AntAC Newsletter

Dear friends!

Your are interested in Ukraine and willing to follow the most recent anti-corruption developments in the country?

Then subscribe to our regular (weekly) updates.

We are covering:

1. The most burning successes and challenges of the anti-corruption reform in Ukraine

2. State of implementation by Ukraine of international obligations and commitments in the area of the anti-corruption

3. The most crucial and fresh cases of corruption investigations and revelations from journalists and law enforcement agencies of Ukraine

More news and publications in English are available at our webpage; the most recent and burning anti-corruption news in English we tweet here.

Yours, Anti-corruption Action Centre

  1. Subscribe to our weekly updates

Караємо зашкварених мажоритарників

Holding those responsible for syphoning money from procurements.

Watchdogging for public procurement of drugs.

Map Ukrainian Politically Exposed Persons (PEPs)

Foreign partners condition Ukraine to fight corruption. We are monitoring how Ukraine implements these obligations.

Exploring corruption and learn to fight it.

Helping to return the money stolen by corrupt officials back to Ukraine.

Schemes Against Independence. 26 Examples of Systemic Corruption in Ukraine – LIGA.NET

Anniversary of Ukraine’s Independence is the time to speak about achievement and heroism as well as remind about mistakes.

LIGA.net editing team has compiled the list of 26 systemic corruption schemes, which have been in operation for years, killing free market competition, stinted economic growth and aggravated crises, deprived the country of investments and opportunities.

It would be inaccurate to claim that nothing has changed since 2013-2014 Maidan, beginning of war and change of Government. Pressured by the civil society, western allies and politics donors, politicians and civil servants have to give up some of corruption revenue. However, some schemes remained having changed hands, and others came into existence – the notorious Rotterdam Plus is a prime example of one.

They vary by their scale, money-laundering methods, the extent of business involvement and affected sectors. What these schemes have in common is that they are so persistent and operable exclusively due to political cover, administrative resource, corrupt officials and law enforcement, outdated establishment and infantile electorate selling their future for petty handouts and empty slogans.

1

Rotterdam + Fuel and Energy Sector

Rinat Akhmetov’s DTEK has monopoly in coal mini in Ukraine. It also owns 70% of thermal stations capacity.

In March 2016 the National Energy and Utilities Regulatory Commission (NEURC) approved new method of power market price.

Power plants operating on coal sell the generated power onto a single wholesale market. According to this method the coal price is calculated using the formula “the average market price of the imported coal in the ports of Amsterdam – Rotterdam – Antwerp plus its freight rate to Ukraine”. Thus calculated coal price becomes a component of electric power price, supplied by thermal power plants. 70% of thermal plants capacity belongs to Rinat Akhmetov DTEK, the rest – to state power company Centrenergo and Donbasenergo, associated with Oleksandr Yanukovych.

This price-calculating approach is applied to all coal supplied to thermal power plants, including the one mined in Ukraine. The Rotterdam+ formula was implemented disregarding the fact that Ukraine is rich in profitable coal deposits. In 2016 the share of imported coal did not surpass 5%. Unsurprisingly, DTEK is the one having monopoly on coal mining.

The method came into operation since May 2016. Electric power prices being pegged to Rotterdam coal prices plus freight to Ukraine led to power prices for businesses going up. Consequently, it entails prices for goods rising.

In May-June 2016 average weighted price of TPP power increased by 62% – up to 1.70 UAH per KWh.

WHAT’S THE DAMAGE?

Andriy Herus, NEURC former member, calculated that since May 2015 power generating companies got more than 15 billion UAH of additional profit after the Rotterdam+ formula was implemented. Some 80% of this sum went to Rinat Akhmetov’s DTEK. The rest – to companies Centrenergo and Donbasenergo.

2

Livela – Fuel and Energy Sector

Livela’s share in oil products import surpassed 50% of the whole Ukrainian market on some months.

The scheme of excise tax-free import of oil products to Ukraine came into operations in a few months after Viktor Yanukhovych had won the presidential election. In July 2010 company Livela (subsidiary of joint venture “Taistra”) based on several court rulings started importing oil products and oil itself soon after without paying any taxes whatsoever.

This was based on a court ruling made as far back as 2004. At the time Kremenchuk Avtozavodsk district court under the law on foreign investments protection ruled in favour of Ukrainian and Polish joint venture Taistra and its subsidiaries importing fuel into Ukraine tax-free. Court ruling gathered dust for about six years. In May 2010 Kharkiv appeal court confirmed verdict legality of the court of original jurisdiction, thus giving way to the scheme.

Livela’s activity narrowed down to providing services for the real importers for a certain remuneration – bigger part of the unpaid taxes amount. The scheme was in operation for about half a year. During several months Livela’s share in oil products import surpassed 50% of the whole Ukrainian market.

Under the society’s pressure Antimonopoly Committee of Ukraine (AMCU) started investigation started investigation of the excise tax-free fuel import. State fiscal service took interest in the company only after half a year of its operation. Livela’s founders liquidated the company in March 2011. Bases on this fact AMCU and tax administration closed all cases the company was involved in. While the company was in operation, 600,000 tons of petrols and diesel fuel as well as 410,000 tons of oil.

Schemes beneficiaries remain unknown. Nobody faced any punishment for the state’s losses. Special committee of the Council on Livela’s activity ceased existing in November 2011.

WHAT’S THE DAMAGE?

