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Apparently, the situation of small businesses is determined not only by their tax environment.

However, the effect of taxation on the distribution of resources among the branches and sectors of the economy may be significant.

In this connection, the priorities of the tax reform as concerns small businesses in Russia should include, first, new incentives for development of small businesses, and, second, measures aimed to decrease tax evasion on the part of relatively large enterprises related to operations via small businesses. The second goal is important not only in fiscal terms, but also as a means to create normal competitive environment for small businesses. Tax evasion by concluding transactions between enterprises subject to different rules determining their tax bases allows to minimize tax obligations as compared with any other, even preferred, regime.

However, the real small enterprises in the sense that they bear high alternative costs of taxation can not use this form of minimization of tax payments and therefore risk to operate in even worse competitive environment than in the case no special regimes were applied in the economy. At the same time, in order to facilitate rapid development of small businesses, form a competitive economic environment, and facilitate employment and self employment, it seems feasible to somewhat reduce budget revenues generated by small businesses on condition that the decrease in the tax burden shall be extended only to real small enterprises. Besides, it would be feasible to permit small enterprises keep tax accounting according to a simplified system.

The key problems encountered in the course of elaboration of special tax regimes for small businesses were more thoroughly analyzed in the IET survey for 2001. In the same pub Source: Goskomstat, collection Maloye predprinimatelstvo v Rossii (Small Businesses in Russia), 2002.

RUSSIAN ECONOMY in trends and outlooks lication, there were offered respective feasible options. This section focuses on the analysis of the new articles of the Tax Code approved in 2002 and certain draft laws submitted to the State Duma.

As it was noted above, proceeding from the declared priorities of the reform the main criterion of evaluation of recommendations aimed to simplify taxation is the real reduction of the tax burden and minimization of tax related costs of small enterprises at the same time preventing tax evasion on the part of enterprises other than small businesses. Unfortunately, the majority of materials concerning the reform of present system did not answer this requirement29. The systems proposed for discussion provided considerable opportunities to evade taxes (to a considerable extent these opportunities remain available in accordance with approved articles 26.2 and 26.3 of the Tax Code): for instance it is the opportunity to mask a business as a small enterprise or formally divide an enterprise into several small businesses, or create small businesses as profit generating units within a controlled group of enterprises.

The considerable opportunities to evade taxes contained in drafts proposed for discussion resulted from the very wide sphere subject to the new regime, while no tight constraints were put on the scope of enterprises operations. The list of admissible operations included retail trade, household and transport services, construction and repairs, other services, agriculture, industry, the sphere of science and technology, etc. While household services and retail trade are natural spheres of small entrepreneurship, where the risk in terms of tax evasion is reduced to the division of enterprises in smaller businesses and the use of different regimes by enterprises engaged in similar types of activities and belonging to the same owner, in the case services are provided to other enterprises the risk of tax evasion increases considerably. At the same time, these systems fail to create serious incentives for development of small businesses in Russia.

It seems not feasible to include in priorities relating to the systems of taxation of small businesses the reduction of tax evasion in the sectors where it is difficult to control parameters forming the tax base. The current system of taxation of imputed incomes and respective proposed legislation attempt to settle this problem by introducing this regime as mandatory for certain types of activities. This decisions seems to be wrong and will result in a sharp limitation on the scope of implementation of simplified taxation systems and losses borne by bona fide taxpayers. As concerns the types of activities where tax evasion is prevalent and difficult to detect in the course of ordinary tax inspections, it is possible to apply minimal imputed tax significantly lower than in the framework of a voluntary chosen system.

Articles 26.2 Simplified taxation system and 26.3 Taxation system in the form of single tax on imputed incomes as concerns certain types of activities30 of the RF Tax Code approved by federal law No. 104 FZ of July 24, 2002, are not free of the shortcomings charac It concerns, for instance, the package of draft laws elaborated by the RF Tax Ministry and Ministry for Trade and Economic Development, which includes following draft articles of the RF Tax Code: Charge for the right of trade; Simplified system of taxation of individual entrepreneurs operating on the base of patents; Single tax on imputed income as concerns certain types of activities; Simplified system of taxation of organizations and individual entrepreneurs; as well as a draft federal law On amendment of the Tax Code of the Russian Federation (as concerns the simplified taxation system applicable to small businesses) introduced by I. D. Grachev and O.

G. Dmitrieva, State Duma deputies (June 27, 2001).

For a brief summary of these articles, see this survey, section A Review of Changes in the Legislation Regulating Taxation Issues in the Russian Federation. The provisions not presented in this section or being of special interest from the viewpoint of this section are described below.

INSTITUTE FOR THE ECONOMY IN TRNSITION http://www.iet.ru teristic of taxation regimes applicable to small businesses in force before 2003. Many provisions of the taxation regime introduced by these articles infringe upon the neutrality of taxation, while failing to create favorable conditions for the majority of small businesses. At the same time, they provide considerable advantages to those able to create several enterprises using different regimes and distributing different types of incomes and expenditures among enterprises under different regimes in order to minimize tax obligations.

At the same time, some of the provisions of this taxation regime, although criticized, are acceptable compromise allowing to reduce tax evasion via small businesses, while not hindering those in real need of the simplified system.

