Foreign representative offices operating in Russia must pay a 38 percent tax on salaries before the end of this month, according to a government letter that seeks to clarify the law and has set some foreign firms in an uproar.
The letter, dated March 29, circulated among state tax inspectorates and obtained Monday by The Moscow Times, gives foreign representations -- hitherto a gray area for the purposes of the so-called excess wage tax -- until April 15 to file and April 25 to pay.
"It is unconscionable, retroactive and illegal," Scott Antel, a tax consultant with Deloitte & Touche, said of the Finance Ministry and State Tax Service letter. "It should be challenged."
"It will undoubtedly cause difficulty for people who were counting on the excess wage tax not applying to them," said Steve Hasson, a tax partner at Price Waterhouse.
Though unwelcome, the letter was hardly unexpected. Alexander Ivaneyev, head of the Finance Ministry's department of tax reform, told a tax conference in mid-March that an official letter would be published clarifying that foreign representative offices would be liable for the tax.
The letter says payment of the duty will be levied on "those foreign legal entities which carry out on the territory of the Russian Federation entrepreneurial activities through a permanent representative, regardless of the results of those activities or existing benefits regarding taxable profits (among them exemptions from profits tax)."
The clause "entrepreneurial activities" may further muddy the waters however, tax specialists said.
The problem, lawyers said, is that in no piece of Russian legislation is the term defined, leaving it open to question.
"There's no case law, it's not defined properly," said Alexander Pankratov, an associate at White & Case. "You can't refer to any document."
Mikhail Sklyev, deputy head of the State Tax Service department which deals with taxes levied on foreign legal entities, said it was up to the companies to decide whether or not they fall into the entrepreneurial category.
"The firms themselves know if they are engaging in entrepreneurial activities," he said. "Of course, various tax authorities will verify their status, but if a firm is buying and selling, it will have to pay."
That has left the attorneys who represent foreign firms here uncertain, but interpreting the law conservatively.
"We are interpreting that the tax is applied to all foreign representative offices, but [the letter] seeks to exclude those not engaged in commercial activities," said Steve Hasson, a tax partner at Price Waterhouse.
"If you're doing something here and you're getting money for it, you're in there," said Maryann Gashi-Butler, a partner at White & Case.
The issue is made more difficult still by the fuzzy understanding of the nature of a foreign representation. Under Russian law, foreign representative offices by definition cannot engage in commercial activities."A classic representative office's activities are preparatory and auxiliary," said Alexander Chmelev, a tax attorney at Baker & McKenzie. "They are set up to hand out general information, collect marketing information, etc. These types seem to be off the hook."
But, according to Antel, often representative offices do move beyond the parameters of their prescribed activities.
"Technically the law contemplates that representative offices are non-trading," he said. "But because in Russia the laws on branch offices are so confusing, some are making sales out of rep offices, such as those in the service industry."
The main concern appeared to be precisely over the lack of clarity in the letter, and in the way foreign companies feel it has been sprung upon them that on April 25 they will have to pay an expensive tax retroactively for all of 1994.
Antel saw this as yet another example of why foreign investors remain shy about committing their funds in Russia.
"The greatest deterrent to business investment is uncertainty, and this is spot-on," said Antel.
A recent report conducted by an independent economic think tank rated unclear and ever-changing laws as the single largest impediment to investment.
The March 29 letter, signed by Finance Minister Vladimir Panskov and chief of the State Tax Service Vladimir Gusev, rekindles more than a year of controversy about which companies are liable to pay.
In December 1993, President Boris Yeltsin issued a decree stating "all taxpayers" were liable. In April 1994, Prime Minister Viktor Chernomyrdin issued a government order clarifying that fully foreign-owned companies were also subject -- but foreign representatives were not specifically mentioned, and have requested clarification.
"This is not clarification," said Antel. "Last April was their window for clarification, not just before the tax is due," he said.
The duty will also affect firms' decisions to hire locally, said Antel.