According to the State customs office, in 2010 the losses of state budget reached about 3 billion UAH (380 million USD) because of Livela’s activity. It was one of the reasons why the targets on customs duties collection for the state budget weren’t reached.

3

Transit Interrupted – Fuel and Energy Sector

Companies that Kurchenko was known to be the beneficiary of, imported fuel into Ukraine for further transit to the third countries under “transit” customs conditions??

In 2012 Livela scheme was replaced by a new oil products import scheme, known as “interrupted transit”. It was realized by Ukrainian businessman Serhiy Kurchenko and his company VETEK. Companies of this infamous oligarch imported fuel into Ukraine on “transit” customs conditions, meaning it would then be shipped to the third countries. The reality was, however, that this fuel just stayed in Ukraine. Appropriate taxes such as excise, VAT etc. were never paid.

Fuel was imported from Belarus, Russia, Romania, Bulgaria and Greece. It was registered as “transit”, “re-export”, “customs storage” and, with the customs supervision, stored on tank farms, taken on lease by the companies.

This produce, imported without being registered by the customs and paying taxes, was stored on tank farms in Kirovohrad, Rivne, Cherkasy, Odesa, Kyiv, Kharkiv and Khmelnytsk oblasts. It was further sold to oil traders and distributed through gas station chains.

In order to register the sales traders were often given fabricated financial and economic documents. With the aid of conversion schemes, the profits were converted to cash without VAT or other taxes being paid.

WHAT’S THE DAMAGE?

According to Prosecutor General’s Office, during 2012-2014 VETEK group imported into Ukraine more than 5 million tons of oil products worth 3 billion UAH for processing and further “re-export” overseas. The losses of the state are estimated at 7 billion UAH (900 million USD).

4

RosUkrEnergo – Fuel and Energy Sector

The formula in gas contract stipulated the final gas price for Ukraine about 360 USD per 1000 cubic meter for 2009. Yulia Tymoshenko and her negotiations team decided to decrease the price to 228 USD by “diluting” Russian fuel with RosUkrEnergo gas, which cost 153.9 USD.

In 2011 the notorious gas trader RosUkrEnergo (RUE), 50% of which was owned by Gazprom and 45% – by Dmytro Firtash, received 11 billion cubic meters of gas from National JSC Naftogaz of Ukraine in Stockholm arbitration. The court ruling was the result of one of the biggest large-scale scams in the history of Ukraine’s gas market.

Agreements about 11 billion cubic meters of gas appeared after the Ukrainian-Russian gas war of 2008-2009. The infamous agreements were signed by Naftogaz and Gazprom in January 2009. In the course of negotiation Gazprom was unwilling to make concessions on the gas contract and the parties agreed to settle the issue at the expense of 11 billion cubic meters of gas stored in Ukrainian underground gas storage units, which belonged to RUE.

The formula in gas contract stipulated the final gas price for Ukraine about 360 USD per 1000 cubic meter for 2009. Yulia Tymoshenko and her negotiations team decided to decrease the price to 228 USD by “diluting” Russian fuel with RosUkrEnergo gas, which cost 153.9 USD.

In order to register the property right for this volume, Naftogaz required formal grounds and got them. Gazprom as a shareholder of RUE re-assigned the right to demand 1.7 billion USD debt from the Swiss trader to Naftogaz, or 11 billion cubic meters of gas in underground gas storage units which cost 153.9 USD per 1000 cubic meters. After that, Naftogaz and Gazprom signed two more agreements. Naftogaz sold 11 billion cubic meters of gas to Gazprom and bought them from the Russian monopolist on the same day.

After RUE lost its 11 billion cubic meters of gas in underground gas storage units, the Swiss trader initiated a case in Stockholm arbitration. At the time in Ukraine there was a change of government: Viktor Yanukovych became President, Yuriy Boiko – Minister of power, Serhiy Liovochkin – chief of Presidential administration.

The hearings in the Swedish court ended extremely fast. As soon as June 2010 the arbitration required Naftogaz to return 11 billion cubic meters of gas to RUE, as well as 1.1 billion as forfeit. During four months the arbitration decision was approved by all three Ukrainian degrees of jurisdiction and in November 2010 it came into effect. In the following five months Naftogaz abided by court’s decision and returned 12.1 billion cubic meters of gas to RUE, which were previously bought from Gazprom, co-owner of the Swiss company.

WHAT’S THE DAMAGE?

Neither Naftohaz, nor Prosecutor General’s office used their right of appeal concerning courts’ decisions. Naftohaz estimated losses from arbitration at 11,2 billion UAH (1,4 billion USD).

5

Privatization on Demand – Political services

In the twilight of Leonid Kuchma’s presidential term, major companies (each worth hundreds of million dollars even then) became absolute property of a few oligarch clans. Insider, non-competitive privatization became one of the factors of Ukraine becoming an oligarchy-controlled state.

There are numerous ways to rid the state of its factories and plants. All of them were tried in Ukraine: from voucher privatization allegedly with the working staff interests in mind in the early 1990s and to assets withdrawal through bankruptcy procedure and readjustment, as it happened with Dniprenergo in the end of 2000s. Unambiguously fraudulent schemes were legalized by the decisions of the Cabinet of Ministers, State Property Fund of Ukraine (SPFU) and the Verkhovna Rada.

