Keynote points of the discussion and abridged expositions of speaker reports are published below.
Keynote Points:
Tax benefits substantially decrease the revenue side of the budget of Ukraine: customs benefits, liberalisation of fiscal administration, inspection moratoriums, cancelled liabilities and the easing of penalty and fine payment rules.
Since the start of the military action, the Cabinet additionally earmarked UAH314 billion for the defence budget.
The economy is forecasted to slump by 30–50%. Broken logistical ties require investments to restore foreign trade. There is a growing need for social welfare and recovery.
Three tax reform packages have been adopted to: 1) relieve the taxpayers of liability because of the impossibility to fulfil their fiscal responsibilities; withhold tax inspections and due dates; 2) expand the system of simplified taxation at 2% rate; reduce tax on fuels by imposing a flat excise duty and 7% VAT; 3) relieve from import tax payments during the importation of goods, vehicles with flat customs duty rates (VAT, excise and import tax).
The budget revenues are in the risk zone; the expenditures are high and continue growing. Most of the budget expenditures are used for defence, law enforcement and revised social support.
The fuel crisis is stifling economic activities and the pace of economy’s adaptation to wartime conditions.
It will be necessary to grow the throughput capacity of customs clearing stations to boost the foreign economic activity.
A full restoration of the e-VAT administration system has been announced.
There is an expected trend in international financial assistance increase, which will help to level the expenditure side of the budget and recover the economy.
Transcript of discussion (for the full video of discussion please follow the link)
– What is the situation with the budget of Ukraine today?
Natalia Leshchenko
It was necessary to distribute about 30% GDP – with local budgets and the Pension Fund, about 42% GDP – via the national budget. However, the war brought corrections: already at its beginning we saw the revenues plummeting. Fast. They had grown by 35% in January 2022 but substantially reduced in March.
The budget is still afloat but worse will come. Hostilities and respective impossibility of doing business are reducing the taxable base. In February and March, the military actions were on territories actually accounting for a half of economy revenues. They are being recovered now but at a slow pace. The seven Oblasts that saw hostilities in May 2022 accounted for about 20% economy revenues.
Everybody has heard about the issue of blockaded sea ports. The Odessa Customs Office alone used to provide a fifth of total revenues. Restoring revenues will require changes to the logistics, exports and imports, terms and conditions of legal and infrastructural limitations. Negative effects of numerous tax benefits introduced early into the war, the customs ones and those for micro and medium enterprises, will become even more obvious further on. Moreover, there is liberalisation of fiscal administration, inspection moratoriums, cancelled liabilities and the easing of penalty and fine payment rules.
On the other hand, the war also dictates an increase in our demand. Already in March 2022 the expenditures were twice the amount in March 2021. This was the result of increased spending on social welfare and defence as well as the number of those in need of assistance. Some 4 million IDPs have already been registered. The actual quarterly social welfare expenditures grew by 20% and the defence expenditures increased fivefold to 75 billion Hryvnias. Some 314 billion Hryvnias were additionally earmarked for military needs, primarily on defence, law enforcement and social support, since the beginning of the war. Unfortunately, it was possible to refinance only a part of the amount by redistributing other tax receipts. Even if GDP will drop by 30%, a half of it will be redistributed via the national budget, or two thirds if jointly with local budgets.
When the demand increases, the taxes contract. Naturally, the volume of financing is bigger than the revenues and makes for a half of the taxes. The NBU is the main source for the budget. We expect the expenditures to remain higher than the revenues and the economy to shrink by 30–50%. By various estimates, 30–50% businesses have been destroyed and a half of those that stopped operations have already declared 5 million unemployed. Besides, people are simply leaving Ukraine. Some 6 million had left and, even with those who have returned, we lost 4 million. Compare it with 2021 when some 15.6 million were employed in the economy of Ukraine.
Broken logistics requires investments for foreign trade to be restored. There is a growing need for social assistance and recovery. A possibility of intensification of hostilities and administrative resources like free account balances should be also taken into account as advance payments or earlier transfer of payments owed to government enterprises have almost dried up.
The expenditures may grow fast, and the structure can change. In wartime conditions the government was compelled to opt for flexibility via reduced oversight and simplified redistribution of resources. The money is primarily disbursed for defence and martial law regime management, other expenditures being secondary.
– How big is the effect the changes in taxation regime have on the budget?
