Nobles has contributed to the Ukraine chapter of Lexology Getting the Deal Through: Joint Ventures 2021.
The overview outlines major forms for joint ventures in Ukraine, discusses specific qualifications for foreign venture parties, describes procedures and requirements for setting up and operating a joint venture, provides structures and considerations for funding the joint venture, and details common provisions and restrictions for exit, deadlock and dispute resolutions, and the pandemic effect on the business.
Types of joint venture
What are the key types of joint venture in your jurisdiction? Is the ‘joint venture’ recognised as a distinct legal concept?
Ukrainian law recognises two forms of joint venture: a joint venture as a cooperative business activity, without the creation of a legal entity (ie, an unincorporated joint venture); and a joint venture as a separate legal entity (ie, an incorporated joint venture).
In an unincorporated joint venture, the parties enter into a joint venture agreement whereby they undertake to cooperate without the creation of a legal entity and set to achieve specific business objectives. Such joint venture agreements may envisage the consolidation of parties’ assets (simple partnership) or a collective business without such consolidation of assets.
An incorporated joint venture is a joint-entity company, incorporated based on joint capital of two or more business entities. Joint ventures are usually organised in the form of either a joint stock company or a limited liability company (LLC) in Ukraine.
In what sectors are joint ventures most commonly used in your jurisdiction?
An unincorporated joint venture is widely used in public-private partnerships in Ukraine, where the investor aims to make a profit from state-owned resources or property rights under contractual arrangements, in particular for different industries. This is common in the oil and gas industry, and in road construction and transport infrastructure projects.
An incorporated joint venture structure is often used by non-Ukrainian investors in the sectors where local expertise, assets or know-how are essential for their collective business enterprise. In particular, the most common industries for such cooperation are agriculture, IT, consulting services and machinery.
Rules for foreign parties
Are there rules that relate specifically to foreign joint venture parties?
Many foreign-ownership restrictions were abandoned during the years of Ukraine’s transition into a market economy. There are some regulatory restrictions still applicable in some industries on foreign capital investments (eg, in banking and finance, insurance and media), but foreign joint venture parties now mostly enjoy national treatment.
Foreign investors should be aware that cross-border transfers (especially outbound payments) are usually subject to strict currency-control and financial-monitoring regulations. Foreign investors may perform a wide range of investment activities through special investment accounts opened with Ukrainian banks or directly from their foreign accounts.
Ultimate beneficial ownership
What requirements are there to disclose the ultimate beneficial ownership of a joint venture entity?
Ukrainian law defines an ultimate beneficial owner as a natural person that exercises material influence (control) on the activity of a legal entity (including through a chain of control or ownership):
a natural person is deemed to exercise direct material influence on the entity if he or she immediately owns a share of 25 per cent or more of the share capital, or the same part of voting rights in the legal entity;
a natural person is deemed to exercise indirect material influence on the entity if he or she owns at least a share of 25 per cent or more of the share capital, or the same part of voting rights in the legal entity through related natural or legal entities, trusts or other similar legal formations; or, regardless of any formal ownership exercises:
- the right to decisive influence on taking binding decisions that have material influence on the activity of the legal entity, trust or another similar legal formation;
- the right to decisive influence on the execution of legal deeds that enable to him or her define the principal conditions of the legal entity's business activity or the activity of the trust or another similar legal formation;
- the right to decisive influence on the appointment, voting results of the governing bodies of the legal entity, trust or another similar legal formation;
- the right to receive an income from the activity of the legal entity, trust or another similar legal formation; or
- the right of control, possession, use or disposal of all assets or their part of the legal entity, trust or another similar legal formation.
With respect to trusts established according to the legislation of a foreign country, the ultimate beneficial owner is considered their founder, trustee owner, protector (if available), beneficiary or a group of beneficiaries, as well as any other natural person who exercises material influence on the activity of the trust (including through a chain of control or ownership).
However, the ultimate beneficial owner cannot be a person who has the formal rights of 25 per cent or more in the capital or voting rights in the entity, but who is the commercial agent, the nominee (the nominal holder) or only the intermediary of such rights.
Starting in 2020, information on ultimate beneficial owners must be disclosed at the incorporation of a company as well as updated at the registration of amendments to the company's charter and to the company's data in the Ukrainian Company Register. Further, the company shall annually update the data on its ultimate beneficial owners contained in the Ukrainian Company Register. Any such disclosure or update requires the company to submit, in particular, notarised and apostilled copies of its non-resident ultimate beneficiaries' passports.
Ultimate beneficial owners are also disclosed at the opening of a bank account in Ukraine, during joint venture competition clearances or at the acquisition of banks or financial institutions. The notaries, real estate agents and lawyers are required to conduct know-your-client procedures for significant transactions.
How are joint ventures generally funded in your jurisdiction? Are there any particular requirements relating to funding and security packages?
