• On 1 April 2022, the Draft Law was passed in the first reading. The Parliament has ruled to prepare the Draft Law for the second reading under the expedited procedure. The text of the Draft Law for the second reading has not been made public yet.
   
• Targeted Businesses are defined based on multiple criteria. Thus, a Ukrainian subsidiary of multinational enterprise groups (MNE) may be regarded as a Targeted Business if any of the group's members receives Russian-sourced income. The criteria used to define the Targeted Businesses will also apply to non-residents performing their activities through a permanent establishment in Ukraine.
   
• The Targeted Business will not be able to enjoy the newly introduced special single tax regime, i.e., 2% gross-based special single tax regime.
   
• The Draft Law proposes to create the Register of the Targeted Businesses.
   
• The Draft Law provides for a self-reporting mechanism for the inclusion in the Register of the Targeted Businesses, i.e., the taxpayers will have to assess whether they fall within the definition of the Targeted Business. 
   
• The inclusion into the Register of the Targeted Businesses involves the recalculation of — by applying a factor of 1.5 to — applicable taxes from 1 March 2022.
   
• Special rules will apply to the companies intending to exit Russia.
   
• Taxpayers may wish to consider testing their current structures against the proposed developments and the potential impact on the business in Ukraine.
   
• Separately, most bilateral investment treaties (BIT) contain clauses ensuring that national treatment is granted to foreign investments, e.g., the treatment, including taxation, shall be the same as that applicable to residents of the recipient state. We are now assessing the provisions of the Draft Law in light of the commitments undertaken by Ukraine under relevant BITs.

1. Ukrainian legal entities — members of MNEs, if the parent entity/another MNE's participant receives income originating from Russia or conducts transactions that may generate such income. Russian-sourced income is defined broadly for the purposes of definition and includes, for example, passive income received by a group member.
    
2. Ukrainian legal entities — members of MNEs, whose participants or parent entity provides economic support to Russia. This criterion targets companies that (i) provide free goods, works or services in Russia or (ii) transfer/grant rights in intellectual property objects to Russian residents or residents of other states for use in Russia free of charge.
    
3. Ukrainian legal entities directly or indirectly owned/controlled by Russian residents/citizens/the state of Russia as of 23 February 2022.
    
4. Ukrainian legal entities that receive income from Russia or own a shareholding in another entity (either Ukrainian or non-resident) that receives income from Russia.

The MNE-related criteria will require a comprehensive analysis of companies that may be viewed as participants of the group, as well as a proper definition of the ultimate parent entity.

For the purposes of the tax legislation, MNE means two or more legal entities/formations that are tax residents in different jurisdictions and are related by ownership or control under the recognized financial reporting standards that require:

(i) Preparation of consolidated financial statements

(ii) Preparation of such consolidated financial statements would be mandatory if shares of one of the entities were traded on stock exchange.

Notification requirements — According to the terms of the Draft Law, as of 1 July 2022, taxpayers will have to assess whether they fall within the definition of the Targeted Business. As a part of self-reporting mechanism, the Targeted Businesses will be required to file the first notifications within 60 days from the date of the entry into force of the Draft Law ("Entry into Force").

The tax liabilities, however, are to be recalculated using increased rates from 1 March 2022, i.e., with retroactive effect. It remains to be seen whether this retroactive provision will survive the second reading.

A taxpayer may avoid being reported in the Register of the Targeted Businesses if the taxpayer notifies of its intention to sever its economic ties with Russia. This intention must be reported in the notification filed within the self-reporting procedures, being corroborated, for example, by the parent company's public announcement to cease business in Russia. The Draft Law affords 18 months from the Entry into Force to accomplish the exit. Otherwise, increased taxes and/or tax penalty would apply for all the period from 1 March 2022.  

The Draft Law allows some exemptions that may be introduced, for example, for companies providing the essential goods permitting no substitution. A list of such businesses is yet to follow.

Penalties and tax audits — Failure to file a notification and/or apply increased tax rates may result in tax penalty of 1.5% of the company's revenue. The tax authorities would be entitled to carry out the unscheduled tax audits if they were to receive information suggesting that a taxpayer has economic ties with Russia. Notably, it is proposed that martial law-driven suspension of tax audits will not apply to this type of tax audit. 

Status of the Draft Law — On 1 April 2022, the Parliament adopted the Draft Law in the first reading and ruled to prepare for a second reading under the expedited procedure. The text of the Draft Law for the second reading is not available thus far. We will continue to monitor further developments in this regard.

Hennadiy Voytsitskyi Partner Hennadiy.Voytsitskyi@bakermckenzie.com

Tetyana Zhuravska Associate Tetyana.Zhuravska@bakermckenzie.com