Russia: IP box as a new tax haven

In recent years, many countries around the world have prioritised the development of their IT industries. The limitations and restrictions imposed on much of the world as a result of the COVID-19 pandemic has demonstrated the importance of IT for both business and wider human life. 

Russia is keeping pace with the rest of the world in its desire to stimulate development of its domestic IT industry, and over the last decade has taken а number of steps aimed at creating an attractive business climate for IT firms, including the provision of favourable tax regimes for domestic IT companies. 

Аmong these measures was a two-fold reduction in social insurance contribution rates for IT companies (which was a great help, given that people are the main value in IT companies), and the establishment of a technology and innovation centre at Skolkovo (the Russian ‘Silicon Valley’), where significant tax exemptions are provided for its residents, among other benefits. 

Though these measures have had some positive effects, the demand from IT companies for further state support remains high. 2021 is hallmarked for a set of tax incentives for IT companies known as the ‘tax manoeuvre in the IT-sector.’

Since January 1 2021 Russia has reduced corporate profits tax rate from 20% to 3% and social insurance contribution rates from 30% to 7.6% for qualifying Russian IT companies. To be eligible for these incentives, an IT company had to receive accreditation with the responsible Russian authorities, have at least seven employees, and derive its income from qualifying IT activities, which should account for no less than 90% of the total income of the company. 

In brief, the qualifying IT activities include the sale of self-developed software (or databases) and IT services rendered with respect to these self-developed software (or database) products, and the sale of services and work to develop and design electronic products. It is worth mentioning that some activities were excluded from qualifying as IT activities, for example, Those which in nature were marketing via internet marketplaces. 

Like any other legislative changes which have not been thoroughly tested in practice, the tax provisions inevitably lead to uncertainties and questions from taxpayers.

For instance, what if a company modifies and adapts software, but the IP rights to them belong to another company? What if a company installs or tests software that is not self-developed? Could these companies use the IT tax incentives?

The Russian Ministry of Finance keeps issuing clarification letters to answer taxpayer questions in this respect, yet it is tax audits and court practice which will showcase the acceptable approaches and real answers to these questions.

In contrast to the quite beneficial provisions on profits tax and social insurance contributions, the changes to VAT legislation were not so generous for taxpayers. Though the legislators generally retained existing VAT exemptions for the sale/transfer of rights to software and databases, the exemption was limited to Russian software only (i.e. software included on the register of Russian computer and database programs), whereas previously it had been available for any software irrespective of its origin.

Yet it is possible that even Russian companies may face difficulties adding their software to the register – especially if the company has prevailing foreign ownership (over 50%). In this case, the software developed by the company cannot be included in the register. It is expected that in the near future certain amendments will be made to the legislation that will allow IT companies with foreign participation to register their software so long as control over the IT company is directly or indirectly exercised through the Russian state or a Russian individual, the software and databases are developed in Russia, they are available throughout the entire territory of Russia, and their maintenance and technical support is carried out by a purely Russian company.

So far, the Russian IT community has responded with lukewarmth to these IT tax initiatives. On the one hand, any tax relief is generally received positively, but on the other hand most companies were a little disappointed by the limited VAT benefits, since foreign software accounts for more than half of the Russian IT market, and the limitation could impose an additional tax burden on certain IT companies in Russia.

What also worries the IT community is another, less obvious question, though one which is directly connected with the overall digitalisation of companies in all industries. 

Nowadays, literally everything is being turned into software, and it is not clear where the dividing line is between the software itself and the subject area automated by this software. 

For example, are there still banks left, or have they already turned themselves into IT companies operating in the fintech industry? Do they provide financial services or services to access their software? Or take an online HR agency – does it provide recruitment services or access to its matching software and databases? Should the incentives be available for these ‘digitalised’ companies? 

While the answer to these questions now seems to be ‘no’ rather than ‘yes,’ these companies continue to incur significant expenses on software development and most likely will be thinking over potential restructuring of their businesses in order to separate their IT functions into separate legal entities in order to take advantage of these IT benefits. 

Needless to say, any restructuring will require careful consideration, including, inter-alia, from a tax perspective. 

It is too early to draw any conclusions on what the IT tax manoeuvre will bring to the Russian IT industry, but in general it seems to be a big step towards developing a favourable business and investment climate in the industry; a step which could be enhanced by an accompanying set of complex supporting measures from the state, such as ensuring stable economic growth, reforming the education system to enhance the training of IT specialists, liberalising currency legislation, and other support measures.

 

Tatyana Matveeva

Director, KPMG Russia

E: tatyanamatveeva@kpmg.ru

Olga Wollny

Senior consultant, KPMG Russia

E: owollny@kpmg.ru