Ukraine. VAT in Agriculture
http://4liberty.eu BSSB.BE 13.02.2015
In all EU countries VAT is a main source of fiscal revenues. Between 2002 and 2012 VAT revenues accounted on average for 17.3% of total general government revenues or 6.9% of GDP. The level of VAT revenues depends on applied VAT rate (standard and reduced) and provided exemptions.
.1 VAT: regulation and problems VAT was introduced in Ukraine in 1992 and replaced the previous, Soviet-type turnover tax. The initial VAT Law mostly followed the European legislation.11 The tax became important for Ukrainian economy as it currently brings about one third of consolidated fiscal revenues and accounts for near 10% of GDP.
Several VAT rates are applied in Ukraine:
- Standard rate at 20%,
- 7% on medicines and medical products (introduced in 2014).
- Besides, there are number of tax exemptions.
As in all countries with VAT exports is subject to zero-rate VAT to avoid double taxation of exporters. However, timely and full VAT refunds remain a traditional problem putting additional costs for exporters and reducing their competitiveness.
To solve the issue the automatic VAT refund mechanism was introduced in March 2011. However, by the end of 2013 only near 40% of refunds were made automatically. This mechanism still did not help to avoid accumulation of VAT refund arrears due to high fiscal gap.
At the same time, VAT administration is perceived as expensive and complicated, which makes business operation more costly. The evidence suggests that VAT is vulnerable to fraud and tax evasion, which undermines fiscal revenues. The major reasons for this are identified by international experience:
– Non-registration for VAT.
– VAT credit is claimed for non-creditable purchases, such as a car used for nonbusiness purposes.
– Understated sales.
– Inflated claims for VAT paid on inputs.
– Credit is claimed for tax paid on inputs used in producing goods exempt from VAT. This is especially possible if a firm sells both exempt and non-exempt goods and services, since it is not always possible to link specific inputs to specific outputs.
– Zero-rated exports are diverted to the domestic market. The producer obtains export papers, claims a refund, and then sells the goods locally.
– VAT is collected by a firm, which does not transfer it to the fiscal office, and then disappears. In Ukraine such firms are known as one-day-survive firms.
Moreover, high share of shadow economy (estimate by the Ministry of Economic Development and Trade at over 34% of GDP) results in large lost fiscal revenues due to tax evasion.
All these problems raise issue to substitute VAT with another tax (e.g. sales tax or turnover tax), which is assessed to be inefficient and unjustified.16 Therefore, Ukrainian Government should improve VAT administration and timely refund VAT, which is due to improve business environment.
.2 International obligations of Ukraine
According to the WTO obligations Ukraine is required to ensure equal treatment of domestic companies and importers in terms of taxation. The signed Association Agreement with the EU17 envisages the obligation of Ukraine to harmonize tax legislation.
The VAT regulation should mostly comply with the EU Directive Within five years of provisional application of Association Agreement (i.e by 2020) VAT legislation should be harmonized with EU rules on special taxation schemes among other things. The Government should attempt to ensure timely and full VAT refunds.
One of the obligations taken by Ukrainian Government within cooperation with the IMF also relates to VAT. In particular, the IMF program signed in 2014 envisages reduction in tax exemptions. In particular, reform of agricultural taxation is to be conducted. The Program stipulates the intent of Ukrainian Government to bring preferential VAT treatment of this sector closer to the general VAT regime
Support of agriculture
In Ukraine direct state aid to agriculture remains low as compared to the EU countries.20 During recent years, though, there is a favourable trend of increasing share of growth-enhancing measures (green box measures), while financing of production subsidies (amber box measures) reduced.
Among amber box measures, which are considered to be market distorting, more than half of fiscal expenditures are allocated for financial support (e.g. state subsidies to livestock and crop sectors), while the rest is mostly spent for support to horticulture, wine grapes and hops and food security.
The largest shares of spending for growth-enhancing measures are allocated for administrative costs (near 40%) and education (30%). However, administrative costs do not always translate into efficient support of agriculture, while education related to agriculture should be reformed as agrarian companies often complain about the low qualification of graduates who do not required skills for work. Executed subsidies are traditionally lower than planned targets of fiscal support, which might indicate the lack of priority for agriculture development in policy agenda.
Direct state support to agriculture remains low due to high fiscal pressure. Moreover, it is perceived to be rather unfair and inefficient. Such support was somewhat balanced by indirect state aid to the sector provided through special taxation schemes for agricultural companies:
– Fixed agricultural tax (FAT).
21 It is important for agricultural producers as it exempts
companies from paying enterprise profit tax (see Appendix 5 for the description of
– Special VAT regime.
In nominal terms, the volume of these benefits grew from UAH 1.5 billion in 2001 up to over UAH 18 billion in 2012.24 However, the share of tax benefits in the gross output decreased from 6% in 2001 to 3% in 2012 due to changes in the application of these taxes25 as well as growth of agricultural production.
Future agricultural growth in Ukraine is likely to be attributed to higher external demand, which requires more investments into the sector. Taking this into account VAT reform is required to ensure this growth.
As the OECD research reveals, countries with high agricultural exports should tax agriculture by VAT as a regular business. Our assessment also shows that the Government should consider introduction of VAT on regular basis for large agrarian companies with possible special VAT regime for small and medium companies.
However, special VAT regime for small farmers should be harmonised with the European fixed-rate scheme for farmers.
Suggested VAT reform for agriculture would lead to higher investment incentives as companies will be eligible for refund of net VAT liabilities. Fiscal revenues from agriculture are expected to increase, which may lead to lower fiscal pressure and higher fiscal capital outlays into infrastructure. At the same time, the Government should ensure timely and full refunds of negative VAT liabilities and VAT on exports.
As a result, farmgate prices received by large companies are expected to increase, thus, financial position of companies will improve. Generally, the Government should ensure that these reforms do not harm further sustainable development of agriculture.
To ensure expected positive outcomes of VAT reform for agriculture the Government should first implement other more broad macroeconomic measures.
Fiscal consolidation measures should be finalised. Only sustainable and sound fiscal situation will allow the Government to refund fully and timely negative VAT liabilities of agricultural producers as well as VAT on exports. As a result, investment attractiveness of the sector will increase.
Moreover, the public governance should be improved. To become more attractive for investments agriculture as well as all other sectors requires transparent, stable and predictable taxation rules. Tax compliance should be strengthened to minimize fraud in the system. As corruption puts additional costs for agricultural producers and exporters, there is a need for effective anticorruption measures.
Small and medium farmers should have an option to work either on special or regular VAT system. The system of state support of agriculture should be changed. In particular, the state aid should be reformed to ensure equal access to state support programs for agricultural companies.
The list of clear requirements for agricultural companies to receive a state aid should be approved. Publicity and transparency of state aid provision should be ensured. Overall, such changes would result in harmonisation of Ukrainian legislation with the EU standards, which is a required step according to the Association Agreement.
Overall macroeconomic stability and financial sector reform will also favour agricultural development. They will ensure that the companies in the sector will enjoy lower interest on bank lending, which is essential to finance investments.
Photo: Die Ukraine ist der drittgrößte Baumwoll- und fünftgrößte Weizenexporteur der Welt
Bild: © Bigstock
BY THE INSTITUTE FOR ECONOMIC RESEARCH AND POLICY CONSULTING – ON JANUARY 20, 2015