“Economic Truth”: Interview with Serhii Velanov the Chairman of the State Tax service of Ukraine
Chairman of the Tax service Serhii Verlanov. Why it is necessary to leave more money to citizens and what taxes should be reduced
Chairman shared with ET his thoughts regarding the process of the STS transformation, who does not pay dividends to the state and how to implement the ambitious plans of the Ze! Team.
If to consider the number and attempts to reform the tax and customs over the last ten years, it is possible to go astray. Each government tried to find the best option, and some members of the Cabinet even made several attempts.
Now, after five years of working as a single entity, the tax and customs are being separated. Responsible are the new heads of the State Customs and Tax Services Maxym Niefedov and Serhii Verlanov.
They were appointed under the guidance of Minister of Finance Oksana Markarova. Verlanov was her deputy in the tax sphere. Still the intrigue about the future work of the new services was concerned whether Markarova would remain as a Minister of Finance. Markarova has stayed, so it will be easier for the heads of the new services to find political compromises.
ET spoke with the STS Chairman about the reformation process, what he thinks about Ze! Team’s tax initiatives and whether he can fulfill task about the budget.
The Tax service’s reformation
- How is the process of the SFS split? What has already changed after you headed the service?
- We have done a lot. In particular, registered legal entity and territorial departments, approved the structure, staff, budget, transferred more than 30% of employees to the new service. It took just over three months.
On the 21st of August 2019 the Cabinet of Ministers adopted Order on the assignment of functions in the sphere of tax administration to the STS. This means that all tax issues and tax administration will be handled by the newly created Tax service.
- You planned to transfer about 70% to the new service.
- As of the key departments, we do the day-to-day transferring. That is, “today and tomorrow” all auditors, administrators will be transferred. A number of changes have been made in the structure of departments. For example, we have created Tax Administration Department. Previously, different units managed individuals and legal entities, now these functions are concentrated in one department. Administration function should not suffer in the process of transfer, because the SFS accepts reports, checks them, controls the payment of taxes. Another reason why this process is time-consuming is the HR screening. We work with the law enforcement. We send them requests and receive information.
- What percentage has been screened out?
- This percentage can be discussed after the launch of the State Customs Service. Then it will be clear who left and who stayed. I can already say that the number of tax employees will decrease.
- How many corrupt officials have you found and fired?
- I chose the other way. For positions of acting commissioners I have temporarily appointed the deputies of all former territorial departments of the tax service to their former heads. Their main task is to register the STS legal entities in the respective areas, transfer employees, get started.
Then we will announce open competitions for positions of the heads of territorial departments. It will not be the case that in one area head will be appointed promptly and in another area - not. One and the same approach will be everywhere. As for now, any head has been appointed. The STS functions will change because we have approved the structure based on the functional principle.
- What does it mean?
- I will shift the STS work towards preventing the fiscal risks, focusing on a unified approach to identify them. Currently, these competences are also scattered. One department looks after the risks in the audit, other looks after the risks with the VAT refunds, and the third looks after the risks in excise direction.
We have brought together the Revenue and Risk Department into one powerful analytical center. It will be headed by Dmytro Serebrianskyi from the Ministry of Finance. The same approach will be applied to audits. Previously, audits were carried out by the transfer pricing and audit department. We combined them into one.
- According to your calculations, what optimal number of the STS staff should be?
- Now it is defined by the Resolution of the Cabinet of Ministers: 1 618 persons - at the level of the central apparatus and 28 252 persons - at the level of territorial departments. Right now it is difficult to answer what the number of staff will be, since the fate of the tax police after the reform remains unknown. Today the tax police consists of 5 thousand people.
- Earlier, there was an idea to create five-seven territorial tax authorities across the whole country. What about these intentions?
- With Maksym Niefodov (Chairman of the State Customs service – ET) we are working on the way how to implement the concept of a single legal entity. In the course of this work we consider different options, different stages. It is possible to do everything at once: create a single legal entity with separate branches in the oblasts, but this can be done with the proper development of electronic services.
It is possible to do everything gradually. Again, this is an equation with many unknowns. We hear statements about intensifying work on the reform of the administrative and territorial system. This is a factor that must be taken into account, since if the number of administrative-territorial units would be radically reduced, it will also affect the structure of all authorities.
When we started to realize the concept of a single legal entity, we found out that there was a whole layer of legislation that needed changes. I am referring to the sectoral legislation that regulates labor and financial relations, business trips, execution of public service, work of the regime-secret unit.
