RUSSIA’S SELF-DEFEATING TAX SYSTEM
Publication: Prism Volume: 2 Issue: 17
Russia’s Self-Defeating Tax System
By Lidia Lukyanova
If Russia succeeds in solving the problem of collecting taxesfrom all persons and legal entities on its territory, the needfor foreign loans, according to experts of the Russian chamberof commerce, will disappear.
Why then is the problem of uncollected taxes getting steadilyworse?
In recent months, the tax burden for legal entities has becomeeven heavier: of every million rubles earned by businesses, upto 950,000 rubles go to taxes and other fees. The demands on smallbusinesses have gotten tougher, although small business is theonly part of the economy that is actually increasing its productionof goods and services. The government is limiting local tax exemptions,making calculation of the costs of production more complicated.In other words, the straw on which enterprises used to hang asmany expenses as possible, in order to lower their taxable profit,has disappeared. And if paying taxes leaves a business in a desperatesituation, the law will encourage people to look for ways to getout of paying their taxes completely.
In fact, businesses in Russia are getting better and better atavoiding paying taxes on their profit. And as strange as it mayseem, this is done strictly within the law, so that even the taxpolice can’t find fault with it. And this is the main paradox.
There is also a second paradox. In Russia, the government andthe State Duma are each pulling the tax "rope" in theirown direction. The government–towards making taxes tougher inthe interests of filling the treasury’s coffers, and the deputies,towards lightening the tax burden. Russia’s present tax systemwas created in 1992 and over the past four years, the originalpackage of tax legislation, which formed the base of this system,has been reexamined several times. This has given rise to instabilityand confusion as to the rules of the game, especially with businessesand organizations. Moreover, the frequent amendments and additionsto the tax laws are dictated, as a rule, by the immediate needsof an empty treasury, and not by a far-sighted policy to revivethe country’s economy. This explains the fact that the taxes onlegal entities are getting more and more strict, while the determinationto avoid paying them grows ever stronger. In Moscow, at the beginningof this year, the tax police exposed 29,000 tax evaders, whosetotal debt to the treasury amounted to three trillion rubles.
By law, the government may only establish the types of taxes andfees which have been enumerated in the law "On the Principlesof the Tax System." But, in fact, the ingenuity of the localtax authorities in the krais, oblasts, and cities is boundless.For example, in the Moscow oblast, you have to pay a tax for participatingin horse races at the Hippodrome. In 22 raions in the Moscow oblast,there are now fees for holding auctions and lotteries, which arenothing but taxes under a different name. And there is also atax for the development of physical culture and sport, and a taxfor the upkeep of educational institutions has been introducedat the oblast level.
This ingenuity on the part of the local authorities became possibleafter Presidential Decree No. 2268 "On the Formation of Budgetsof Subjects of the Russian Federation in 1994" was issuedon December 22, 1993. This decree (point 7) gave organs of federationsubjects the right to impose new taxes and fees on their territory,in addition to those enumerated in the law "On the Principlesof the Tax System." These they imposed without hesitation.And this is the third paradox: it is impossible to define allthe taxes and fees which have been imposed in Russia, just asit is impossible to say exactly which taxes enterprises in thevarious regions are required to pay. Such a situation is clearlynot conducive to the stability of Russia’s tax system, and itis this factor which is one of the most important ones for foreigninvestors. At any moment, a businessman could be faced with thefact that a regional government has imposed a new tax. This completelydestroys the businessman’s economic calculation, which led himto put his business in the region in the first place.
According to the law, "On the Principles of the Tax System,"the repeal of taxes and fees, and also the introduction of taxexemptions, and all changes in the tax structure can be implementedonly through legislation. The tax provisions contained in "non-taxlaws" come into force only when they are reflected in specialtax legislation. This strict approach to the regulation of taxlegislation is justified because any tax provision, in one wayor another affects the revenue side of the budget, and thus affectsthe property interests of the taxpayers.
