PROFITS TAX LAW
Prior to the amendments to the profits tax law, the law contained an exemption for "interest (discount) on state securities". In the amended law, the word "discount" between the brackets has been omitted, giving rise to the impression that interest and discounts will no longer be treated in the same way. Interest from state securities was made taxable, with tax to be withheld at source at a rate of 15%. The taxation of GKOs, which are issued at a discount was unclear; they could either be subject to the 15% withholding tax, or subject to tax at normal profits tax rates, or if sold on the secondary market before redemption, at a mixture of both rates. The applicability of double tax treaties is similarly unclear.
LETTER OF 4 FEBRUARY 1997
The letter of 4 February 1997 attempted to clarify the situation. The letter states that the 15% withholding tax is applicable to income on state securities from:
- capital gains on GKO trading and the positive GKO revaluation which should be conducted by entities that are required to revalue their securities;
- accrued coupon income on certain securities - which is defined as the difference between the accrued coupon paid by the buyer at the time of purchase (if any) and the coupon amount paid by the issuer and/or the accrued coupon received upon sale - this mainly applies to OFZs, Savings Certificates and RAO VSM, and
- interest income on state securities for which the payment of an accrued coupon yield is not to be performed (some locally issued state securities may fall in this category).
- The issuer's authorised payment agent has the withholding obligation in the case of iii) above.
The letter went on to provide that the tax would not be collected as a withholding tax. On the contrary, profits tax on GKO income, including positive revaluation differences, should be calculated by owners selling GKOs on the basis of monthly tax returns (no specific form for the return is required) which should be filed with the tax authorities by the 10th of the following month, with the tax being payable within 5 days from the date of submission of the tax return.
According to our information, the government bodies responsible for the letter were aware of the discrepancy between the law and the letter and are currently seeking an amendment to the law to bring it into conformity with their administrative clarification. However, according to paragraph 4 above, the first date on which tax returns will be due is 10 March 1997. Since that date is a public holiday in Russia, the due date is therefore extended to 11 March 1997. Although there have been rumors that the authorities are drafting a further letter to clarify the filing situation, as of today nothing has been issued. Thus, market participants must now determine whether to file a return by 11 March 1997.
TAXATION AND FILING OF FOREIGN ENTITIES
The letter does not specifically discuss income of non-residents from these sources. Thus, the letter could be considered to create a filing obligation on behalf of foreign entities. However, according to our informal discussions with MinFin officials, the tax should always be withheld at source by the payer of income at the 15% rate with respect to both GKO income and coupon income on other securities in the absence of double tax treaty protection. Unfortunately, it is still unclear whether the bank or the actual purchaser will be responsible for withholding the tax. We also understand that the Ministry of Finance and Central Bank have different views on this issue.
It is the opinion of Coopers & Lybrand that foreign investors through "S" accounts need not file a return at this time. This is based on the fact that the letter of 4 February contradicts the law that describes the tax as a withholding tax. Further, the letter does not specifically mention foreign investors through S accounts (who are not registered as taxpayers in Russia) and refers to Instruction No. 37 which only applies to Russian legal entities. Finally, the informal opinion of MinFin officials is that purchasers through S accounts should not file. We are writing for further guidance from the relevant government officials on how these rules will apply to foreign holders, especially in respect of the purchase of GKOs through S accounts. We will provide details of any clarifications as soon as they are received. However, in the interim, to be as safe as possible, a foreign S account holder may attempt to obtain confirmation from their Russian counterparties that the income tax was indeed withheld at source, and therefore, the tax has already been paid.
As of yet no guidance has been issued as to how foreign purchasers should file double tax treaty exemption claims. In the absence of any clarification, the most logical solution for a foreign entity is to file the tax exemption claim with the tax inspector of the bank in which the S account is opened. The option of filing it with the tax inspector of the purchaser or the paying agent of the Ministry of Finance is not practical under these circumstances, especially in respect to a request for exemption from withholding before the payment is made.
TAXATION OF RUSSIAN ENTITIES
For Russian purchasers we believe the most prudent option is to file the return by 11 March 1997. The tax should be paid by 15 March 1997 as required. We recommend that Russian purchasers not pay the tax in the case where income has been withheld by the purchaser, although this should be noted on the tax return when it is filed. We are seeking more definitive guidance on this issue from the authorities.
The letter does not provide a specific format for the filing of the return. Thus, any form of reporting should be acceptable by the authorities, including a simple letter format. We recommend that the filing should contain the name of the taxpayer, its address, its tax identification number, the taxable base with respect to this tax and the amount of tax to be paid.
ENTITIES REQUIRED TO REVALUE
A small change was made in the letter between the time it was published unofficially in Finansovaya Gazeta on 11 February 1997 and published officially in Rossiskaya Gazeta on 22 February 1997. The version in Rossiskaya Gazeta makes it clear that the new taxation regime applies for revaluation of GKOs not only in respect to Russian banks but to all entities that are required to revalue their state securities.
INTEREST INCOME ON OTHER STATE SECURITIES
The law is still unclear with respect to state securities issued at a discount without a coupon element other than GKOs, for example, St. Petersberg and Ekaterinberg rouble denominated municipal bonds. Since the letter is silent on these types of securities, there are three possibilities:
- to use the regime applicable to GKOs as described in the letter of 4 February;
- consider the gains to be subject to 15 % withholding at source, and
- to consider the letter inapplicable to these other securities and to be taxable at the regular profits tax rate. We are also seeking clarification of the tax authorities in this area. However, in the absence of any further clarifications or guidance, it would seem that the law requires the entire profit to be subject to the regular profits tax rate.
EFFECTIVE DATES
The letter confirms that this new form of profits tax would not apply to either GKO income or interest income on other state securities issued before the profits tax amendment law came into effect, on 21 January 1997, regardless of whether the income was received before or after this date. This exemption should also apply to supplementary tranches of GKO issues dated before 21 January 1997.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
For further information contact Alla Shaulina on tel: +7 503 232 5511 fax: +7 503 232 5522 or e-mail directly: Alla_Shaulina@ru.coopers.com or enter a text search 'Coopers & Lybrand' and 'Business Monitor'.