- When will you start appointing heads of territorial departments?
- After completion of the staff transferring and stabilization of the everyday work. Now there is information about changes to the civil service law. Let’s see what they will be like. On this basis, we will announce the competition and hire employees.
- What about the tax police?
- We are actively communicating with Office of the President, the Ministry of Finance, the National Security and Defense Council of Ukraine and the new Committee on Finance, Tax and Customs Policy regarding the prospect of adopting a separate law on the Financial Investigation Service.
Tax police will not be a part of the tax service. Its pressure on business is not something that has to be associated with the activities of the new service under my leadership.
- When will this bill be approved?
- It is a priority. I think the specifics will appear within a month.
Why the state suffers from the tax evasion and who does not pay the state dividends
You headed the STS in May. Since then, the state budget has started to suffer from tax evasion. What are you going to do about it?
- In general, we maintain execution of the plan. In January-July we have executed the amount of 102%.
- No, you don't. You have failure in execution of the excise taxes, rents, VAT.
- This is in the context of particular individual taxes but in general we are executing the plan.
We have a minus in the excise taxes due to the decrease in tobacco production. There is also a shortage of the VAT due to the higher rates of compensation to exporters than is prescribed in the list. This is connected to the documentary checks of the claimed amounts at the end of 2018 as a part of measures on prevention regarding the minimization.
Revenues from the income tax (104.9%) and PIT (105.9%) are higher than planned. Revenues from the share of state-owned enterprises are also high.
- “Energoatom” and “Ukrnafta” have not transferred their shares.
- “Energorynok” does not pay to “Energoatom” andin its turn company does not pay to the state. We work with “Energoatom” but it’s not just about it. “Energoatom” is a question of 1.7 billion UAH. The problem is that the planned revenues from “Naftogaz” were also different.
- What is wrong with “Naftogaz”? Company recounted its share.
- “Naftogaz” paid 12.5 billion UAH of dividends and according to the initial plan it UAH 19.4 billion UAH, as they formed additional reserves according to the audit results. In addition, the company paid less than expected of the VAT. This was due to lower gas prices and lower imports.
Probably, in terms of the gas market, these are normal phenomena. I am not competent to comment on their financial plan. I’m talking about the actual facts.
- Why “Ukrnafta” doesn't pay the dividends?
- Dividend distribution is the owner’s decision. Because the owner’s decision is not made, they do not pay. This question can also be addressed to those who manage the state share. (50% + 1 share is owned by “Naftogaz” - ET).
Concerning the implementation of the tax revenue plan, we look at the final figure and the final figure is 102%. In the case of rents and excise taxes, these are fiscal risks that are into consideration and prediction.
Reason for the failure in fulfilling the VAT plan is the need to reimburse it for the results of the end of 2018 inspections. We had to pay back 8 billion UAH in January 2019. This is affecting budget execution so far. We have had good VAT dynamics since the beginning of the year, although there are risks that will have to be recovered.
- Why?
- VAT is the number one issue at the end of 2019. There are two reasons: minimization and VAT refunds.
Second risk is the excise duty tax. In January-July 2019, the excise duty tax collection has amounted 8.8 billion UAH. The biggest share of this shortfall falls on the tobacco excise duty tax. After indexation of excise duties, the situation has slightly improved since July. We see a relatively positive trend, but closer to the end of 2019 this risk remains.
This risk needs to be addressed at the time of planning budget for the 2020; counterfeiting and the shadow market for cigarettes should be tackled.
- About “shadow” and counterfeiting: what changes and what doesn’t?
- The Ministry of Finance has instructed you to deal with the shortage of excise duties. How will you act?
- The Ministry of Finance instructed to analyze the state of the market and update plans for combating the production and sale of the counterfeit and products of unknown origin. In particular, it is planned to strengthen the control measures.
The Ministry of Finance also issued a draft decision approving the plan of measures to implement a strategy to combat the illicit production and turnover of tobacco by 2021 for the Government’s consideration.
In addition, the SFS introduced a system for electronic administration on the sale of fuel and ethyl alcohol in July. The purpose is to ensure a transparent control over its turnover and to avoid excise the tax evasion.
System of measuring costs in “Ukrspirt” and distilleries will work starting from October. All ethanol producers must install meters at the places where alcohol is received and shipped.
Flowmeters should be registered in the Unified State Register of flowmeters. These meters form and transmit the data regarding the shipment of alcohol electronically to the controlling authority – such method will strengthen the control of alcohol turnover and de-shadowing of the market.