But this wise rule does not cover the Russian president’s own"tax creativity," although according to existing legislation,the president does not have the right to impose taxes, in theabsence of extraordinary circumstances such as martial law. Nevertheless,the president issued a decree (No. 65, January 19, 1996) "OnOffering Businesses and Organizations Extensions on their TaxDebts, Penalties and Fines for Violations of Tax Law Dating frombefore January 1, 1996." According to Article 10 of the law"On the Principles…", an extension is a form of taxexemption which can be implemented only by law. Where does thatleave people who have been fined? That’s one side of the question,the other is — has anyone counted how much money will be lostwhile this extension is in force? After all, what delinquent willpay his fines and debts while there is still an extension? Sucha paradoxical legal free-for-all, with the tax rope being pulledin three different directions — by the government, the StateDuma, and the president, leaving the tax service and the taxpayerguessing as to which one to listen to — could be possible onlyin Russia. But the taxpayer interprets all of the paradoxes ofthe legal situation to his own benefit, proceeding (just likethe state) from the standpoint of immediate benefit. And the factthat there won’t be a penny in the state treasury tomorrow, well,that’s tomorrow. You’ve got to live through today first…
The Types of Taxes Collected from "Physical" Persons
Russians pay an income tax, a property tax, and a tax on propertyreceived by inheritance or as a gift. And also a tax on the purchaseand sale of real estate.
The Income Tax. This tax is paid on gross annualincome, received over the course of the calendar year. The ratesare as follows: on an annual income of up to 12 million rubles,the marginal tax rate is 12 percent; from 12 to 24 million rubles,it is 20 percent; from 24 to 36 million, 25 percent; and the rategrows to 35 percent for incomes which exceed 48 million rubles.
Taxes on the Property of "Physical" Persons.This tax is imposed on a person’s house, apartment, means of transportation,automobiles, motorcycles, motorboats, cutters, helicopters, orairplanes. The tax rate is defined in terms of a percentage ofthe minimum wage in effect on the date the tax is calculated.
Taxes on the Purchase and Sale of Real Estate. InRussia, the number of people who own real estate is growing butthe state is fleecing private property owners with its taxes.For example, 30 percent of the market price of an apartment is"eaten up" in taxes when you sell it. Thus, in the saleof a three-room apartment, one room goes to pay the taxes. Itis possible to catch and fine taxpayers for concealing part oftheir income from the sale of their apartments, but the unreasonablyexcessive rate forces them to commit this crime. As a result,courts all over the country are full of people being tried for"machinations" in the buying and selling of housing.
In the opinion of the head of the Moscow branch of the State TaxService, Dmitri Chernik, property tax legislation poses nothingbut problems, since it holds everything absolutely equal. Forexample, the law treats all sales of apartments and dachas equally.But it is one thing when a firm or an individual is in the realestate business, a form of commercial activity, which brings inincome, and it is a completely different thing when the ownerof a dacha or an apartment sells it in order to improve his materialposition or his living conditions.
In defining the tax on selling real estate, the Russian government,in Chernik’s opinion, ought to proceed from the principle of thesale of personal real property. If it is sold for personal necessity,then this transaction ought to be exempt from tax, or the rateshould be minimal. This is accepted practice in many countriesin the world, but Russia is still in the thrall of Soviet-styleegalitarianism [uranilovka].
Inheritance and Gift Taxes. This tax is imposedon houses, apartments, dachas, garden cottages, all types of vehicles,antiquities and art objects, jewelry, deposits in financial institutions,foreign currency, and the cash value of securities.
It is calculated in rates which depend on the cost of the property,and range from five to 40 percent.
Taxes on Legal Entities
If one takes into account not only the direct taxes which businessespay — taxes on profit and value-added taxes, — there are alsoa multitude of indirect taxes, beginning with customs duties andtaxes on the land occupied by a business, and licensing fees,patent fees, and other fees. The main (federal) taxes on businessesare a 35 percent tax on profit (income) and a 20 percent value-addedtax. In short, that’s already 55 percent that you have to givethe state. But that’s not all that they extort from you. Another40 or 45 percent gets taxed away by various local authorities.As a result, many businesses don’t even have enough money leftto meet the payroll. A businessman must either resign himselfto the fact that increasing production will remain only a dream,or trick the government, so that he can save part of his incomefrom the tax man.
In the drive to fulfill its short-term need to fill the budget,government at every level is chopping off the branch it sits on,by increasing the already unbearable tax burden on businesses.
Small businesses, who, as everyone knows, are the only ones whocan save the economy, waited with hope for a tax exemption promisedby the government. After the law "On the Simplification ofthe Tax System, Accounting, and Liability for Small Businesses,"went into effect, taxes on small business were calculated on thebasis of total income alone.
The following rates were established: 10 percent of total taxableincome to the federal budget; no more than 20 percent to the budgetof the federation subject and the local budget. In sum, a taxof 30 per cent of total taxable income. It looked wonderful butsomething was fishy in such an enormous reduction.
