On November 24, the Executive Board of the International Monetary Fund (IMF) published a report on the results of the first review under the Stand-By Arrangement with Ukraine and approved the Memorandum of Economic and Financial Policies of Ukraine. Earlier, on November 8, a Letter of Intent signed by senior officials of Ukraine was sent to the IMF together with the attached Memorandum of Economic and Financial Policies, which Ukraine intends to implement for further cooperation with the IMF under the program. These documents outlining further steps of reform and different policies are identical on most key points. My colleagues have already spoken about the strategic and monetary aspects of the agreement, the benefits and risks for Ukraine. Nevertheless, it also includes some tax nuances, which are exactly what we would like to pay attention to here.
The first thing that comes to the front is that the IMF agrees with the position of the Ministry of Finance to close the “gaps” in tax legislation and de facto supports Draft Law No. 5600 that will increase rather large tax burden in Ukraine (40% of GDP) by 0.5% of GDP and attract an additional UAH 28 billion to the state budget (paragraph 15 of the IMF Memorandum). There can be no comments on such formulations as “we are for all good, against all bad”, but taking into account the national practice of lawmaking, we can make conclusions about good and bad only after the Draft Law is adopted in its final version. It is also surprising that IMF experts do not consider the fact that the adoption of this Draft Law, which the government promises to adopt by the end of this year, contradicts direct norms of Ukrainian legislation on the impossibility of changing tax elements in the second half of the calendar year (Article 27 of the Budget Code of Ukraine).
Table 2a “Ukraine: General Government Finances, 2019-2026” in this document is especially interesting in terms of status quo of the state tax policy, the essence of which can be formulated as follows: “everything will be paid by honest and average (in our realities – poor) taxpayer”. There could be no other explanation for the fact that with the lowest level of property taxation in Europe (0.8% of GDP vs the EU average of 2.5% of GDP), IMF experts agree that by 2026 the share of property taxes will have decreased further, to 0.6%. This is despite the fact that the land market has started to work in Ukraine, and the Ministry of Finance and all experts constantly say about the necessity of moving to new approaches in determining the tax base in property taxation. Paradoxes and nothing else!
The table also shows that in this perspective until 2026 the share of VAT, which is a tax on mass consumption, will continue to grow to 10.4% of GDP in the budget revenues, while the share of personal income tax (6.9% of GDP) and corporate profit tax (2.9% of GDP) remain stable. Explaining these figures, it should be noted that in fact no one – neither the government nor the IMF – expects an increase in income of population and in profitability of domestic enterprises, which we can all “be congratulated on”! So, the conclusion is simple. No one hopes for the rapid economic development of Ukraine, all parties to the agreement have in fact reached an unspoken agreement on the preservation of the commodity model of the low-income domestic economy and a significant shadow sector of the economy.
We can see a special cynicism in the dynamics of the contributions to the pension system, which is still represented by the single social contribution, which is expected to decrease from 6.8% of GDP in 2021 to 6.3% of GDP in 2026. This is despite the fact that demographic forecasts consistently show an increase in the share of retirement age people in the population of Ukraine. Obviously, the COVID-19 factor is taken into account here.
Of special attention are areas for improving tax administration in our state. And here we already state differences not with common sense, but in the text of the Memorandum in the version of the IMF (paragraph 18) and the Ministry of Finance (paragraph 10). What is it about?
For example, IMF experts rightly point out that a new tax infrastructure creates a number of setbacks. In particular, the Bureau of Economic Security is not yet operational, and there is a risk of unchecked flow of cadre with impropriate work background into the new institution. Apparently, so far people with experience of operative investigative activity than analytical work get into the new structure more. The IMF also warns that the split of a single Large Taxpayers’ Office (LTO) into a five separate LTOs can cause the overlap of functions. This creates, in the language of the document, “new structural inefficiencies that require resolution”. It is suggested that if the LTO cannot be reestablished as a single State Tax Service functional unit, the authorities should build a stronger State Tax Service HQ oversight over LTO operations. In the near future, we will see what decision will be taken. It is obvious that creating a single functional unit would be better, especially since the State Tax Service operates as a single legal entity.
The main advice of the IMF, which should be followed by the Ukrainian authorities, is that we finally should shift from organizational changes of the State Tax Service system to improvements of its operations. It is about building a systemic tax compliance risk management process. If it does work, it will allow the elimination of such rudiment of the tax administration system as “planned” tax audits and the establishment of a specialized unit focusing only on the richest taxpayers, the so-called High-Net-Worth Individuals.
This advice has been mentioned not only by IMF experts, but also by the OECD to all tax administrations in the world in the annual reports of the Tax Administration for 10 years already, but we cannot see any intention of our government to implement it so far. In fact, this will lead to the creation of a register of final beneficiaries with all their assets in the State Tax Service, and not in the Ministry of Justice, which can be the main information base for determining their tax liabilities. Most importantly, this fiscal register will be longitudinal, and its importance is difficult to overestimate in the context of commitments to implement BEPS standards such as the automatic exchange of tax and on-demand information. The authorities are taking some steps in this regard, in particular, on November 17, this year the Cabinet of Ministers of Ukraine adopted Order “On approving the Strategy for Digital Development, Digital Transformations and Digitization of Public Finance Management until 2025 and approving the Action Plan for its Implementation”, but, based on the timing analysis of the action plan, very slowly! For example, a risk oriented system of tax administration (in the IMF version a systemic tax compliance risk management) in the tax service has been created for fifteen years.
In conclusion, the agreement with the IMF in terms of formation and implementation of state tax policy is one of those when we can say that the devil, as always, is in the details… and in how the Ukrainian government will “fulfil” these details!
Doctor of Economics, Kostiantyn Shvabii, expert of the Growford Institute for Lb.ua.