Yulia Kasperovych
I cannot but start with ‘thank you’ to all those taxpayers who have been meeting their financial obligations in time and in full whenever possible, working officially and thus supporting the Armed Forces of Ukraine. I am thankful to all those individuals who self-impose taxes transferring rather large amounts to charity accounts of the National Bank of Ukraine and of civic society and volunteer organisations. It shows our patriotism and unity, boosts our spirit and confidence in our victory coming closer.
The government has reciprocally supported the taxpayers with tax liberalisation and deregulation. The first ever package of tax reform measures adopted on 3 March under No. 2118 ushered in unprecedented deregulation. Firstly, it relieved the taxpayers of liability for not paying their tax obligations on time. Secondly, it stopped tax inspections. Thirdly, it withheld deadlines. A fifth package has been voted in on 12 May and expects President’s signature now. It will be Law No. 2260 to narrow the scope of deregulation. The government is fully authorised to do so given the economy has started to gradually adapt to the wartime conditions. The State Tax Service of Ukraine has started registering certain cases of misuse of the provisions. The relaunch of full-scale operation of the e-VAT administration system will also require desk inspections.
The most important component of the first package remaining in force for small enterprises is about a relief from sanctions for breaches of cash register use rules (excluding excisable goods).
The first package was followed by the second one in Law of Ukraine No. 2120, of 15 March. It was about the most radical reform, which included the broadening of the simplified taxation system on all economic agents at 2% revenue rate, the reduction of fiscal burden on fuels, flat excise rates and VAT reduction from 20% to 7%. This benefit saved the economy from the shock of fuel price hikes that might have happened due to both world price increase and changes in the logistics of supplies into Ukraine. The package allowed private entrepreneurs of 1st and 2nd group to forgo single tax payments, and granted private entrepreneurs using the general and the simplified taxation schemes, independent professionals and farmers the right of not paying the single social contribution (SSC) for themselves. A moratorium on SSC-related inspections and fines was also imposed.
Third package. First benefit: those using the simplified taxation scheme were granted relief from the import tax. Second benefit: natural persons were relieved from customs duties (VAT, excise duty, import tax) on vehicles. The benefit was granted without limitations based on the number of imported vehicles, their value or intended use. Each of the tax reform packages contained benefits to support the army, charities and those affected by the war.
Regarding the wide range of benefits of greatest effect on the budget: the first one imposed a relief on customs duty payments for those using the simplified taxation scheme. Its objective has been to saturate the domestic market with FMCGs. It completed its role and we were able to avoid deficit. According to Zheleznyi Nardep Telegram channel, the total cost of the benefit together with budget losses from 8 April till 17 May was estimated at UAH4.64 billion. The benefit has started to degrade the competitiveness of domestic manufacturers vs. imported goods brought into the country without customs duties paid. From here, a question on its viability arises.
Second: the benefit allowing vehicles to be imported by natural persons without customs duties paid (VAT, excise duty and import taxes). Some 94.4 thousand vehicles were brought into the country from 9 April till 19 May. That led to long lines at customs clearing checkpoints to the detriment of free passage of military and humanitarian cargoes. Then the number of those border crossing points was reduced to three.
Budget’s potential losses have been estimated at 10.5 billion Hryvnias. Politics is the art of possible compromise, and the discussions have started crystallisation of public interests. On the one hand, those financed from the budget are not happy with huge expenditures. The vehicle lovers retort the losses are only potential rather than actual as with no preferential regime the great number of imported cars would simply not happen.
On the other hand, there are vehicle owners who imported their cars earlier paying customs duties in full. Understandably, they are not happy with the preference and feel themselves discriminated against. Sadly, many vehicles were damaged or lost during the war. As of 19 May, the number of vehicles brought into the country stood at 94.4 thousand while the number of damaged ones amounted to 94.5 thousand, that is, the losses sustained by us during the war have been roughly offset thanks to the preference.
Also, on the other hand, environmentalists and urban planners are claiming that Ukrainian cities have not been designed to handle that many vehicles and that electric scooters, bicycles, and public transport have to be used instead. They hear in response the said modes primarily cover the needs of rural residents. Auto market experts say that the flat rate customs clearance allows stimulating neighbouring economy sectors and that private vehicles increase the mobility of the Ukrainians (it was only possible to get out of the occupied cities on private transport) and will boost the economic recovery of both individuals and businesses.