Will the new law lighten the burden on small business? Will itintroduce a more reasonable principle into tax policy? Independentexperts of the Russian Chamber of Commerce do not believe thatthe Ministry of Finance can propose such a large reduction inthe tax burden. A closer study of the tax rates quoted above confirmsthis sad proposition.
If the single tax rate were calculated only on an enterprise’sprofit, then 30 percent could be seen as a reduction. But whenthe taxes are calculated on the basis of total income, the lawincludes the money which goes to paying workers’ salaries as well,which increases the tax base. What a "privilege"!
What the government calls "simplification of accounting andliability" for small business actually makes businessmen’s’lives much more complicated. Now the quarterly income reportshave to be accompanied, not by a balance sheet, but by all possiblefinancial documentation: ledgers, cash books, payment orders…Every time you pay the tax, you have to go through a completeaudit by the Tax Service, which used to be an extremely rare occurrence.Some accountants openly say that such audits make it harder forsmall firms to carry on their work in the "shadow economy,"which, of course, does not make it any easier for them to survive,but only strangles them.
Thus, the new law does not provide any protection to small business.Boris Altshuler and Viktor Sokiro, experts at the Moscow ResearchCenter on Human Rights, are much harsher in their assessment ofthe law: "The hopes of small business have been deceived,for the suggestions of small business owners were only given lipservice, and have not, in fact, been accepted."
And businessmen themselves, in discussing the new law at the RussianAssociation to Support Small Business, said that it was betterto hide from the Tax Inspectorate and pay off the racketeers thanto live in eternal and humiliating slavery to government bureaucrats.And if the state really wants to come to terms with, if not itsrichest, then its most hard-working citizens, who have survivedin spite of all these taxes, then it must offer small businesstax conditions which are easier to meet, and more suitable, thanthe extortion of bandits and corrupt government officials.
Will We Live to See the Audit?
The penalty for not paying any tax is, naturally, a fine of theamount hidden from the tax authorities. And for a second offense– the fine is doubled. For small transgressions like missingthe deadline, the fine is 10 percent of the total calculated tax.
Possibly, these sanctions would be effective, like the fine fornot presenting one’s annual income declaration to the local taxauthorities. But what Russian, and especially what Muscovite,does not know the saying now popular among the prosperous partof the population: "A tax audit, like a snail, is alwayscoming, but never quite gets there…"? The point is thatthe government, true to its old habits, is economizing on thestaff and upkeep of the Tax Service, which is like trying to economizeon matches when you’re in the dark. Dmitri Chernik spoke withgrief about the results of such a policy: "Each tax inspectorin Moscow is officially responsible for 200 businesses. In fact,the number often reaches 300.
It turns out that if a tax inspector audited each of the businessesunder his supervision in turn, he would get back to the firstone in…30-35 years. And most likely, the business would no longerbe at that address by that time. And in the best case, the taxinspectorate can only check the validity of a citizen’s incomedeclaration, for example, for 1995, five years later. In short,that’s closing the barn door when the horse is already gone. Andthat is in Moscow, where the Tax Inspectorate is the strongest.In the provinces, the wait is even longer.
I was shocked when I found out what Tax Service employees in thecapital were paid. This is directly linked to the discipline intax collecting. Last year, the average salary there was 427,000rubles a month, plus a food allowance of another 250,000 rublesa month. This is barely over the poverty line in Moscow. Can anyonebe surprised that the "tax men" take bribes for notchecking a citizen’s income declaration, or for closing theireyes to the fact that a business has concealed a significant partof its income?
Remember that 40 or sometimes up to 50 percent of projected taxrevenues remain uncollected. Could it really be otherwise, ifthe tax collectors are near-destitute? And if the taxes are stranglingbusinesses — the main source of tax revenue?
The ones who pay taxes are those who do the work; those who arehalf-bankrupt pay the bribes. Wishing to collect more in taxesthan businesses are able to pay, the Russian treasury has nothingto show for it but a colossal hole in the budget. Only a reasonabletax policy can liquidate it. Possibly, it will be worked out inthe new tax code, most of which has already been passed by theState Duma. But an analysis of the part of this code which dealswith the principles of the tax system, in the opinion of experts,shows that relief is not in the cards. But that’s already anothersubject.
Translated by Mark Eckert