“Grey” grain in Ukraine: causes and consequences
The problem of “grey” export of Ukranian grain has been there for years. According to a number of experts and business associations, we have 30% to 40% of grain exported unofficially. For all intents and purposes, these shortages are too huge both for the budget and legal agribusiness. Our legal experts, contributing to the strong audit and consulting record of Kreston GCG, explained why this is happening and what can be done to solve the problem.
What exactly casts this “shadow”?
There are many factors that can drive up the numbers of illegal transactions with grain in Ukraine. All such transactions have the same origin, i.e. lack of an effective state regulation of the grain market.
More specifically, currency regulations and VAT refunds seem to be that very weak spot of the Ukrainian grain exporters. VAT refunds, even with the automatic system, still cannot entirely rule out the human factor and, thus, the corruption risks.
When it comes to a currency regulation in Ukraine, one should bear in mind that revenues that Ukrainian companies receive in foreign currencies are subject to enter their foreign currency accounts at authorized banks when debts under the contracts are due, but not later than in 180 calendar days following the clearance of such products (export customs declaration) in pursuance of Article 1 of the Law No. 185 “On the Procedure for Payments in Foreign Currencies” with due regard for paragraph 1 of the Resolution No. 410 “On Regulation of the Situation in the Monetary-Credit and Currency Markets of Ukraine”). Breaching these timelines will result in 0.3% fees for each day the foreign currency earnings are lost as translated in UAH at the exchange rate of the National Bank of Ukraine at the date such debt occurs. That said, banks have no right to lift the currency controls on export transactions with documents that discharge liabilities by setting off homogeneous counterclaims.
Moreover, the National Bank of Ukraine has extended the surrender requirements to sell 50% of Ukraine’s foreign currency proceeds obtained by non-resident legal entities (Resolution “On the Imposition of Surrender Requirements” No. 129 dated 13 December 2017″).
There are more problems for a domestic exporter such as the process of obtaining a certificate of origin and passing the grain ecological control. Registration of such documents takes time and delays the export of grain. Therefore, exporters often obtain certificates in hinterlands, which makes the export cheaper.
Apart from the tax system and currency control, Ukraine also has transportation issues. Since logistics routes are still failing to meet modern standards on the export of agriproducts, the costs to transport grain from line silos to the Black Sea ports is approximately 40% higher than those of France or Germany and 30% higher than of USA. The end result is that the price of grain does not allow Ukrainian manufacturers and exporters to become viable competitors on the world market.
All these circumstances make agrarians run their business off the radar. Because illegal schemes allow both for more savings and time. It is hardly the matter of tax avoidance alone – farmers bypass the currency control, sell the grain for dollar cash at the juicier market exchange rates than those of the National Bank of Ukraine. Moreover, there is no need to translate the currency to UAH. As an option, a farmer can store foreign proceeds in cash to spend and reinvest these funds when needed.
To mitigate taxes, Ukrainian exporters of grain use different schemes. More specifically, they build chains of multiple companies interrelated by local and international contracts that would often operate from low-tax jurisdictions. This scheme can reduce taxes for exporters at the pricing stage: Ukrainian companies sell goods to an ultimate buyer using a chain of non-resident companies, including low-tax jurisdictions, where the bulk of exporters’ profits are kept.
Form of contract matters
Alas, these are all but a few challenges Ukrainian exporters encounter. Many of them, for instance, often face a problem of supply contracts being drafted improperly. There are standard contract templates drafted by GAFTA (Grain and Feed Trade Association) and FOSFA (Federation of Oils, Seeds and Fats Associations). The standards they offer often allow to reflect the contractual terms of transactions such as the price, quantity, quality and specifications. It is noteworthy that all standard contracts of GAFTA and FOSFA specify the England law in their governing law and jurisdiction clauses, thus, allowing to use agile and sensible rules known worldwide as business-oriented and perfectly tailored to trade raw commodities. Moreover, the conditions of these standard contracts are carefully planned and balanced, respect the interests of sellers and purchasers, contain trader-friendly procedures and terminology. Any company can use these documents regardless of whether it is a GAFTA or FOSFA member.
In Ukraine, these standards are often overlooked. Meanwhile, SMEs may not even know those actually exist. As a result, they conclude poor contracts that are either incomplete or carry little benefit for farmers. The end result is unforeseen events caused by failures to perform payments, supplies, non-compliance with the deadlines or grain storage conditions, theft.
