Russian Federation: Tax Alert - 11/97 - Deductibility Of Management & Consultancy Fees

Last Updated: 3 September 1997
The tax authorities have been taking an increasing interest in the arrangements into which companies have entered in respect of management and consultancy agreements.

Because of the tendency for companies to incur significant expenditure outside Russia, such as for example expatriates salaries and recharge these as a management fee the amounts can be substantial.

Deductibility of management / consultancy fees

Following a number of cases where the deduction of management/consultancy fees for profits tax purposes has been challenged by the tax authorities we believe that it is important that companies review the documentation that they have in place to support the payment of management or consultancy fees. Because of the rigid approach adopted by the tax authorities, the cases of which we are aware in which the deductibility of such fees was disallowed have generally involved deficiencies in the documentation. It is therefore important that the documentation is watertight. In particular:

it is necessary to ensure that the service as described in the agreement is in accordance with the actual service provided;

the services should be deductible in accordance with specific and general requirements of Regulation 552, e.g.:

General requirements

The services must fall within the general items provided on regulation 552 ( i.e. management, consultancy, information services etc)

Specific requirements

  • the company's internal documents and operation should support the claim that the management function performed by the supplier cannot be performed internally. This is a requirement under regulation 552;
  • consultation received relates to deductible revenue expenditure and not capital or non-deductible expenditure, etc.;

appropriate, reasonably detailed and preferably Russian language documentation is in place, including:

  • an agreement (determining among other terms, the price or the way in which it is calculated);
  • giving-receiving acts confirming that a specific service was provided and accepted;
  • since the invoice is issued by a foreign company, it does not have to confirm the requirements of a schet factura (see Tax Alert 1/97 - 21 January 1997). However, in practice the authorities are more likely to accept it, the closer it is to a Russian invoice.

Apart from keeping the above documentation it is necessary to be able to provide documentary support concerning the character and the volume of the service received with an adequate description of the specific work performed sufficient to justify the amount on the invoice. Documentation should stress the service received rather than provide an analysis of the underlying component costs.

Management and secondment agreements

The Russian tax authorities are paying increasing attention to management and personnel secondment arrangements of foreign investors in Russia.

Usually multinational holding companies provide management assistance to their Russian subsidiary companies, including the provision of management personnel and other related services performed in the Russian territory. To reduce the risk of constituting a permanent establishment (taxable presence) in Russia it is advisable that a foreign management service company should have no presence and, in particular, no tax registration in Russia.

There is currently debate as to whether being a shareholder in the Russian company reduces the risk of the foreign company being regarded as constituting a permanent establishment in Russia. According to Instruction 34, a foreign company will not constitute a permanent establishment if it is a shareholder in a Russian company and is carrying out activities specified in the charter of the Russian company. There is some debate as to whether this means.

a) a company can avoid an activity which would normally be regarded as creating a permanent establishment if it becomes a shareholder and the activity is specified in the charter; or

b) a company which is carrying out an activity which would not normally be regarded as giving rise to a permanent establishment would not be deemed to give rise to a permanent establishment just because it is a shareholder in a Russian company.

While the wording of the legislation suggests the former, the latter is more logical. The tax authorities have expressed the view that this provision should not protect a company which is not carrying out an activity normally included in the charter. In view of this we do not advise that you place reliance on this provision and it is therefore important that the arrangements are documented as far as possible to minimise the risk of the foreign company constituting a permanent establishment. In particular it is important that

  • the secondees should work under the exclusive direction and control of the Russian company throughout the period of their assignment in Russia.
  • the secondees should not be entitled in any way to represent, execute contracts for or otherwise bind the foreign company during the terms of their assignment in Russia.

In order to subscribe for shares in a Russian company non-resident investors have previously had to:

a) either make sure that the Russian investor receives a CBR licence for foreign currency capital contributions, or

b) contribute to the charter capital from a rouble account (I-account) in a Russian bank.

In the past, before simplified regulations for the opening of an I-account for certain investments came into force, in order to open an I-account a non-resident company was required to have a full registration with the Russian tax authorities. As a result, many foreign companies providing management services to their Russian subsidiaries have been registered with the tax authorities solely for the purposes of opening I-accounts. This clearly conflicts with the requirement that the company should not be registered with the tax authorities.

Currently we are aware that some investigations of such foreign companies have been performed by the Russian tax authorities. They argue that since the foreign company has a registered representative office in Russia and performs management services in the Russian territory, this foreign company should become a payer of VAT, turnover taxes and, sometimes, profits tax in respect of income earned from the management services. In the case of VAT and turnover taxes the argument is difficult to challenge.

If a non-Russian company in your group is registered with the Russian tax authorities for the purposes of opening an "I" bank account in Russia and provides any services to Russian companies, it is important to be aware of the risks involved. Please do not hesitate to approach your usual contact person in the tax department of Coopers & Lybrand to discuss the issue in greater detail.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

For further information contact Alla Shaulina on tel: +7 503 232 5511 fax: +7 503 232 5522 or e-mail directly: or enter a text search 'Coopers & Lybrand' and 'Business Monitor'.

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