The discussion goes on and the preference will be most likely limited. It is not just about only losses but also about a benefit for the budget. When importing cars, a non-tax duty is paid for mandatory state pension insurance for certain types of economic transactions. In 2021, the total amount of it exceeded UAH6 billion – a direct loss for the state budget. As regards local budgets, the Association of Cities of Ukraine has estimated the total preference at UAH50-60 billion including, in particular, preferential rates of land and real estate duties and the environmental tax on non-controlled, occupied and frontline territories.
– The taxes went up. Then there are large compensations to servicemen on the frontline and a large share of tax revenues is used to support IDPs. What is the most tax share used for?
Natalia Leshchenko
We observed twice as big expenditures in March. First of all, those were the defence ones – they grew fivefold to 79 billion Hryvnias. Another priority was social welfare spending, which almost doubled. Several transformed programmes for internally displaced persons have been implemented. The first one is an updated programme of monthly housing allowance of UAH2,000 for a general individual and UAH3,000 for children and disabled individuals. According to preliminary estimates, the number of registered IDPs stands at 4 million, which makes UAH8 billion a month. The next programme is the one of protection aimed at compensating utility costs. An average per-family payment under the programme is approximately UAH460. By multiplying the same 4 million individuals by UAH460 we get about UAH2 billion. Let us also add here a new e-Support programme. It grew out of the COVID vaccination allowance of UAH1,000; according to it, the hired staff and private entrepreneurs who lost their profit should receive UAH6,500. The provided assistance amounted to UAH22 billion and still it was not enough, even despite an additional UAH2 billion allocated. Not everyone who applied for assistance was able to receive it though.
Since the beginning of the hostilities, the government additionally allocated UAH314 billion for war needs. First of all, it was on defence, which accounted for the lion’s share of the needs. Secondly, it was the law enforcement. A somewhat smaller amount went for transformed social welfare. With a view of expected slump in the economy and income, we might consider a 70% burden on the economy budget.
– Basic taxes will remain even if the changes introduced at the start of the aggression are cancelled. What are the prospects? How to balance both sides of the budget?
Yulia Kasperovych
The trend in revenues and expenditures largely depends on war duration and nature. The economy is gradually adapting to this state of war. Business activities are improving, if a bit slower due to the fuel crisis. A moderate inflation is nudging up fuel prices. We can expect a rather critical assessment of performance of the introduced ample customs preferences. They began to harm domestic producers and their competitiveness, as well as pressure on the currency exchange rate and worsen the balance of payments. Customs payments will remain underperformed, and we will need to expand the throughput of customs clearing checkpoints to boost foreign economic activity, especially the exports, which is a priority task.
However, there are two positive news, the first being about cancellation of quotas on our goods and the second about a bilateral joint border and customs control agreement announced by the President of Ukraine during his visit to Poland.
There will be a trend towards the unconditional restoration of the fully-fledged operation of the e-VAT administration system. This will be its second iteration after the initial introduction in in early 2015. This second emergence will be a rather difficult one because the Ukrainian enterprises used to be interconnected via supply chains and many partners have unfortunately found themselves now on uncontrolled territories near the front line. Taxpayers are now worried: if their suppliers fail to register tax invoices the entire tax liability will have to be paid. A full recovery of the e-VAT administration system should ensure a renewal of budget VAT refunds. There had been an idea of voluntary repaying the January 2022 amount of more than UAH17 billion with domestic state loan bonds. This idea had to be abandoned because the bonds were sold on the secondary market at a very large discount and to direct loss of the exporters and also because these bonds would compete with those issued by the Ministry of Finance at auctions on primary sale of military bonds. That is, there will probably be no more VAT bonds in favour of in-cash payments, and only to close January for now.
As for expenses, there will be a need to save in most areas. The army and social welfare will remain the priorities. The public demand for optimisation of public expenditures and improved quality of public services is huge. At the meeting of regular task forces of the National Recovery Council a consensus was reached about the need to return to cost reviews. This tool is becoming more and more relevant.
We expect a trend of strengthened international financial support, in particular, the allocation of USD40 billion announced by the U.S.A. and signed by the President. Of these, 9 billion should be the economic aid with 8 billion going directly to the budget.
– Regarding the situation with budget deficit, there was a gap of USD5 billion back in April. How we should finance it?
Natalia Leshchenko
Three or four months is a very time span to see radical qualitative and effective changes. It is rather a fire-quenching effort. The only biggest hope is for the overseas funds we need. The government should also make efforts to use the funds that were had not been used in 2021 and remained for this year, though these amounts are small and will not save us. Of course, the most priority spending on defence, law enforcement and social protection will not be sequestered; a review of other spending items is possible. Some countermeasures will be necessary as just giving money away is not an option. There are already 160 resolutions to amend the budget and the tax legislations, and the government will continue to change these in the same flexible manner.