For instance, to eliminate unwanted potential buyers of “oblenergo” regional electric power companies shares, only small packages of shares were put up for sale by the Cabinet of Ministers; only the current minor package shareholder could buy them – a big industrial and financial group. For an outsider independent investor such purchase would mean war. In case a controlling interet of the enterprise was to be sold, the SPFU made up investment commitments custom-made for a particular buyer.

A particularly cynical example of state property appropriation is the laws on “privatization specifics” of the certain plants, when the future buyers were de facto appointed in the Verkhovna Rada lobby.

In the aftermath of a specific law of the Parliament in 2000 Mariupol Illich Metal Industrial Complex was purchased and owned on paper by the workers, whereas the real owner was the management of the plant. In 2004 only the current minority package shareholders were allowed by the MPs to privatize ore mining and processing enterprises of Ukrrudprom association.

Thus, at the end of Leonid Kuchma’s office term, metal and ore mining enterprises (worth hundreds of million US dollars each even at that time) became absolute property of only three financial and industrial groups: Rinat Akhmetov’s SCM, Ihor Kolomoiskyi’s and Hennadiy Boholiubov’s Privat and Vadym Novynskyi’s Smart.

WHAT’S THE DAMAGE?

In just a few years after the ore prices exploded, the privatized Ukrainian ore mining and processing enterprises made billions for their new owners.

6

Shell Companies and Kickbacks in State Companies – State

Kickbacks to state company management for buying goods and services at an elevated price is already somewhat of a corruption classic.

Official reports on Ukrainian state companies’ income rarely truthfully reflect the reality. They reveal the income of a company itself, but not the profit of its numerous satellites.

One can relieve a state company of some extra cash in various ways. Companies often sell goods or services at artificially low prices. Manager is the one pocketing the difference – be it in a briefcase or on the offshore account. A more complex variation is a shell company that is associated with the manager and/or their “political cover”. It buys out 50-100% of the state company’s produce and then sells it for several times that.

This method is far from being the only one. For instance, a company transfers deposit for goods or services and gets nothing in return – the contractor declare bankruptcy. Boryspil airport parking lot is a prime example. The construction contractor received 93 million UAH but did not do the job. The General Prosecutors office had no choice but to prosecute.

Vintage corruption – kickbacks for state company’s management for buying goods and services at elevated prices. Contractor often turns out to be another disposable company.

After the electronic trading system was implemented, it became more difficult to realize such schemes, however a few loopholes remain. Conditions of a competitive tender are often custom-made for a certain applicant. In December 2014, the authorities managed to stop the tender of Administration of maritime ports of Ukraine thanks to the Dutch ambassador’s complaint. In the documents of paint purchase tender there was an indispensable condition – volume of paint containers had to be 405 liters. The winning company offer would cost the state twice as much as literally the same paint in containers of a different volume.

WHAT’S THE DAMAGE?

Basic schemes lead to state companies losing billions in profits, thus making them less competitive and killing their potential.

7

Free land…as in land for free – Agro-Industrial complex

Bribe rate of a StateGeoCadastre official is on average 300-500 USD per hectare.

By the law, every Ukrainian has the right to privatize up to 2 hectares of cultivation land for free. In practice, though, this process is, as a rule, corrupted – the land goes not to a law-abiding citizen (the reply they usually receive is: “there is no available land”), but to some dymmy physical entities who then lease the land to the scheme mastermind dirt-cheap for 50 years. Bribe rate of a StateGeoCadastre official is on average 300-500 USD per hectare.

According to the site zemderyban.in.ua, in 2013–2016, in Ukraine 456,400 hectares of land was given away for free. Similarly the land for the ATO veterans was distributed among the undeserving.

Breeding ground for land corruption – this is how agrarian market participants refer to the major state latifundist(Largest public land-owner) – National Academy of Agrarian Sciences, which has at its disposal 400,000-600,000 hectares (nobody knows the exact number, even the academicians themselves). Instead of conducting research on these lands, they are being unofficially leased. The fee (about 100 UAH per ha) is pocketed by these academicians turned entrepreneurs.

The annual losses from the Academy’s land schemes surpass 1 billion UAH. The officially declared income would allow the institution not to rely on state funding and carry out scientific research. That doesn’t seem to be something they would be interested in. Even though there is the Verkhovna Rada resolution on this matter as well as materials of the ad hoc investigative parliamentary committee.

Law enforcement already took interest in National Academy of Agrarian Sciences (NAAS) of Ukraine. According to the National Anti-Corruption Bureau of Ukraine (NABU), during 2008-20016 NAAS presidium initiated a number of resolutions, which led 200 ha of public land to end up in private hands. The investigating officers assessed the damage caused by the action of Academy officials at almost 1 billion UAH.

WHAT’S THE DAMAGE?

Corruption services in the free land transfer domain amount to at least 500 million UAH per year. NABU is investigating the illegal deals involving almost 8000 ha of cultivation lands, which belong to the state.

8

Grain: Certificates for Sale – Agrarian industrial complex

Bribe rate for the issue of a Phytosanitary certificate for some grain lots for export is about 0.3-0.5 USD per ton. Corruption profit from certificates issue is at least 100 million UAH per year.

In Ukraine one can still buy and sell Phytosanitary certificates required for exporting agricultural produce.

Bribe rate for the issue of a Phytosanitary certificate for some grain lots for export is about 0.3-0.5 USD per ton. Corruption profit from certificates issue is at least 100 million UAH per year. No pay – no certificate. Or it will be issued with great delay, which will likely result in huge fines for the vessel down time. It is impossible to cancel Phytosanitary certificate as it is issued in compliance with international obligations of Ukraine.

