The offset of counterclaims may violate the requirement for the mandatory sale of foreign exchange earnings
Pepeliaev Group advises that the official explanation of the Bank of Russia on the issue of the mandatory sale of foreign currency earnings has been published[1]. It follows from the explanation that the fulfilment of obligations under export contracts in a way other than payment to an account with an authorised bank generally violates the requirement for mandatory sale.
1. Mandatory sale and repatriation
Decree No. 79 of the Russian President dated 28 February 2022 banned the crediting of foreign currency by residents to their foreign accounts and introduced the mandatory sale of 80 % of foreign currency earnings credited to accounts in authorised banks.
As of the beginning of 2022, the obligation to repatriate foreign exchange earnings under export foreign trade agreements concluded or executed in foreign currency was partially abolished[2] (it was retained only for the export of certain types of raw materials), which included it being abolished when services were provided and works were performed. Instead, an obligation was introduced to ensure the termination of obligations using methods permitted by Russian law[3]. This meant the possibility of fulfilling obligations under such contracts using another method, for example, by offsetting counterclaims.
Since the repatriation of proceeds is a tool that ensures the mandatory sale of foreign currency, the question has arisen naturally of whether the provisions of Decree No. 79 mean the restoration of the obligation to repatriate. So far, the provisions that directly restore this obligation have not been adopted. Clause 2 of Decree No. 79 refers to the mandatory sale of foreign currency “credited to accounts with authorised banks on the basis of foreign trade contracts”, and not “payable to accounts”.
The Bank of Russia on 4 April 2022 explained that:
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“In a systematic relationship, these provisions of Decree No. 79 imply the need to credit all export foreign exchange earnings to accounts opened with authorised banks for the purpose of their subsequent mandatory sale. Therefore, the fulfilment of obligations under foreign trade export contracts is possible by crediting funds from non-residents to bank accounts with authorised banks or without crediting funds to bank accounts with authorised banks in cases provided for by clauses 2, 4, 5, 7, 9, 11 and 13 of Part 2 of article 19 of Federal Law No. 173-FZ dated 10 December 2003”;
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“The provisions of clause 2 of Decree No. 79... as well as the provisions of clause 3(b) of Decree No. 79... apply to all foreign trade export contracts and do not contain exceptions for foreign trade export contracts, the repatriation requirement for which has been abolished from 1 July 2021”.
The explanation names cases when funds may not be credited to accounts with authorised banks - these are all permitted cases of offset from article 19(2) of the Law on Foreign Exchange Regulation (in the field of fishing, international transportation, reinsurance, etc.). Among the permitted exceptions, the situation of payment by non-residents of local expenses of residents during the construction of facilities outside the territory of the Russian Federation is also named (within the meaning of Decree No. 81[4], the resident must also receive permission from the Government Commission for such crediting to a foreign account). Other exceptions to article 19(2) of the Law have not been specified in the Bank of Russia's explanation.
It follows from the explanations that in all other cases not named by the Bank of Russia, export foreign exchange earnings should be credited to accounts with authorised banks.
Therefore, the fulfilment of the obligations of a non-resident using other methods than payment to an account with an authorised bank (including by setting off counterclaims) will violate the requirement for the mandatory sale of foreign exchange earnings.
This official explanation of the Bank of Russia is binding throughout the Russian Federation[5].
2. Liability if the requirement is violated
Currently no liability is established for a failure to fulfil the obligation to sell foreign currency earnings. Previously, the corresponding fines were provided for in article 15.25(3) of the Russian Code of Administrative Offences, their amount ranging from 75 % to 100 % of the unsold amount of foreign exchange earnings.
When setting off counterclaims, there is also no reason for a fine under article 15.25(1) of the Russian Code of Administrative Offences, since there is no foreign exchange transaction.
In such a situation, we are talking about the risk of liability being imposed article 15.25(4) (or under article 15.25(5.2)) of the Russian Code of Administrative Offences for the non-repatriation of earnings. It can be imputed that since there is a rule on compulsory sale, it means that the corresponding amount of earnings must be repatriated for this; therefore, the fulfilment of obligations using other methods entails non-fulfilment of the requirement for repatriation.
What to think about and what to do
We recommend checking the operations performed under foreign trade export contracts for compliance with the rules for the sale of foreign exchange earnings.
Help from your adviser
Pepeliaev Group's lawyers have successful experience in representing residents before currency control authorities and courts. They are ready to assist in identifying risks of a violation of currency legislation when you enter into contracts with non-residents, as well as in providing other necessary legal support on issues related to the application of currency legislation.
[1] Official Explanation No. 3-OR of the Bank of Russia dated 4 April 2022 “On the application of the Provisions of Decree No. 79 of the Russian President dated 28 February 2022 “On the application of special economic measures in connection with the hostile actions of the United States of America and foreign states and international organisations that have joined them” and Decree No. 95 of the Russian President dated 5 March 2022 “On the temporary procedure for fulfilling obligations to certain foreign creditors”.
[2] Part 8 of article of Federal Law No. 173-FZ dated 10 December 2003 “On currency regulation and currency control” (introduced by Federal Law No. 223-FZ dated 28 June 2021).
[3] Article 24(4) of Federal Law No. 173-FZ dated 10 December 2003 “On currency regulation and currency control”.
[4] Clause 1(b) of Decree No. 81 of the Russian President dated 1 March 2022.
[5] Clause 13 Decree No. 95 of the Russian President dated 5 March 2022.
[6] Article 2(4) of Federal Law No. 265-FZ dated 2 August 2019.
[7] Clause 2.4 of Letter No. VD-4-17/12881@ of the Russian Federal Tax Service dated 10 August 2020.
[8] For example, the Decision of the State Commercial Court of the city of Moscow dated 10 August 2021 in case No. A40-110908/21, the Resolution of the Ninth State Commercial Court of Appeal dated 21 July 2021 in case No. A40-45111/2021.
Under rouble agreements, the obligation to repatriate was partially cancelled back in 2020[6]. But under such agreements, the local tax authorities, contrary to the explanations of the Russian Federal Tax Service[7], interpret the provisions on the abolition of repatriation in such a way that repatriation is cancelled (in full or in stages) only for the export of non-raw material goods and certain types of raw materials, but not for the provision of services or work. Currently, the tax authorities are forming appropriate court practice[8].
For this reason, the abolition of the obligation of repatriation is now actually preserved only for rouble contracts for the export of certain types of goods.