The Ukrainian Week discussed the government’s fiscal and tax policies and their impact on the Ukrainian business environment with Vyacheslav Cherkashyn, a senior tax analyst at the Institute of Social and Economic Transformation. “In April 2022, the Ukrainian government announced that many business support initiatives introduced before the Russian invasion would be in effect until the war’s end. People began to plan accordingly. Some managed to secure foreign investments. Suddenly, earlier this summer, the authorities announced they’d abolish the business’s ability to choose a 2% tax rate,” says Cherkashyn. “In addition, they resumed business inspections. In Ukraine, such inspections were curbed back in 2020, during the height of the coronavirus pandemic. In other words, now businesses are being asked to operate under the conditions that were in place before the full-scale invasion”.
At the beginning of the full-scale invasion, the VAT and customs duties on all imports were abolished to support businesses in Ukraine. Companies could switch to a simplified taxation system, with a single tax at a reduced rate of 2%. Once martial law was imposed, the government offered tax holidays and cancelled business inspections. However, starting on 1 August 2023, the state re-introduced the pre-war taxation system. 239 MPs supported such a bill.
“Before August, there were 11,000 legal entities subject to the 2% tax. The other 80,000 were small businesses that had switched from a 5% to a 2% tax rate when the simplified taxation system was introduced”, says the analyst.
Currently, due to the abolition of preferential tax rates, the tax burden has increased 2,5 times. The return to the pre-war taxation system has likely contributed to an increase in the shadow economy.
However, it’s challenging to provide precise assessments at the moment. Firstly, there hasn’t been enough time for a comprehensive analysis. Secondly, we see a positive trend in registering sole proprietors. In reality, we have more small businesses, especially startups, than before the full-scale war.
According to Vyacheslav Cherkashyn, the most painful changes are being experienced by small and medium-sized businesses that had already been operating before the Russian invasion. Newly established companies face significantly lower risks. At the same time, providing a 2% simplified tax rate on turnover for large businesses is an inappropriate preference. Even at the beginning of the full-scale war, despite numerous challenges, large businesses could afford to pay standard taxes and contribute to the state budget.
“There are talks of the International Monetary Fund (IMF) demanding increased tax rates. In reality, the IMF doesn’t care how we fill the budget gaps. Claiming that the abolition of the simplified tax system is a demand of the IMF is simply not true”, said Cherkashyn in the conversation with The Ukrainian Week.
He says value-added tax and corporate income tax have not been abolished. “In April 2022, businesses were allowed to choose between staying in the general tax system with an 18% corporate income tax and a 20% VAT rate or switching to a simplified system with a 2% turnover tax. However, the second option was chosen by those who didn’t need VAT. Otherwise, companies wouldn’t be able to sell their goods without this tax. Now, there is no longer an option to switch to the preferential 2% rate. Businesses independently choose which group of taxpayers they want to be part of (there are four groups of single-tax taxpayers). The first and second are only for sole proprietors. The third group can include both sole proprietors and legal entities. The fourth group comprises agricultural producers”.
In reality, the Ukrainian tax system is one of the most convenient tax systems in the world, says Cherkashyn. Businesses can manage all of their financial reporting online through the Diia App (a digital governmental system allowing ID verification and paying taxes, among many other things). “At the same time, we shouldn’t hinder businesses. It is important that Ukraine stops administrative excesses related to VAT and mass blocking of tax invoices. There is no widespread tax evasion in Ukraine”, says Cherkashyn. “Losses from the simplified system aren’t so enormous that switching to the 2-17% scheme suggested earlier in Poland is a good idea. This scheme proposes tax incidence depending on the industry, with the highest taxes imposed on IT specialists and accountants. The only advantage of such a system is that it allows an annual turnover of up to €2 million for each type of allowed activity. In the past, Ukraine had a third group of taxpayers, contributing 10% of their turnover instead of 5%. During its heyday, it had 3,000 taxpayers, mostly IT specialists. It lasted for only six months due to its inefficiency. Now, the proposed 17% rate is utterly unrealistic”.
If the state must accumulate additional funds, then tax rates can be slightly increased. I’m talking about a minor adjustment. For instance, it’s feasible to raise the tax rate for the third group of single taxpayers from 5% to 7%. Entrepreneurs would likely understand such a decision given the ongoing war.
When asked about the reasons for the simplified taxation system, tax holiday, and suspended business audits introduced in 2022, Cherkashyn asserts that at the beginning of the war, the tax reform was aimed at helping small and medium-sized businesses to survive and continue operating during the course of an ongoing war. “The conditions were simple: if you can report, do so; if you can pay taxes, please pay them. Ukraine’s Western partners were also quite understanding of these innovations. Even today, two out of three businesses that were operating before February 24, 2022, are still active. In other words, some 33-34% were unable to resume their activities”.
“As for voluntary tax payments during the tax holidays, the dynamics are also positive. From January to September 2022, the increase in payments controlled by the tax authorities amounted to UAH 107,9 billion. In just nine months of 2023, Ukrainian businesses and citizens paid an additional UAH 71,8 billion”, says Cherkashyn. “So the question is: why reintroduce inspections? Wouldn’t it be better to notify companies, for example, by letter, that salaries are too low? Official payments need to be increased. I am confident that 95% of companies will review their employees’ salaries. However, I am only talking about small and medium-sized businesses. It goes without saying that large taxpayers, big businesses, need to be audited”, says the analyst.
According to him, access to affordable loans and grant programs is probably the best thing that has been done for Ukrainian businesses in terms of state economic policy in two years. Such support has allowed many people to start their own businesses even during the full-scale war. However, Ukraine’s Western partners may insist on curtailing such programs due to a lack of funding. In that case, it makes sense to assist businesses differently — for example, the government may exempt specific categories of small businesses from the obligation to fiscal receipt printers. “We need to define the category of high-risk businesses for whom cash registers are mandatory. This would include businesses selling alcohol, medicines, electronics, jewellery, etc. However, the second group of single-tax taxpayers who do not have employe permanent stuff and do not sell high-risk goods can do without cash registers”, says Cherkashyn.
According to the expert, the claim that business taxes will not increase actually misleads people: “In the next year’s budget, a higher minimum wage and minimum income level have been included. Moreover, the size or increase of the unified social contribution (the amount paid by the company under civil agreements to individuals) is linked to the minimum wage. In other words, the government is proposing to collect an additional UAH 1,43 billion UAH from the most vulnerable segment of taxpayers – micro businesses. These changes will affect nearly 800,000 Ukrainian entrepreneurs”.