This problem can be solved quite easily. All that should be done is giving the right to analyze grain to private laboratories and to leave the officials only with the obligation to issue certificates if received positive laboratory results.

The outrageous schemes are still employed by the major state trader. State Food and Grain Corporation of Ukraine (SFGCU) and Agrarian Fund, according to actual agrarians, collected wide selection of corruption opportunities: overcharging for shipping services or grain storage services, paying through the nose when buying grain and selling it for next to nothing (often to the same contractor). As for grain itself, handed over to SFGCU elevators for storage, it can simply evaporate.

Besides, after setting the limits to the maximum weight of grain trucks to 40 tons and weight controls installed on the roads grain producers and traders now bribe controllers so that the latter would turn a blind eye to violations and overweight. Unsurprisingly, in high season there is shortage of grain wagon. According to LIGA.net sources, kickbacks for priority access to one wagon reached a few thousands UAH. Demand for the railway shipping by far surpasses the actual supply of grain wagons. As a result, every month up to1 million tons of grain never leaves the elevator.

WHAT’S THE DAMAGE?

Investigators of the National Anti-Corruption Bureau of Ukraine estimated the damage from corruption schemes in the Agrarian industrial complex at more than 2 billion UAH.

9

Ukrspyrt – Agrarian Industrial Complex

Only schemes masterminds and, maybe, corrupt law enforcement agents, may know the volumes of the side raw spirit production.

It is no secret that mass-production of the illegal raw spirit, without paying excise tax, prospers in Ukraine. As alcohol producers report approximately 45% of the market is in the shadow on account of illegal raw spirit.

How does the system work? State enterprise produces alcohol, some part of which is under-the-counter, and it is not accounted. Invaluable contribution to this system makes so called third shift, people working overtime beyond any official control. Then illegal or counterfeit vodka is made of this raw spirit and sold on street markets, railway stations – where there is no strict control.

The other way of raw spirit illegal trading is goods export clearance. However, the declared foreign contractor does not receive the raw spirit, as it is left in the domestic market.

Only scheme masterminds and, maybe, corrupt law enforcement agents, may know the volumes of the side raw spirit production. According to the latest report of the State Fiscal Service, about 1 million litres of raw spirit worth of 180 million UAH were seized during the searches of state enterprises.

It is impossible to name all those who had or have interest in the state enterprise “Ukrspirt”. The members of the market say off the record that former top officials, ministers and law enforcement as well as business leaders from financial and industrial groups are involved in the work of monopolist enterprise. Overseers and controllers of the monopoly are changed according to the political situation. Whatever State Fiscal Service officials report on fight against the shadow market, under-the-counter raw spirit continues poisoning the market, either literally or figuratively.

WHAT’S THE DAMAGE?

State budget loss from unpaid VAT and excise tax amounts to 10 billion UAH per year.

10

Wood and Amber – Agrarian Industrial Complex

In 2016 alone the country lost wood worth 157 million UAH.

Last year MPs voted for a 10-year moratorium on a log export from Ukraine. It came into force on January 1, 2016. The temporary ban had not only to prevent uncontrolled wood exports but also to help reviving Ukrainian woodworking Industry.

The expectations fell flat. Instead of control Ukraine had the reverse effect – foresters and officials of all levels became links in the chain of illegal export. According to the Prosecutor’s Office data, in 2015-2016 years 409 criminal proceedings were launched over the illegal logging and 15 were completed and brought into the court.

In 2015, according to the official data only, 24 000 cubic metres of the wood were logged. In 2016 the state found missing wood worth 157 million UAH. These are only the direct losses. The indirect losses include ecological problems, corruption of the law enforcement agencies and local authorities. The scale of illegal logging became so vast, that rail cars with Ukrainian wood line up to get to Europe and make queues at the railway tracks. At the border crossing the timber wood is documented as fuel wood.

The same is true for amber. Wood industry as well as amber mining is a profitable business. Willing to mine and export the sunstone are not becoming less despite legal liability.

To receive access to the industry, businessmen have to negotiate for assistance from representatives of ruling political parties. According to the recent investigation of the National Anti-Corruption Bureau of Ukraine (NABU) two MPs were revealed to be connected with amber business –Boryslav Rozenblat of Petro Poroshenko’s Bloc “Solidarity” and Maksym Polyakov of the “People’s Front”. The investigation is ongoing.

WHAT’S THE DAMAGE?

Damage of illegal logging increased to 77% over the last 5 years and is estimated at about 300 million UAH

11

Pseudo-Repairs – Transport

In the 1990s, the Black Sea steamship line lost its navy.

In the transport business, there are also schemes that lead to state companies to lose valuable property. In the last decade of the previous century Ukraine lost the Black sea steamship line. There is more to lose.

How does alienation take place? For instance, in the vessel lease contract it is stipulated that expenses for vessel repair will be on account of rent payment. Then the ship leaves to the lands far away, and acts of carrying out millions worth of repairs are sent to Ukraine. The cost of the repair may be 3 million USD whereas the vessel itself would cos no more than 2 million USD. If the country refuses to pay, the vessel is arrested.

Ukrainian Danube Steamship Line is also on the risky territory, LIGA.net was told in an interview with Volodymyr Shulmeister, former assistant minister of transport. UDS share of The Danube shipping is over 25%. The company’s navy holds 320 river vessels, 6 dry cargo ships and one oil tanker. Also the company owns six passenger ships.

