are exponentially higher than the average Ukrainian income even if taxed effectively and correctly.

The fact that even the most conservative estimates also place 60% of the Ukrainian economy in the cash/black economy cannot be overlooked either.

Now I know for a fact that the Ukrainian government and another sovereign nation are in deep discussion relating to a pragmatic solution to tax collection. Expertise is being offered and discussion is on-going as to how, if that expertise is accepted, solutions will manifest themselves. With parliamentary elections next year, “when” will also be a consideration as no doubt a proactive collection campaign coordinated by foreigners behind the scenes, is best left until the electorate have spoken if reelection is a priority.

The questions therefore are not only how to break the cycle but when to break it. Regardless of whichever party is in government, this issue has to be addressed both urgently and rigorously over the next few years. maintaining the status quo is simply not an option for much longer.

Ukraine doesn’t need to raise its taxes, it simply needs to collect those it has imposed from all those who actually work. If it did that, it could probably lower its taxes dramatically!

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