It is stated in Finansovaya Gazeta that the letter had been stamped by the Ministry of Justice as not requiring registration. However, we have been informed by the Ministry of Finance that such stamp had yet not been impressed on this letter, but that it was expected that the Ministry of Justice would do so in the near future. The legal and practical significance of this stamp is problematic.
DIFFERENT TYPES OF INCOME FROM STATE SECURITIES
The letter of 4 February 1997 distinguishes between the following three types of income on state securities:
- capital gains on GKO trading and the positive GKO revaluation which should be conducted by Russian banks;
- accrued coupon income on certain securities - which is defined as the difference between the accrued coupon paid by the buyer at the time of purchase (if any) and the coupon amount paid by the issuer and/or the accrued coupon received upon sale - this mainly applies to OFZs, Savings Certificates and RAO VSM;
- interest income on other state securities for which payment of accrued coupon should not be performed.
- All the types of income mentioned above are subject to the same 15% profits tax rate; however, the procedures for calculation and payment of the tax is different in each case.
Profits tax on GKO income, including positive revaluation differences, should be calculated by owners selling GKOs on the basis of monthly tax returns (no specific form for the return is required) which should be filed with the tax authorities by 10th of the following month, with the tax being payable within 5 days from the date of submission of the tax return. Profits tax on accrued coupon yield as described at 3(b) above should also be paid in the manner described above.
For Russian banks negative GKO revaluation is allowable for tax deduction on the same tax return only within the amount of the positive GKO revaluation accounted for in the reporting year. Net losses on GKO revaluation for the year may not decrease the taxable base and may not be carried forward.
The requirement for the seller to file the return and pay the tax rather than withholding at source appears to conflict with the law but is easier to comply with from a practical point of view. According to our information, the government bodies responsible for the letter were aware of the discrepancy and are currently seeking an amendment to the law to bring it into conformity with their administrative clarification.
INTEREST INCOME ON STATE SECURITIES
Interest income on state securities, as described at 3(c) above, is subject to 15% income tax by withholding at source. The issuer's authorised payment agent has the withholding obligation.
The letter confirms that this new form of profits tax would not apply to either GKO income or interest income on other state securities issued before the profits tax amendment law came into effect, on 21 January 1997, regardless of whether the income was received before or after this date. This exemption should also apply to supplementary tranches of GKO issues dated before 21 January 1997. The letter also clarifies on what date a security will be deemed to have been issued.
TAXATION OF NON-RESIDENTS
The letter does not specifically discuss income of non-residents from these sources. However, according to our informal discussions with MinFin officials, the tax should always be withheld at source by the payer of income at the 15% rate with respect to both GKO income and coupon income on other securities in the absence of double tax treaty protection. Unfortunately, it is still unclear whether the broker or the actual purchaser will be responsible for withholding if the sale is conducted through a Russian broker or other authorised securities market participant. We are seeking further guidance from the relevant government officials on how these rules will apply to foreign holders, especially in respect of the purchase of GKOs through "S" accounts. We will provide details of any clarifications as soon as they are received.
NEGATIVE REVALUATION OF STATE SECURITIES BY RUSSIAN BANKS
The letter of 4 February 1997 also considers the deductibility of negative revaluation of state securities which are quoted on the Russian Securities Market, such as OFZs and RAO VSMs. Banks which are required to revalue their investments in securities quoted on the Russian Securities Market are allowed to deduct negative revaluation on such state securities (except GKOs) up to the amount of positive revaluation accounted for in the year. Net losses from revaluation may not be carried forward and are not deductible.
For 1996 profits tax, the letter states that negative revaluation of OFZ and RAO VSM may be deducted only if they arise after 1 April 1996 and only within the positive revaluation for the same period (from 1 April 1996 to 31 December 1996). Negative revaluation of GKOs is not tax deductible in 1996 and is deductible in 1997 under the rules described in paragraph 6 above; however, they should be segregated from transactions with other state securities because the positive revaluation of GKOs is subject to a 15% tax while positive revaluation differences on other securities is taxed at the normal profits tax rate.
We have raised with MinFin officials the issue of whether this letter is an attempt to supersede MinFin's Letter No. 130 which was issued as a clarification to Regulation No. 490 and was registered in the Ministry of Justice. Under Letter No. 130, losses on sales of state securities, other than GKOs, are deductible to the extent that the sale proceeds fall within the market price. In MinFin's opinion, this paragraph related only to the difference between the sales price (or the market price) and the balance sheet value of the security after the revaluation. Therefore, only a limited amount of losses might be deductible before 1 April 1996.
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