"With this extra 38 percent, it's almost cheaper to do the work in London," he said.
The letter, dated March 29, circulated among state tax inspectorates and obtained Monday by The Moscow Times, gives foreign representations -- hitherto a gray area for the purposes of the so-called excess wage tax -- until April 15 to file and April 25 to pay.
"It is unconscionable, retroactive and illegal," Scott Antel, a tax consultant with Deloitte & Touche, said of the Finance Ministry and State Tax Service letter. "It should be challenged."
"It will undoubtedly cause difficulty for people who were counting on the excess wage tax not applying to them," said Steve Hasson, a tax partner at Price Waterhouse.
Though unwelcome, the letter was hardly unexpected. Alexander Ivaneyev, head of the Finance Ministry's department of tax reform, told a tax conference in mid-March that an official letter would be published clarifying that foreign representative offices would be liable for the tax.
The letter says payment of the duty will be levied on "those foreign legal entities which carry out on the territory of the Russian Federation entrepreneurial activities through a permanent representative, regardless of the results of those activities or existing benefits regarding taxable profits (among them exemptions from profits tax)."
The clause "entrepreneurial activities" may further muddy the waters however, tax specialists said.
The problem, lawyers said, is that in no piece of Russian legislation is the term defined, leaving it open to question.
"There's no case law, it's not defined properly," said Alexander Pankratov, an associate at White & Case. "You can't refer to any document."
Mikhail Sklyev, deputy head of the State Tax Service department which deals with taxes levied on foreign legal entities, said it was up to the companies to decide whether or not they fall into the entrepreneurial category.
"The firms themselves know if they are engaging in entrepreneurial activities," he said. "Of course, various tax authorities will verify their status, but if a firm is buying and selling, it will have to pay."
That has left the attorneys who represent foreign firms here uncertain, but interpreting the law conservatively.
"We are interpreting that the tax is applied to all foreign representative offices, but [the letter] seeks to exclude those not engaged in commercial activities," said Steve Hasson, a tax partner at Price Waterhouse.
"If you're doing something here and you're getting money for it, you're in there," said Maryann Gashi-Butler, a partner at White & Case.
The issue is made more difficult still by the fuzzy understanding of the nature of a foreign representation. Under Russian law, foreign representative offices by definition cannot engage in commercial activities."A classic representative office's activities are preparatory and auxiliary," said Alexander Chmelev, a tax attorney at Baker & McKenzie. "They are set up to hand out general information, collect marketing information, etc. These types seem to be off the hook."
But, according to Antel, often representative offices do move beyond the parameters of their prescribed activities.
"Technically the law contemplates that representative offices are non-trading," he said. "But because in Russia the laws on branch offices are so confusing, some are making sales out of rep offices, such as those in the service industry."
The main concern appeared to be precisely over the lack of clarity in the letter, and in the way foreign companies feel it has been sprung upon them that on April 25 they will have to pay an expensive tax retroactively for all of 1994.
Antel saw this as yet another example of why foreign investors remain shy about committing their funds in Russia.
"The greatest deterrent to business investment is uncertainty, and this is spot-on," said Antel.
A recent report conducted by an independent economic think tank rated unclear and ever-changing laws as the single largest impediment to investment.
The March 29 letter, signed by Finance Minister Vladimir Panskov and chief of the State Tax Service Vladimir Gusev, rekindles more than a year of controversy about which companies are liable to pay.
In December 1993, President Boris Yeltsin issued a decree stating "all taxpayers" were liable. In April 1994, Prime Minister Viktor Chernomyrdin issued a government order clarifying that fully foreign-owned companies were also subject -- but foreign representatives were not specifically mentioned, and have requested clarification.
"This is not clarification," said Antel. "Last April was their window for clarification, not just before the tax is due," he said.
The duty will also affect firms' decisions to hire locally, said Antel.
"With this extra 38 percent, it's almost cheaper to do the work in London," he said.
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