In 2015 25 Ukrainian vessels were under arrest in different locations of the world.

WHAT’S THE DAMAGE?

2-million-USD vessel can be confiscated from the state after creating a debt out of thin air for a 3-million-USD pseudo-repair.

12

The Tariff Games  – Transport

A great variety of schemes is built around the railway monopolist. One of them was connected to railway transit of Russian cargo.

Ukrzaliznytsia (UZ) has the dubious honour of being named one of the most corrupt state companies, along with Ukrspirt. A great variety of schemes is built around the railway monopolist. One of them was connected with railway transit of Russian cargo that fell in 2014-2015, said Volodymyr Shulmeister in his interview with LIGA.net.

When the discount period of shipping cargo via the territory of Ukraine came to an end for the largest Russian transporting holding company Metalloinvest (major iron ore processor in the Russian Federation. – Edit.) – before they used to work with the company Lemtrans – the UZ representatives during their Moscow negotiations allegedly offered a new condition: “You will continue operating in Ukraine via the new company and get a very good discount. Otherwise you get nothing”.

As a result, this disposable company passed UZ’s commission and got about 40% volume discount. The private company received 30%, and the intermediary got 10%.

The trick is that the statutory fund of the company was 2 pounds and it was created one month prior to Moscow negotiations.

WHAT’S THE DAMAGE?

In 2015 10% discount for UZ equaled 8 million USD.

13

Twists – Taxes

Main beneficiary of the scheme is an importer that sells, as a matter of fact, the same produce twice, receiving both cash and official payment in bank.

Big business got used to the fact that you cannot be efficient in Ukraine if you do not know how to optimize the profit tax, decrease the VAT, hide the currency earnings or evade the import duties.

Big importers dealing with non-technological goods. Importing such goods to Ukraine, the importer pays the VAT at the Customs, and then sells goods for cash to small retailers that are not obliged to use cash registers and keep detailed records of the goods documenting each item. As a result of the deal, the importer receives cash and keep the batch documentation.

Twist starts at this stage already: according to the documents, the importer sells goods to other legal entity, but no goods are actually shipped. The buyer does not need that: the documents give him right to the tax credit – roughly speaking, it is opportunity to demand partial reimbursement of the funds previously paid to the state budget alongside the VAT.

Main beneficiary of the scheme is the importer, that sells actually the same produce twice, receiving at the same time both cash and official bank payment. A company that purchases the documents without actual goods shipment, risks to get its tax invoice, in particular if input and output of those goods differ. However, in some cases this approach helps to decrease the expenses if the company estimates it is cheaper to find a partner for the twist, than, for instance, to pay a bribe for official VAT reimbursement.

WHAT’S THE DAMAGE?

The higher is the sum of the tax paid, which is confirmed by the import documentation, the more there are grounds to demand tax credit refund. As a rule, the main aim is less in receiving a new reimbursement than in decreasing the liabilities of a particular company relative to the assessed VAT.

14

VAT for sale. At High Price – Taxes

Big producing companies are interested to pay less taxes to the budget, smaller exporters want to receive more VAT reimbursement.

Another variation on a theme of tax schemes is “non-typical export”, at the expense of which companies set off the VAT paid by them to the state budget or received from it. Major manufacturers are interested in paying less tax to the budget, while small-scale exporters want to receive more VAT reimbursement. Two goals unite in one, when major company buys goods from a small-scale company and exports it abroad in its own name.

Thus, a small exporter receives a VAT reimbursement from its major partner that claims the tax reimbursement from the budget as an exporter of “non-typical goods”. Since it has its own VAT liability emerging from main products sale, the set-off is made, in this way helping the company to decrease payments to the budget.

There are numerous examples. In particular, Kyiv-Dniprovsk Inter-Branch Enterprise of Industrial Railway Transport appeared to be a grain trader. It is surprising that the enterprise which specializes in rail shipments also deals with grain trade. Moreover, it trades on a large scale. Core activities of Kyiv-Dniprovsk Inter-Branch Enterprise of Industrial Railway Transport return 270 million UAH, and grain export returns 170 million UAH.

WHAT’S THE DAMAGE?

Major schemes of Ukrainian companies are directly connected with the VAT. Companies with a turnover of billions, for example, manage to export “non-typical products” to receive millions VAT reimbursement.

15

Universal Tax Pits – Taxes

Shell companies are used by law-abiding companies to transfer goods and funds, purchasing them at over- or underpriced rates, depending on the purpose.

Tax pits traditionally help to increase the tax credit and thereby decrease the VAT liability.

The scheme is close to fraud. Resorting to the bogus firms, law-abiding companies transfer goods and money, purchasing them at over- or underpriced rates depending on the purpose (either to receive more reimbursement, or to decrease the tax liabilities to the budget).

How it works? A company orders services at overprice from a bogus firm, but these services are carried out by the regular staff. Payments for services are transferred through the “pit”, cashed and returned (fee excluded) as the salary.

There is a chance that this scheme will become a thing of the past. The government admitted that billions were withdrawn via tax pits, and promised to do everything to liquidate them.

WHAT’S THE DAMAGE?

According to estimation of the State Fiscal Service, the tax pits activity caused the annual budget losses of 50–70 billion UAH of the VAT payments.