With regard to tobacco - we will check all manufacturers of tobacco products.
- Including Lviv Tobacco Factory?
- Yes, as well as factories in Zhovtykh Vodakh in Dnipropetrovsk region. There is work to be done in Lviv and Zhovtykh Vodakh. I will check all the details regarding these taxpayers in the context of the reports that are being heard regarding the counterfeit excise duty stamps under the cigarette brands, production of tobacco products in general without stamps.
The third significant fiscal risk is related to the rent. The price of gas has decreased. In calculating the rent for 2019, the following gas prices for the population were taken into account: up to May 1 – 6.236 UAH per thousand cubic meters, since May 1 – 7.185 UAH. However, in January-June 2019 the average price was 5.964.4 UAH in July – 4.811.63 UAH.
Production is also decreasing. It’s simple math. In the law on the state budget, production was planned at the level of 18 billion cubic meters and according to the results of the six months 2019, we have 7.5 billion cubic meters. 7.5 will be multiplied by two - it will be 15.
- What can be the shortfall of rent at the end of 2019?
- From 5 billion to 8 billion UAH. Four months left. We’ll see.
- Considering these risks, is it worth to review the budget in the fall?
- Let’s take one of the factors of budget’s failure - strengthening of UAH. On the one hand, it leads to a shortfall in import taxes and, on the other, to a reduction in public debt service costs.
Whether it is necessary to review the state budget for 2019 or not, it will be seen from the balance sheet. If the balance will be “beating” then it should not be adjusted, but if “minus” will be significant, then it should be. This issue is currently under discussion. I think the new government will decide this.
- The Ministry of Finance planned to tighten the tax control over the number of wells and suspend special permits for the use of subsoil due to the non-payment of rent. Who is affected by this and how big is the rent debt?
- Yes, the Ministry of Finance suggests increasing the tax control functions of the STS by the number of wells from which gas is extracted. In particular, the issue is the provision of passports for all wells, as well as the suspension of special permits for the use of subsoil due to the non-payment of rent.
We have the rent tax debt on the use of subsoil in the amount of 16.6 billion UAH. The biggest share is by “Ukrnafta”. We will work with “Ukrnafta” - this is a very long story.
- Your predecessors also tried to work this issue out, but the debt kept only growing.
- Let’s put ourselves in the place of “Ukrnafta”. You have this debt on your balance sheet. Is an enterprise with such debt is attractive or unattractive for the investor or the owner? I think without this debt it would have been more attractive. Issues must be resolved. We will seek consensus with the owners of “Ukrnafta”.
- System of electronic administration on the sale of the fuel and ethyl alcohol has been launched since July 2019. Our fuel market is shady and counterfeit. What are your first impressions about the new system and what are the results?
- I would like to thank all the representatives of the state authorities who worked for the implementation of this idea. On the eve of the system launch, we have adopted a huge array of regulations. Administrators set up the system at night. Methodologists also worked overtime. The whole July was devoted to the implementation of this system of administration.
Now all the issues are largely resolved, the system works. 2 800 entities received 9 648 licenses for the fuel operations.
What do we see? We see that in spite of the fact that NBU’s average official rates decreased by 6.3%, the excise tax revenues of the fuel have increased by almost 2% in July 2019. This suggests that the system has at least mobilized all market’s players. We are able to keep them in accounting.
- Head of the State Regulatory service Kseniia Liapina criticized the system and offered to delay the start-up because small businesses were “not ready”.
- There were suggestions to cancel the system. I wouldn’t do that. Payment of fines has been deferred until October 1, 2019 and a compromise can be found. For example, to extend this period until the end of 2019. You need to look at how the system works, determine the effect from a certain distance, not a month and only then decide about the changes. We have already implemented the system, we should not cancel it.
- When the VAT electronic administration system was introduced, white and fictitious tax particles were crystallized. Are you saying that 2% growth is the limit of a fictitious excise tax on fuel?
- No, this is absolutely not the limit. When we’ll “measure” the market, then we can know the depth of growth. All of these comments that we have X percent in the shadow are estimative judgments. I think one quarter will be enough to assess the situation. So far we have one figure and it’s not enough.
- Regarding the plans of Ze-team. Tax amnesty and more.
- Let’s talk about new government initiatives. “Ze! Team” offered to make a one-time declaration. In what scenario is it possible?
- A one-time declaration is when people who have earned something and failed to pay taxes declare this amount and pay a certain percentage of it.
