The President’s address of 23 June: tax measures

So far the existence of a “flat” tax rate in Russia has been grounded in the state authorities’ fears that individuals’ income will fall into the shadows once more. Apparently, modern conditions allow this threat to be disregarded for the sake of the interests of the state budget. However, the President’s statement that the tax increase is purpose-oriented raises questions, since our legislation does not provide for any purpose-oriented taxes. All of the collected taxes are distributed in accordance with the rules set out in budget legislation. Therefore, either budget legislation will be amended with respect to the additional 2% of personal income tax, or the reference to children was merely a rhetorical device which should not be understood in its literal sense.

It is also worth pointing out that any progressive taxation causes difficulties in tax administration. While at present tax is almost always withheld at the source of payment, progressive taxation requires a tax agent to monitor whether the established threshold (5 million) has been exceeded. It is obvious that in the event an individual generates income from several sources, tax agents will have to follow a more complex procedure for calculating tax. This should result in new provisions being included in the Code to regulate the procedure for tax agents to calculate personal income tax or in larger-scale changes being made to the tax payment procedure providing that, for instance, individuals should declare the entire income they have generated and pay the tax by themselves. However, it is fairly possible that the mechanism for tax to be paid on interest on bank accounts and deposits (based on the notices from tax inspectorates and without declaration) to be introduced from 2021, will apply to all the income of individuals. Actually, the information the tax authorities have regarding individuals’ principal income is enough for the tax authorities to be able to calculate the tax and file notices similar to those concerning property taxes. In this case, the mechanism for individuals to declare and pay taxes independently may be retained only with regard to specific types of income which are not within the scope of the Russian Federal Tax Service’s control, for instance, income from other individuals.

This part of the President’s speech is quite unclear. Current legislation (article 23(1) of the Russian Civil Code) does not prohibit individuals under 18 from using the regime for self-employed individuals, which for example is directly set out by the Russian Federal Tax Service (letter No. SD-4-3/2440@ dated 13 February 2019). Restrictions apply only to the types of activity that require mandatory registration as an individual entrepreneur. “Young entrepreneurs” may perform such types of activity only when they obtain full legal capacity (from 18 years of age) or, in specific cases and under a specific procedure for which the Russian Civil Code provides, starting from 14 years of age.

It looks as though the only thing to be done for the President’s promise to be implemented is to amend the Russian Civil Code and simplify the procedure for obtaining full legal capacity for those individuals who are 16 years of age or older and who are engaged in entrepreneurial activity. For example, it could be recognised that the requirement for parents to provide their consent or for children's services to provide a relevant decision is not mandatory (article 27 of the Russian Civil Code).

The huge volume of legal provisions introduced into the legislation from 1 January 2015 seem to have proven ineffective. Indeed, it is complex in terms of administration, since it requires serious cooperation to be maintained with the tax authorities and information to be received from abroad and then processed. Although at present, in the age of high technologies available to the Federal Tax Service when the information exchange process is well organised, such administration should not have become such a problem for the Federal Tax Service. Possibly, the issue is that despite all of the options available to the Federal Tax Service, the amounts of taxes collected have appeared to be too small in practice. The reasons for this may be plenty: the specifics of the drawing up of financial statements in accordance with international standards, numerous (however well-grounded) exceptions, high thresholds, significant administrative and other costs of identifying the underpayment of taxes, the efforts of the state to encourage the closing of CFCs and business being relocated to Russia.

Therefore, the introduction of an annual payment instead of “extra” reports will possibly become a development that may attract some CFC owners (with fairly significant undistributed profit from CFCs of at least RUB 40 million approximately) and make life easier for them and for tax authorities.

However, this part of the President’s speech also raises many questions. First of all, is the amount of RUB 5 million payable for one CFC or for all CFCs at once? Rarely does a structure include only one CFC. Also, a complete absence of any restrictions should hardly be expected. Otherwise, society would perceive this as a serious indulgence for industrial magnates accumulating at the level of individual CFCs profit which significantly exceeds RUB 40 million. And there is hardly any possibility that no reports will be required. Otherwise, how are the tax authorities supposed to make sure that all the conditions and restrictions are met?

So, it appears that a draft law will follow containing much of interest.