16

Unavoidable Offshores – Taxes

An offshore intermediary pays extremely low prices for Ukrainian products, later selling them at market prices

Tax function of the offshore schemes is, as a rule, tax evasion of net profits of a company. Goods, produced in Ukraine, a sold overseas not directly, but through a middleman, who is the primary beneficiary of the deal.

The specifics of the scheme is that an offshore intermediary pays extremely low prices for Ukrainian products, later selling them at market prices. Manufacturer ends up with significant losses, offshore – with significant profits.

Unless used by state companies and for evident corruption, offshores are generally necessary for businesses for completely legitimate uses. For instance, it’s more convenient to pay a western contractor using a Cypress account than a Ukrainian one, due to less strict financial monitoring rules (no need to prove the legitimacy of the deal by documents with the contractor’s company seals).

Also there are more chances to resist a hostile takeover, if the business-owner company is registered in offshores instead of in Ukraine.

WHAT’S THE DAMAGE?

Inna Shovkun, economist at the Institute for Economics and Forecasting of National Academy of Sciences of Ukraine, estimates that since 1991 from Ukraine 148 billion USD was transferred offshore.

17

Gray Physical Entities – Taxes

The scheme allows to come under the tax-free limit of 500 euros and up to 50 kg per person.

None of contractors, large cargo, banks, lawyers and – cherry on top – no taxation – this is a scheme with physical entities, who cross the border carrying small batches of foreign devices in their personal luggage. Many popular brand gadget retailers, who profit from such “gray” import, use the scheme. Certainly, law enforcement can’t be unaware of this import scheme. Yet they remain silent.

The scheme allows to come under the tax-free limit of 500 euros and up to 50 kg per person. Another alternative is postal delivery addressed for private entrepreneurs or regular citizens (up to 150 euros per delivery). In the first case residents of the pre-border territories participate in the scheme, as for them it’s relatively easy money, whereas the importer saves money on import duty and the VAT, while the product is legitimate.

The second alternative is more complicated: in Ukraine specialized companies provide parceling services for large goods batches. They organize registration of front men for receiving goods and, when delivered to Ukraine, hundreds of small parcels are formed into large batches and then delivered to retail shops.

WHAT’S THE DAMAGE

It is estimated that one in five Ukrainian entrepreneurs employs the front men scheme.

18

Money-Sucking Banks – Banks

Loans were not returned not only by real borrowers, but by companies related to their shareholders.

“We do not credit companies of our shareholders. Our loans have proper security. Our borrowers maintain payments of their debts”, – those are the messages of the official financial accountability figures by Ukrainian banks. Not everybody tells the truth. Some financial institutions embellish the reality.

First of all, nice picture of bank capitals and their loan portfolios is painted. Loans are not returned not only by real borrowers, but also by companies affiliated with the shareholders.

Such banks (called “captive” by the National Bank of Ukraine) satisfied their need for the new money in a simple way – by offering the highest deposit interest rates to private bank depositors. Platinum Bank, Mykhailivskyi, or Privat have offered not so long ago 3-5% higher annual deposit interest rates than the market’s average. The interest rate for new deposits was paid at the expense of attracting new ones. The related companies were credited out of proceeds of permanent infusion of money.

Sometimes those debts were nominally paid off. In the end of 2016 Privat issued UAH 132.8 billion loan to three dozens of new legal entities – out of those proceeds of money 232 debts of other corporate borrowers were paid off. The same scheme to pay off their loans was used by big borrowers of Mykhailivskyi Bank, including Eldorado Company.

The banks registered such operations as real discharge of debt. Loans were paid off, even the interest was paid.

If the schemes failed, the depositors problems fell on the government’s shoulders.

WHAT’S THE DAMAGE?

It administers assets of 92 bankrupt banks nominally worth of UAH 480 billion. 80% of those are rights to claim loans. But real market value of those assets is 5 times less – about UAH 100 billion.

19

Austrian partners – Banks

The National Bank of Ukraine just shrugs: it is practically impossible to prove that the operations between foreign companies are fake.

Foreign banks also partook in Ukrainian schemes. The most popular one is using letters of credit for correspondent account in a foreign bank. Letter of credit is a kind of bank guarantee, when a bank obliges, if required, to pay its client’s debt to a third legal entity.

Specifically for these purposes Ukrainian financial institution would open a correspondent account in, say, Austrian Meinl Bank, and transfer a certain sum there. These funds were listed as assets in bank records (the “avoirs” section – in 2013 the National Bank of Ukraine estimated joint avoirs of Ukrainian banks i.e. funds in foreign currency in foreign accounts at 8.7 billion USD while the joint assets of the of the system equal 20 billion USD).

Examples of such “foreigner” schemes are numerous. The bigger the bank, the larger machination scale. A client does not meet their commitments to a contractor – and 50 million USD leave the Delta bank account never to be seen again. In the matter of days before nationalization this pattern was used by PrivatBank, when 12 billion UAH were written off from the correspondent accounts in its Cypress and Latvian daughter banks.

NBU just shrugs: it is practically impossible to prove that the operations between foreign companies are fake.

WHAT’S THE DAMAGE?

Austrian banks Meinl and Winter&Co, as well as Luxemburg East-West United Bank helped Ukrainian bankers to withdraw  hundreds million US dollars out of the country.

20

With the Court’s Blessing – Devrlopment

Kyiv city state administration does not recognize the legality of Voitsekhovskyi construction sites and offers investors of the housing to prepare all the permits and finish construction financing on their own.