- What percentage?
- Percentage is a minor issue. Important thing is that when they pay this amount, the state will forgive them a few things. First, is that the state will not prosecute them financially or criminally. Secondly, the state will consider this money as legal, that is, they can be used in civil turnover.
A one-time declaration is a zero reference point for all citizens. This concept is known to the world. This is not a unique experience with a different success factor. One of the success indicators is the rate, and there are several options.
The first is the declaration of the current PIT rate of 18% plus 1.5% of the military fee. Other options include a reduced rate: from radically reduced 2-3% or 5% to moderately reduced 8-10%.
In addition to undeclared funds, the object of taxation may be the real estate, securities. There are many controversial issues here. What if an individual received overseas income and paid taxes in another country but opened accounts abroad in violation of Ukrainian legislation?
- Which scenario is optimal for Ukraine?
- In my opinion, using a moderate rate. That is, a one-time declaration at a rate of 9-10% is a good and fair scenario.
The fact is that we have very different tax rates for different types of income. Yes, dividends are paid 5% + 1.5%, and - my favorite example - the cleaning lady at the plant - pays all taxes: 18% + 1.5% + 22%. Allinclusive.
It requires a very balanced approach. Of course, any tax amnesty should be discussed and agreed with our international partners.
- What does the IMF say?
- The perimeter of incomes that falls under amnesty should be clearly defined. Its terms should be specified in the law enforcement as specifically as possible. The IMF came to a great compromise when it allowed a one-time declaration.
- Several years ago, we had the practice of the tax compromise. We have received minimal fiscal effect. Another consequence was that the tax started blaming the business for other items. Can you guarantee that the situation will not happen again?
- There is a huge difference between the tax compromise back then and the current plans. At the time, I spoke in these discussions as a business lawyer and a co-chair of the Legal Policy Committee of American Chamber of Commerce Ukraine.
First, the tax compromise was concerned only to legal entities, not individuals. This means completely different guarantees in terms of liability. Second, it concerned a very narrow range of companies.
- What incomes will not be eligible for amnesty?
- First of all, incomes that are connected with terrorism, in particular from arms, drugs, and human trafficking. Even if these incomes are declared, they can be subject to verification.
- Who will pay by the reduced rate and who will pay by the increased rate?
- The model of one-time declaration is a constructor. World practice knows different examples. If the funds were abroad and then returned to the country, then the reduced rate applies.
If the funds were invested in government securities for a fixed term or special government securities that will be issued under amnesty, the proceeds may also be taxed at a reduced rate. If the funds remain abroad and do not return to Ukraine, then the increased rate will be applied.
- When is it planned to carry out a one-time declaration?
- The work on drafting the bill is ongoing, but as far as I know, there is no final text of the bill yet. Therefore, it is unlikely that it will be approved in the next week or two.
- The new team also wants to review liability for the tax violations. What to expect?
- It would be correct to raise fines under Article 212 of the Criminal Code - tax evasion. Now we have 900 thousand UAH - this is an entrance threshold for criminal liability. This discussion is, to put it mildly, not the first year, but in my opinion, these thresholds should be raised three times.
- Ze! Team is preparing a bill that will change the tax base of personal income tax. How do you feel about this initiative?
- - There is a strategic vision that PIT rates should be reduced and more money left to citizens. This will stimulate consumption that will stimulate the economy. The question is - what will be the price for the budget, whether it will be possible to reach the balance. Under all these changes the Ministry of Finance will have to balance the costs. In addition, PIT is the main stable source of local budget revenues.
- What decrease do you mean?
- Not radical. Economic theory says that any decline stimulates the economy. Lowering rates is a waste of money. We are not a super-rich country, not a super-rich population. The release of money is first and foremost an accumulation. This is a theoretical discussion. It has to be conducted with the IMF.
- How much does the budget lose by reducing the PIT by one percent?
- In 2018 the general fund would lose 15 billion UAH. Considering the loss of local budgets - 20 billion UAH. In terms of 2019 there would be more.
- Recently, the president said that three candidates are being considered for the post of Minister of Finance. How do you see your work in the new government? Will you stay if Oksana Markarova leaves? (Interview conducted before the Government Appointment - ET)
- - Now we hear that the new government will be technocratic. If that is true, then who will be the new minister and that is what we will work on.
- You do not expect that in the process of the reshuffle you will be “removed”?
- I am not a politician, I work for sake of people, development of services and the state.
