Why Invest in Ukraine

An Expert's View about Regulatory Bodies in Ukraine

Last updated: 28 Jan 2011

1. Business climate

Since becoming independent in 1991, Ukraine has struggled to shift from a centrally planned economy to a market environment.

Since 2000, Ukraine has implemented significant positive economic and legal reforms. The economy grew at an annual rate exceeding 7% over the period to 2006, including 12% growth in 2004. The growth was fuelled by strong domestic demand, low inflation, and solid consumer and investor confidence.

Ukraine generally encourages foreign trade and investment, and laws allow foreigners to purchase businesses and property (but not agricultural land), repatriate revenue and profits, and receive compensation if property is nationalized. Much reform is still needed, as complex laws and regulations and weak enforcement of contracts by the courts still hinder foreign direct investment.

There has been a lot of interest recently in Mergers & Acquisitions (M&A). The 2006 PwC M&A Survey noted that the M&A market increased in size from USD 2.3 billion in 2005 to USD 3.4 billion in 2006, with an average deal value of USD 45 million. The deal volume rocketed from 85 in 2005 to 171 in 2006 - up 101%, making Ukraine the fastest growing M&A market in Central and Eastern Europe (CEE). The hot industries are manufacturing, financial services and food & beverages. The average deal size in 2005-06 was USD 114 million in financial services, USD 14 million in manufacturing, USD 11 million in retail & wholesale.

Superficially, taxes appear quite low - 25% for corporations, 15% for individuals while value-added tax (VAT) is 20% till 2014 (from 2014 it will decrease to 17%). There are many underlying issues:

    * Restrictions on deductions mean the effective corporate tax rate is close to 30%.
    * Social security contributions can be significant. For 2007, employer contributions to various funds will exceed 36% for employees earning less than USD 1,560 per month (see Section 7.3 for further information).
    * VAT refund constraints, as well as restricted rules for zero-rating sales of services to non-residents, mean that VAT can become a significant cost to business.

Although Ukraine has extensive human capital, natural resources, and industrial potential, it is clear that the country still faces significant challenges.

The 2006 World Bank Doing Business study ranked Ukraine as the second most difficult country in which to pay taxes out of 185 countries surveyed. This has more to do with the level of tax accounting required than intrinsic difficulties in following legislation. Nonetheless, there is clear room for improvement.

Despite political uncertainty over the past two years, the economy has grown steadily and investment has increased.

2. Economic development plans

Following the 2004 Presidential elections, the President's team has focused on improving transparency. Tax privileges for economic zones were removed entirely in early 2005. Privatisation sales have been made more transparent. Some headway has been made in bringing a large hidden economy into the open.

Unfortunately, the government has not developed a clear strategy for reform. The removal of incentives and attempts to unwind questionable privatisations sent disconcerting signals to investors about the stability and predictability of the investment framework.

The transition into a parliamentary system is also likely to present some challenges, so it may be some time before a clear economic blueprint is developed.

3. Free trade zones

There are currently no free trade zones in Ukraine, although there is some uncertainty about what will happen in the future. Parliament supported a draft resolution to the Cabinet of Ministers in August 2006, recommending that special tax regimes in free economic zones and tax incentives for technology parks be restored. There is no certainty that the draft resolution will be implemented.

4. European Union, NATO

In 2005, President Viktor Yushchenko stated that membership in the EU was a strategic goal of his foreign policy. In practice, Ukraine maintains especially close ties with Russia (including energy dependence) and balancing this relationship affects the speed with which Ukraine can move toward integration. The EU is expected to deepen economic and political ties with Ukraine, but is yet to formally indicate that Ukraine has prospects of future EU membership.

Ukraine has a close relationship with the North Atlantic Treaty Organisation (NATO), particularly with respect to emergency situations, technical cooperation, scientific studies and military and defence reforms.

5. International agreements

Ukraine has established diplomatic relations with approximately 170 countries.

Ukraine is a member of the United Nations, the International Monetary Fund (IMF), the World Bank, the European Bank for Reconstruction and Development (EBRD), the Council of Europe, as well as a number of other international organisations. Ukraine also cooperates with the Organisation for Economic Cooperation and Development (OECD), but is not a member.

Ukraine is a member of the WTO since May 2008

In addition, Ukraine has concluded a number of bilateral agreements concerning trade, avoidance of double taxation, and mutual guarantees of investments. It also has a free trade agreement with Russia, as well as countries of the Commonwealth of Independent States (CIS).

6. Legal environment

The Ukrainian judicial system underwent significant reforms in 2002. Senior judges are now nominated by Parliament and appointed by presidential decree for five years, after which Ukraine's Supreme Council confirms them for life.

Although the system has improved significantly, there are still many problems. The Supreme Court is regarded as being an independent and impartial body, but the same cannot yet be said for the lower courts. Courts also remain under-funded, meaning they are often understaffed while judges may not have sufficient background to resolve adequately some modern issues in corporate law, taxation, bankruptcy, and intellectual property. Poor enforcement of court decisions is also a significant problem.