In Ukraine the necessary permits for a residential building construction are often substituted by court orders in favour of a developer, while the degree of an object completion may vary. Cooperation of a judge is a prerequisite for this scheme. If it bursts, construction investors bear the consequences.

The biggest housing scandal since Ukraine became independent involved businessman Anatoliy Voitsekhovskyi.

His very first project in Kyiv – residential complex Elegant on Peremohy Avenue – was built by his companies about a decade ago. Over 40 residential buildings in several Kyiv districts were constructed by informal group of companies UKO. They attracted customers by competitive pricing – on average 10-15 % lower than the average market prices. As it turned out, investors were all over that.

The houses were constructed without the requisite package of documents – such as the right to use the land, construction permit etc. For instance, according to Kyiv Prosecutor’s Office, the land that the residential complex Zhemchuzhyna Troieschyny (The Pearl of Troieschyna) stands on was taken over without permission. Buildings were set in operation on court orders some of which proved to be fake.

In July 2016 Voitsehovskyi was arrested on suspicion of tax evasion for the amount of 12.4 million UAH, organizing a criminal group for land takeovers in Kyiv and investors’ funds embezzlement. The court arrested the businessman for 2 months. He walked out on bail of 14 million UAH.

WHAT’S THE DAMAGE?

Kyiv city state administration estimates that 12 500 people incurred losses because of Voitsekhovskyi construction schemes, setting the record for Ukraine.

21

No Strings Attached Construction – Development

Kyiv community has been trying to approve the zoning system for its central part since 2003, yet the architects still have not managed to come to an agreement.

Infamous newly constructed buildings sprout all over Kyiv city centre: Fresco Sofia on Olesia Honchara Street, “The Podol Monster” on Nyzhniy Val, houses on Desiatynnyi and Muzeinyi Lanes as well as on Hrushevskoho Street. Where did they come from?

Lack of the city-building documents is the primary cause. The existing General plan for city development has been obsolete for a long time, the new document was developed in 2015. It provoked intense arguments though. Many architects and civil activists argued that the plan actually legalizes disputed territories development.

The architectural department of Kyiv attempted to solve the issue employing zoning project for the central part of Kyiv. The document provides major requirements for the development area: location for the future buildings, their area, number of stores, communications location etc. Yet, this city-building document hasn’t been passed so far. The officials have been discussing its details for over a year.

Obtaining land for development without zoning is not impossible. A developer orders a different city-building document development – Detailed Territory plan, which becomes basis for a house construction. City council considers such plans on practically every hearing.

No one knows when the same rules for everyone will be agreed upon on the market of developing.

WHAT’S THE DAMAGE?

6.6 million UAH are allocated for the zoning project development from the city budget.

22

Underrating Construction Category – Development

Instead of a large complex, developers constructed several houses with a single entrance and lobby – that’s what their documents said anyway. Thus they were able to obtain permits through a simplified procedure.

A four-storey house on paper, it could turn into a thirty-storey residential complex. One in three development projects in Ukraine has similar violations, according to State Architecture-Building Inspection (SABI).

As a rule, inspection bodies usually find violations associated with land certificates registration, insufficient information about the project, lack of helmets for the construction workers etc. The most prominent violation of the recent years is underrating of construction category, which allowed to greatly reduce the number of necessary permits and certificates.

In order to start construction of a non-high-rise building or a single-entrance building the only requirement is notifying the SABI about the start of construction. No need for expert appraisal of the project, like before the start of large buildings construction.

Developers would use this loophole. They commissioned a two- or three-entrance buildings in several housing lines, thus saving money not just on permits and certificates, but also on constructing, or, rather not constructing social infrastructure projects, such as new schools and kindergartens.

The Verkhovna Rada put an end to this scheme in mid-January of this year.

WHAT’S THE DAMAGE?

In the last year violations were recorded on more than 6000 construction sites.

23

Partners in Joint Activity? – State Companies

The scheme enables blocking any new management appointment except the selected one.

This is a joint operation classic: one invests in buying 20% shares of a company, but in the agreement about join activity (JA) I is stipulated that the management will be appointed by this 20% shareholder. Surprisingly, the state company party to this agreement did sign the likes of this contract.  

Soon after, the joint venture profits start to plummet. Interestingly, this co-owner does not give up managing the company and blocks any attempts to buy out his shares.

The hotel in Odesa port is just one example. Private minority shareholder has 20% of shares. As the property is not legally divided, his signature must be on all contracts. Thus the appointment of any new management, except their own, can be blocked. Consequently, the hotel has been closed for three years and is slowly deteriorating.

There are also agreements on joint activity, which stipulate obligations of the parties concerning investment amount. If the state does not carry out their end of the deal, its share is gradually diffused.

The most notorious scheme is the one with the first JA container terminal in Illichivsk port. In the end, the court cancelled the contract.

WHAT’S THE DAMAGE

Some private companies overstated the investment rates tenfold. For instance, a one-million-USD crane is purchased for 10 million USD, the seller returns the difference in cash.

24

The Customs Trolls – Intellectual Property

The more lawsuits with real suppliers and producers the Ukrainian trolls went through, the more elaborate their techniques became.

