In the IT industry, specialists who deliver services as independent contractors often have a need to raise additional funding. In order to not be confused by the need of legal support of loan relationships between the contracting parties and not to get into the trap of tax liability accruals – let’s take a look at a few instances.
We will address the occurrences when a lender is a non-resident and a legal entity registered within the jurisdiction of Ukraine.
Occurence one. Non-resident entity lends a loan to an individual entrepreneur. In this case, funds could be raised under interest or interest-free terms. However, until recently, there was an obligation to register such agreements – containing a foreign element – by the National Bank of Ukraine. Although, considering liberalization of exchange control, the Regulation, setting the rules was repealed, the obligation to register agreements had been left in the past, but there are some details with which compliance is obligatory.
Borrowers must have an open foreign currency account in a Ukrainian bank, which will be used for borrowing. The main moment of raising such a loan is in accordance with the external lending cost of a separate agreement within similar market conditions (particularly, discount rate in a jurisdiction of non-resident must correspond to the loan conditions).
Moreover, banks performing such operations must submit official information providing correspondence of the matter, and amount, of the loan to the financial state and context of activities of the individual entrepreneur and lender. Additionally, the bank must have no grounds that the lender and borrower are related parties according to the Tax Code of Ukraine. It is worth mentioning that transferred funds are firstly processed to the clearing bank account, and after passing the bank`s verification are transferred into the individual entrepreneur`s account and become available for use.
Having an alternative variant when a non-resident owns a subsidiary registered within the jurisdiction of Ukraine, it is worth considering a model of raising funds from a Ukrainian company.
However, if an individual entrepreneur has an open currency account abroad (in the EU countries, generally), funds can be raised into that account without the need to perform actions mentioned above. Considering the opportunity to use such an account in the Single Euro Payments Area (SEPA), the process of raising funds into such an account shall be accompanied with minimal entry fees. But withdrawing funds into Ukraine is possible through the banks supporting European IBAN.
Sure, if an individual entrepreneur or an individual has an open account in a foreign bank institution, Ukrainian tax authorities cannot track such operations, but if those funds are transferred into an account of an individual in Ukraine – it shall become a ground of recognising such funds as the ones originated from abroad, what leads to paying individual income tax and military tax.
Now let’s take a closer look at the features of raising a loan when a lender for an individual entrepreneur is a legal entity within Ukrainian jurisdiction.
In this case a loan agreement is concluded, in which it is obligatory to mention that interests for using it are not calculated. In that case such a loan is seen as repayable financial aid according to the Tax Code of Ukraine.
From the moment of transfer of such money into the entrepreneur’s account, an individual entrepreneur has 12 calendar months to return the funds to a lender. In the loan agreement also must be mentioned the order of transfer and return of the amount of loan.
For an individual entrepreneur`s financial reporting, it is important that the amount of the loan, received according to the agreement, was returned to a lender within the term mentioned in the Tax Code of Ukraine(12 months) – then those funds will not be included into the income of the payer of the individual income tax. If the amount of financial aid is not returned to a lender – it will be taxable on individual income tax and military tax.
The next important instance is the interest-free nature of such loans. According to the Ukrainian laws “credit” is considered as a financial service, but only financial institutions can provide financial services, a lending company is not one. Hence, if a loan is of interest-bearing nature, it could be a ground for recognizing such loan agreement as a financial credit agreement and a ground for the lending company to be inspected by the controlling authority.
Also, it is necessary to mention the opportunity to establish collateral in the agreement. Civil legislation of Ukraine allows establishing collateral on property which the collateral establisher – individual entrepreneur – shall receive after collateral occurrence. In other words, with agreement, the purpose of transferred funds and subjects of collateral – property acquired by an individual entrepreneur after using funds received by the loan agreement, is stated.
The risk of such a model is that an individual entrepreneur will use the money acquired not for performing economic activity or that they may transfer acquired funds into his personal account. Such activities may attract tax authorities and if the use of funds on non-entrepreneurial activities will be established – they will be taxable on individual income tax and military tax. In order to avoid such problems, funds can be transferred into a private individual`s account, not an individual entrepreneur`s account. In this case, an individual can use those funds to satisfy his/her own needs, and it will be possible to establish a collateral, but it is necessary to keep in mind about the 12-month term for the loan repayment and interest-free nature of the agreement.
To conclude, practical mechanisms for funds raising are available for various subject contents of loan relationships. In each case it is necessary to find a thorough approach of a proper legal support of such relationships involving competent specialists who may assist.
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