– When, under which conditions might we return to financial self-sufficiency?
Yulia Kasperovych
The most desirable answer will be our victory over the aggressor country, the Russian Federation, as well as having it make good for all the damage, losses and pain inflicted on us. It will be absolutely necessary to mobilise all imaginable and unimaginable legal instruments. We hope our lawyers will work this out with international support.
Regarding more practical steps, a National Council for the Recovery of Ukraine from the Consequences of the War was established by President of Ukraine Decree No. 266, of 21 April this year. On the same day, the Ukrainska Pravda web site published an article by the First Deputy Prime Minister, Minister of Economy with a vision of the restoration of Ukraine. The article made a very positive impression on economists as it covered 10 key points: full access to markets of EU Member States, Ukraine’s accession to the EU, deregulation, fast logistics, a focus processed product exports, priority development of the military-industrial complex, energy capacities, energy independence, climate modernisation and localisation. I fully support these packages and hope for their implementation as soon as possible. The National Council for the Recovery of Ukraine from the Consequences of the War is now the basis for the development of an ideology of the economic policy that will be implemented.
As a tax policy expert, I think it will possibly be tax are that will become the driving force of the recovery. Of course, the military-industrial sector, IT, agriculture (at least within the meaning of Group 4 of the single tax scheme) and other mechanisms currently developed at the National Council will surely remain among the priorities.
I would like to tell our audience that the structural reforms that will take place in Ukraine will directly affect everyone. We ourselves will be consciously switching towards energy efficiency, energy saving, public transport, bicycle or scooter as measures to directly contribute to financial self-sufficiency.
Our self-sufficiency is about creating our digital nation, it is a matter of national security. We have to complete our homework from long ago on strengthening the institutional capacity of government bodies, in particular the customs ones, ensuring the inevitability of punishment for committed offenses, zero tolerance for corruption, protection of property rights, and increased trust in the judiciary. This will become a guarantee of our financial self-sufficiency.
Natalia Leshchenko
Yes, the main condition is for hostilities to end. The economy is adapting though we will need more than one year to reach the level we had in the past year. Of course, in order for this to happen faster, it is necessary to attract funds, improve the administration and increase the efficiency of expenditures.
– What about printing money to cover economy-related budget needs at all levels?
Yulia Kasperovych
The money issue is there, but it is neutralized, if partly. The National Bank and the Ministry of Finance are very careful in their attitude towards this tool, they reflect on it in their communication policy. The approach will remain in the future.
– The military tax and the idea of increasing the rate. Is this a duty that has no targeted use and only contributes to general budget revenues?
Yulia Kasperovych
I fully agree. Indeed, the military tax is channelled to the general fund in the budget so it is difficult to track these funds’ purposeful use specifically for security and defence needs. There was an initiative in draft Law No. 7311 to double the military tax rate, which received a negatively perception among the wide public who has been expecting a reduction of payroll burden for quite some years. The reduction is a cross-cutting demand expressed by businesses. A great option would be, for example, to see a phased – half percent, maybe a few percent – slow reduction that is gradually replaced with the incoming international financial aid. This would make a very positive signal for businesses and individuals to come back and restore business operations.
As for targeting the military tax, alternative versions of draft Law No. 7311 already have these ideas included, so targeting looks a very valid proposal.
– Will there be laws aimed at attracting foreign investments and reducing payroll taxes?
Yulia Kasperovych
The ideology behind the economic and tax policies, which will be their driving force, is currently being designed at several committees of the National Council on Economic Recovery from the Consequences of the War. This work is very fruitful with lots of meetings and huge brainstorming efforts taking place. Reducing the burden on the payroll is the main idea though the question of how to compensate for lost receipts remains. Unfortunately, the situation with budget implementation remains tense.
Natalia Leshchenko
Controversially, lowering the payroll tax rate will be of no help for attracting investments. Direct taxes have the most negative effect on investments and they need to be compensated with something. The government will eventually try to remedy the situation by raising revenues through taxes. This should be kept in mind in the medium term but it is too early to mention in the short-term perspective.
Yulia Kasperovych
I fully agree. There are many investment attracting tools to mention. Foreign investments will follow the international financial support which truly count on.