Thus, the provision substituting VAT with the single tax on the results of economic activities is justified in the case there is no mechanism of detection and punishment of abuses taking advantage of different terms of determination of incomes and expenditures following the cash basis accounting method applied under the simplified regime and the accrual basis accounting method. For instance, the fact that those taking advantage of the simplified regime can not be payers of VAT, what renders unprofitable to create artificial intermediaries (or organizations making insignificant changes in products for sale to enterprises using these products as factors of production) in order to delay tax payments by utilizing the delays in payments of entities using the accrual method to entities using the cash method.

The constrains on the direct share of other organizations in those using the simplified system (25 per cent) are important factors partly mitigating the problem of tax evasion on the part of groups of affiliates, however, their effect is limited (Article 246.12, item 3, subitem 14). For instance, tow enterprises operating under different tax regimes may belong to the same owner. It is also possible that the same person indirectly participates in different organizations (the share of such a person may be rather considerable). Besides, there remain the possibility to substitute dividends from a large enterprise with income from a small enterprise (a legal entity or an individual). At the same time, in the case enterprises where the shares of the same owner are even larger are not engaged in similar activities and do not conclude mutual transactions, the possibilities to minimize taxation via small businesses are limited. It shall not be excluded that there may be introduced limitations solving a number of problems relating to tax evasion and abuse of specific tax regimes. For these purposes, the eligibility of an enterprise for the simplified regime shall be determined basing not only on the income of and the number of employees at the enterprise applying for the special regime, but also on the aggregate income of and the number of employees at all enterprises affiliated with the applicant enterprise, concluding mutual transactions with this enterprise, or were engaged in similar types of activities. It is more difficult to administer this regulation than limitations set forth by the Code, however, such advantages as, first, the possibility to simplify a number of other terms of the regime, and, second, to use in the future the automated information system of the RF Tax Ministry thus considerably reducing the costs of administration, overweigh the difficulties.

It is very important to introduce limitations concerning the amount of gross income. Article 26.2 sets the respective amount at Rub. 15 million a year. This parameter gave rise to the most heated debate. Different options were argued, including the abolition of the limitation.

The Government originally proposed to set the limit at Rub. 10 million. However, it seems that limitation can not be reviewed separately from other limitations and the ability of tax authorities to administer such limitations. The limit of gross income at Rub. 15 million might be considered as acceptable for enterprises under the simplified regime taking into account the RUSSIAN ECONOMY in trends and outlooks Russian realities in the case there were introduced some other regulations preventing the creation of several affiliated enterprises all or some of which using the simplified regime in order to minimize tax obligations. In the case no such limitations are introduced, the limit should be set at the amount rendering the use of the simplified regime less suitable to evade taxation, since constraints on the amount of income making enterprises eligible for alternative regimes at the same time limit the amount of transactions such enterprises may conclude and, therefore, minimize the possible gains resulting from the decrease in tax obligations achieved via such transactions. Creation of affiliates in order to evade taxes has its costs, therefore, in the case these costs are comparable with the potential gain resulting from the decrease in taxes, it becomes less advantageous to use this form of evasion. It seems feasible to initially set the limit at Rub. 4 million a year (the amount making taxpayer eligible for exemption from VAT). Later, the limit may be increased as possible shortcomings of the regime are detected and corrected.

The limitations on the number of employees make enterprises employing up to workers eligible for the simplified regime (Article 246.12, item 3, sub-item 15). It is difficult to imagine that such enterprises do not employ professional accountants. Therefore, it may be assumed that such enterprises will take advantage of the simplified regime not to simplify accounting, but rather to minimize taxes. In the case it is taken into account that there are no sufficient barriers to pay wages and salaries at large enterprises via small enterprises, this limit seems to be set too high.

The value of assets set at Rub. 100 million (Article 246.12, item 3, sub-item 16) could become a serious constraint. However, this provision concerns only depreciable assets, i.e.

fixed and intangible assets. In the case an eligibility criterion for simplified regimes is the limitation on property, it would be more feasible to limit the amount of inventory holdings, since the aforesaid limitation on the depreciable assets only rarely may be significant for real small businesses, while possible misuse of assets for the purposes of tax evasion may be prevented by other means. Besides, in order to determine if an enterprise is eligible according to this requirement it would be necessary to evaluate the residual cost of depreciable assets at the end of each reporting period, i.e. to keep accounting of depreciable assets, what significantly increases the tax related costs borne by small businesses. Moreover, the amendment introduced by federal law No. 191 FZ of December 31, 2002, sets forth the requirement to evaluate residual costs in accordance with the laws of the Russian Federation on accounting, i.e. introduces additional accounting of fixed assets. However, the accounting of fixed assets is a most difficult component of accounting and it shall be noted that double-entry accounting is easier than keeping income and expenditure ledger.

An important factor is the limitation on the taxpayers right to choose between the simplified and general regime (Article 346.13, item 7). At the same time, in order to curb possible abuse it would be feasible to increase the period after which it is permitted to turn to the simplified regime again up to three year. However, the original version of the article permitted to turn again to the simplified regime only after two years of using the general regime, while federal law No. 191 FZ of December 31, 2002, amended this provision permitting to return to the simplified regime after one year.

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