Other complications for Ukrainian grain exporters, especially for small enterprises, are associated with the lack of reliable partners abroad. The government could support Ukrainian grain exporters by engaging industrial ministries, committees, branches, the Chambers of Industry and Commerce, including the trade missions and representative offices in many countries. Unfortunately, these opportunities are not being implemented yet.
Another pressing issue is the lack of funding or lending opportunities for Ukrainian grain producers. That applies both to large and small exporters. Ukrainian government also does a poor job supporting and aiding the agro-processing industry, especially when it comes to the grain.
What is the government thinking?
Saying that the government idles by and avoids problems with the grain export would be unfair. There are many attempts to invigorate the business climate made on a constant basis. Most significant changes were adopted in 2014-2015 when the EU autonomous trade preferences took their effect for Ukraine and the government started deregulation of other industries.
For instance, those years marked the lifting of an obligatory quality certification for grain and its products and certification of storage conformity. In 2015, the Ministry of Agrarian Policy and Products of Ukraine developed the Single and Comprehensive Strategy for Agriculture and Rural Development in Ukraine for 2015-2020. Agricultural reform boils down to the following principles: euro integration, deregulation, decentralization and management efficiency of state-owned assets. Alas, many ideas specified in the document have not been implemented yet.
Apart from that, the government extended its list of entities entitled to a VAT refund. This measure drove the grain market out of balance. Given that grain traders had no right to a VAT refund from export transactions, the state support for domestic producers boiled down to a support of grain trading companies.
The VAT refund was abolished on 1 January 2015, while all grain export transactions were VAT-exempt before the end of 2017. After that, quarantine certificates were abolished. These certificates allow one to move grain inside the country and were often used in corrupt practices. In that same period, the government reduced the time required to obtain a phytosanitary certificate from 5 days to 24 hours. Compare it with the EU countries, where this procedure takes 2 hours. That said, this new measure reduced the detention time for vehicles and allowed cutting the costs of ship chartering.
Attempts are being made to reach an agreement with international representatives to provide better terms for Ukrainian exporters, increased sales quotas and more trade preferences. Today, however, they fail to provide the result needed. According to our international partners, this failure owes to poorly designed Ukrainian laws (as far as the commodities export is concerned), strong bureaucracy and corruption.
Ukrainian statespersons are also engaged to resolve this “grey export” issue at the state level and through tax policies by adopting quotas, limitations and bans, increasing tax rates and using local industrial regulations. From time to time, we can see news on how tax authorities reveal some schemes that allow for a “grey export” of grain and tax avoidance in Ukraine.
Such evidence can only prove that the government has set sail to solve problems with the “grey export”. Alas, not all the measures adopted were successful. Some new solutions give preferences to specific players on the grain market and infringe the rights of others.
The most striking example came in 2015 — an arrest of grain shipments (just before their dispatch) belonging to three largest international traders in Ukraine: Bunge, Glencore, Louis Dreyfus. It was later revealed that agents working for these companies used off-shore schemes to purchase grain. Therefore, “grey export” inflicted damage on large and respectable companies.
More importantly, the government’s measures are rather local. They solve only part of problems, while the entire market remains unchanged.
In pursuance of Article 25 part 2 of the Economic Code of Ukraine, the government bodies and local authorities regulating the economic activity are forbidden to adopt acts and perform activities that would result in privileges for business entities (regardless of incorporation), or that can put business entities at a disadvantage, or otherwise breach the rules of competition. Failure to meet this requirement will allow anti-monopoly/anti-competition agencies and business entities to challenge such acts as governed by the law.
The reasons behind a “grey export” of grain lay in the ineffective governmental control of the grain market, i.e. a complicated and poorly designed taxation system. On part of the government, there is no efficient support of law-abiding Ukrainian exporters, including the small- and medium-sized ones. The latter struggle to find reliable international partners and are often subject to fraud.
On the bright side, the Ukrainian agrarian community already has the solution. Entrepreneurs have long called the government for collaboration to solve a great many of problems and create an efficient grain export market. The January sessions held by the American Commercial Chamber in Ukraine can attest to that.
On our part, Kreston GCG is ready to support Ukrainian producers and exporters of grain by providing the professional legal and forensic consultations, tax and transfer pricing consulting. Moreover, we are ready to provide legal services and help you with the tax planning, execution of contracts and support the transactions of Ukrainian exporters on the agricultural market and settle any disputes.
Find our vast array of services on the Kreston GCG website or contact us by phone or social networks.
This article is brought by the legal department of KRESTON GCG.
This post is also available in: Russian