In July 229 patents for industrial samples were registered in Ukraine. Ukrpatent issues several thousand of similar patents for intellectual property. Ukrainian companies conduct more than 90% of registrations. Foreign manufacturers declare rights on their international patents in our country far less frequently than Ukrainians themselves. For instance, Apple regularly submits to our data base sketches/drafts of their new iPhone series, smart-watch images and even the watch bracelet design.

So, what is it that Ukrainian inventors patent and why the number of their patent applications significantly surpasses that from abroad? Along with the genuine inventions there are attempt to claim their right to something that the “inventor” has nothing to do with.

Ukraine is a patent troll paradise. Gaps in the law allow for stealing other people’s ideas or try to profit from them. The most notorious stories involve the most mundane every day goods. For instance, clothes hangers for wardrobes. The trolls submitted their patent information into the customs registry and attempted to get “compensation” from Fozzy Group and JYSK retailers for any clothes hanger imported into Ukraine, which resembled their industrial sketch.

In the latest data base update a Dnipro resident patented a regular dish washing sponge. Such sponges can be found in all and every supermarket, yet this did not prevent the woman from registering a patent with the product image in her name.

Matches, gloves, ballpoint pens, toothpicks, covers and other every day products have fallen prey to patent troll at least once in our country. Businessmen would often just pay them off, as conducting a specialized court expert appraisal would cost a few thousand dollars.

The taste for easy money and a sense of impunity fed into dealers’ appetites. Firms dealing purely in patent registration for various product groups, such as car parts – headlights, bumpers, tyres, etc. sprouted in Ukraine.

The more lawsuits with real suppliers and producers the Ukrainian trolls went through, the more elaborate their techniques became. Their fictitious business structures started including fictitious shareholders from the USA and China. This enabled the dealers to draw out the lawsuits for years thus forcing the private businesses to pay off.

WHAT’S THE DAMAGE

Local firms account for more than 90% of patents registered in Ukraine. Many of these firms are nothing but patent trolls.

25

To Paralyse Business: Servers and People in Uniform – IT

“Get down, stay where you are!” – strange though it may seem, this command sounds often in light offices of Ukrainian IT.

Law enforcement agencies have been causing troubles to the business for all 26 years of independence. Sudden masked assaults, arrest of property, seizure of documents and equipment are no longer a surprise to the business environment.

Court order opens any door for people in uniform. To get a search warrant, the investigator needs only to indicate any criminal proceeding where certain entities, items or whole companies appear. It is not important whether it is true. The verdict will not be soon – if any verdict to be at all.

In the course of search, the law enforcement agents make themselves at home, all equipment, including mobile phones and laptops of the staff is seized. Simultaneously, the investigator obtains another court order on the property seizure for the purpose of its examination. The expertise may take years.

Visits by the prosecutor’s office, the Security Service of Ukraine or the Ministry of Internal Affairs usually mean the same thing: if you want to unblock the business and continue your work – you need to hold negotiations. This primitive schemes has been working since long time ago and it rarely fails.

IT sector became a major scheme’s target in recent years. New market, new business, new players. There are over 100,000 IT specialists in Ukraine. International companies are increasingly ordering turn-key projects. According to the National bank of Ukraine, IT sectors exports services worth of $2 billion annually.

IT needs equipment for work. Computers, servers, communication and other devices are their tools. Their seizure stops life of the whole office.

IT companies often conceal the fact of search and equipment seizure. Many firms are parts of global corporations. Information about investigative actions can be the grounds to close the office in Ukraine. This is the reason why they have to come to an agreement with law enforcement on the sly. Out of harm’s way, so to say.

WHAT’S THE DAMAGE?

In 2015 Lucky Labs estimated the losses of Ukrainian IT-companies from the law enforcement agencies at $40 million.

26

Sellers of the Air – Telecommunications

Reselling the rights to the “air” became quite easy money for the radioband speculators.

Valuable radioband licence trading is one of the most popular grey schemes in Ukrainian telecommunications. In the countries of Western Europe it was the government that made profit on selling the limited national resource; in Ukraine many frequency bands were distributed in the 2000s within “family, in-laws and friends” scheme.

If one’s in-law became a Member of the National Commission for the State Regulation of Communications, then a family obtained its own telecom-money project in no time. It was often a firm that existed on paper only and the radioband licence was its main and only asset. Having received such document (and usually it was provided without even holding a tender – merely by a businessman’s request), one could put the company for sale over some years. It might take some time for its finest hour to come. New communication standards 3G, 4G were devised around the world, requiring introduction of more and more new frequency bands, which inevitably made Ukrainian speculators happy. Fortunately for them, they could wait, there were no law requirements to connect subscribers. When the inspection came, it was enough to present a paper stating there was at least one transmitter in each region working at those frequencies.

The licences for a valuable band, as a rule, changed their owner more than once. They were resold to the Arabs, or Chinese, under pretence of the foreign investors’ potential to build a network in Ukraine to compete with Kyivstar or Vodafone – if only they had the necessary paper. But it was nothing but an illusion. Buyers from overseas met Ukrainian bureaucracy and realised that it is not that easy to build working telecom-infrastructure in our market. One needs to have ties.

The echo of those stories are still present in 2017. Communications regulator has recently announced it reached agreement with MMDS Ukraine Company (owned by SCM) – the latter transfers the valuable 4G band frequency for needs of the state tenders, in exchange of UAH 500 million compensation.

WHAT’S THE DAMAGE?

Rinat Akhmetov can make UAH 500 million at 4G tender by selling his rights for the old licence.

Special Project by LIGA.NET