A legal framework exists and courts are always there as an option for resolving disputes, but issues may best be resolved outside of the judicial system. It is worth considering arbitration as an alternative dispute resolution mechanism when drafting contracts, although it needs to be recognised that the Ukrainian alternative disputes resolution mechanism is still developing and there is still a shortage of skilled arbiters in the country.

7. Property market

Foreign citizens and legal entities have the right to own apartments, houses, and other facilities. Ownership of non-agricultural land is also possible, although legal and regulatory restrictions and red tape can significantly complicate the process.

There is extensive interest in the real estate market, but a lack of investment grade buildings in Ukraine limits the opportunities for property investors. This creates a lot of opportunity for foreign developers, if they are prepared to navigate the legal and regulatory hurdles that currently exist.

8. Foreign investment

Investment climate

Ukrainian authorities regularly declare a keenness to encourage foreign investment and the broader public is well disposed to foreign investment.

There are few restrictions on foreign ownership. The major exceptions are publishing and broadcasting, and the manufacture of weapons. Otherwise, the regulatory framework for the establishment and operation of businesses in Ukraine by foreign investors is similar to domestic investors. As a general rule, investment permits are not required, but all enterprises must be established according to the form and procedure prescribed by law and registered with appropriate government agencies. Foreign investors are generally not required to seek special approval from authorities for foreign direct investments.

Both domestic and foreign investors still encounter difficulties at a practical level. These do not relate specifically to the issue of foreign ownership or investment, but rather to administrative hurdles that are arbitrarily enforced, or random delays.

Total foreign direct investment at 1 January 2007 stood at around USD 23.2 billion, according to data from the State Statistics Committee. Foreign direct investment in 2006 totalled USD 6.3 billion.

Regulatory legislation

Ukraine is still struggling to build a legal system that facilitates easy interaction with the international community. Many issues are not dealt with by a single law, so it may be necessary to piece several laws together to develop understanding of an issue. The various laws may also be ambiguous or contradictory, which complicates the issue further.

The following major pieces of legislation (in addition to taxation law) affect foreign investment into Ukraine:

    * On Procedure for Foreign Investments sets out in broad terms Ukraine's policy on inward investment and the rights and obligations of foreign investors.
    * The Civil Code regulates civil relationships, the establishment of legal entities and personal property rights.
    * The Commercial Code was enacted on the same day as the Civil Code, and governs business relationships. The Commercial Code is intended to regulate issues that are not dealt with in the Civil Code, although in practice there is some overlap.
    * On Securities and Stock Market governs the public issuance and trading of securities.
    * On Protection of Economic Competition restricts business monopolies, and aims to ensure an efficient operation of the Ukraine economy through the development of competition. The majority of mergers and acquisitions in Ukraine are likely to require pre-approval from the Anti-monopoly Commission.
    * On Protection from Unfair Competition aims to protect business entities and consumers against unfair competition.
    * On Environmental Protection establishes a framework for pollution charges to be imposed on any legal entity that discharges contaminants into the environment.
    * Intellectual property rights are governed by various laws, including On Protection of Rights to Inventions and Useful Models, On Protection of Rights on Industrial Design, On Protection of Rights for Trademarks for Goods and Services, and On Copyright and Related Rights.

Restrictions on foreign investment

As mentioned above, restrictions exist for foreign investments in the publishing and broadcasting sectors, and foreigners are not allowed to participate in the manufacturing of weapons.

Investment incentives

Ukraine eliminated all investment incentives in March 2005. In August 2006, Parliament supported a draft resolution recommending that special tax regimes in free economic zones and tax incentives for technology parks be restored.

Foreign exchange issues

Foreign currency is regulated by the 1993 Cabinet of Ministers Decree, On The System Of Currency Regulation And Currency Control, as well as a number of implementing rules issued by the National Bank of Ukraine (NBU). A number of foreign currency transactions may only be undertaken if an individual license is obtained from the NBU. However, there has been an ongoing trend toward less restrictive rules, the most recent development being the removal of the requirement that Ukrainian residents convert at least 50% of any foreign currency proceeds into local currency (hryvnia).

A 1% Pension Fund charge applies to the acquisition of foreign currency.

Repatriation of capital and earnings

Foreign investors are entitled to repatriate profit, income or other funds relating to investments without any restrictions, after the payment of applicable taxes. Foreign investors are guaranteed the right to the prompt and unimpeded repatriation of profits and other funds in foreign currency derived from their investments in Ukraine. Conversion of funds for repatriation is effected through the Ukrainian Inter-bank Currency Exchange.

Although not strictly required under the law, registration of the foreign investment may reduce complications in the future (withdrawal of capital, for example). This involves submitting a prescribed set of registration documents to the regional (oblast) state administration, the Kyiv or Sevastopol state administration, or the government of the Autonomous Republic of Crimea, as appropriate.

Guarantees and rights

Foreign investments are not to be subject to nationalisation, expropriation, requisition, or any other measure of similar effect, except when this is in the public interest. In such cases, compensation must be provided to the investor based on the market value of the property.

Source: PriceWaterhouseCoopers

Posted: 28 January 2011, last updated 28 January 2011

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