The standard procedures for financing incorporated joint ventures in Ukraine are either through capital contributions or corporate loans. Donations or non-refundable financial assistance also exist but can trigger unfavourable tax consequences.
The advantages of a capital contribution include the relative simplicity of its implementation (which requires a shareholders’ resolution, amending the joint venture’s charter and its state registration), as well as no repayment obligation (except for withdrawal from and liquidation of the joint venture) and no interest payments.
Funding through a loan would necessitate a formal loan agreement with a non-resident lender. The loan agreement must correspond to the requirements of the National Bank of Ukraine. Security packages are not required by law.
Non-incorporated joint ventures are funded through contributions of the parties. This issue is governed by the joint venture agreement.
Capital injection restrictions
Are there any legal or regulatory restrictions on the injection of capital into, or the distribution of profits or the extraction of cash by other means from, the joint venture entity?
In early 2014, the National Bank of Ukraine imposed severe restrictions on cross-border currency transactions in order to mitigate the consequences of the country’s political and financial crisis. They included a complete ban on dividends and investment repatriation abroad (eg, by a decrease of the charter capital, share sale or withdrawal from the entity) and on early loan repayment to non-resident lenders (with some exceptions).
The restrictions were lifted between 2016 and 2020 owing to the achieved overall macroeconomic stability in Ukraine and specifically due to the enactment of the new Law on Currency and Currency Transactions in 2019. However, the National Bank of Ukraine has reserved the right to temporarily (up to six months) reintroduce currency restrictions owing to certain material reasons related to the general situation of the national financial market. A number of Russian-controlled business are currently subject to tough sanctions imposed in response to the annexation of Crimea and the backing of separatist forces in eastern Ukraine. These sanctions cover, inter alia, the freezing of assets and a ban on financial transactions, including the repatriation of capital and dividends.
What tax considerations should be taken into account in the operation of the joint venture?
In contrast to incorporated joint ventures, parties of unincorporated ventures are fully liable for tax debts of joint ventures.
Corporate profit tax
An incorporated joint venture is obliged to pay an advance corporate-profit tax at the rate of 18 per cent on dividends disbursed to its shareholders. This tax is charged on top of the dividend amount exceeding the taxable profit of the entity, and is not deducted therefrom. It is further set off against the regular tax liabilities of the joint venture.
A non-refundable financial relief granted by a shareholder to an incorporated joint venture adds to its financial result and increases its tax liabilities accordingly (unless balanced with the company’s losses).
Starting in July 2020, the new Ukrainian capital gain tax (15 per cent) applies to capital gains derived by a non-resident from the sale of its shares in a Ukrainian company, 50 per cent or more of the value of which is made up of real estate in Ukraine (either owned or leased), if the shares are sold to another non-resident.
Thin capitalisation rule
Interest amounts paid by an incorporated joint venture to its related non-resident creditors exceeding 50 per cent of the venture’s earnings before interest, tax, depreciation and amortisation (EBITDA) are not deductible if the loan exceeds 3.5 times the venture’s net capital. Starting in 2021, the above threshold will be decreased to 30 per cent of EBITDA and the thin capitalisation rule will apply to loans from any non-resident lenders (not just related parties).
An incorporated joint venture is obliged to deduct 15 per cent Ukrainian withholding tax from the amount of dividends paid out to its shareholders, unless an effective double taxation treaty (DTT) provides otherwise. The DTTs set lower or preferential withholding tax rates (usually, 5 to 10 per cent), if some conditions are complied with. Starting in 2020, the new principal purpose test applies: the parties of a cross-border transaction (such as dividend payment) will not be able make use of applicable preferential withholding tax rates or tax exemptions under a respective DTT if the principal purpose of the transaction is solely to take advantage of such preferential tax treatment (unless such aim corresponds to the object and purpose of the DTT).
Starting in 2021, payments by Ukrainian subsidiaries to their non-resident shareholders due to a decrease of the share capital or withdrawal from a subsidiary as well as other payments by Ukrainian subsidiaries to non-resident shareholders under shares held in such subsidiaries will be considered 'constructive dividends' subject to 15 per cent withholding tax if those payments do not correspond to the arm's-length principle.
Likewise, interest amounts paid out by an incorporated joint venture to its shareholders, which are non-resident lenders under corporate or intra-group loan agreements, are also levied with 15 per cent Ukrainian withholding tax, unless an applicable DTT provides for a lower rate.
Non-resident participants of non-incorporated joint ventures are ineligible for preferential withholding tax rates with regard to the distributed profit.
Value added tax (VAT)
In-kind contributions of shareholders to the joint venture are taxable with 20 per cent VAT, subject to further VAT credit.
Accounting and reporting issues
Are there any noteworthy accounting or reporting issues for the joint venture parties regarding their investment in the joint venture?
There are no accounting or reporting issues affecting non-resident shareholders or parties of a joint venture. The only exception concerns the new Ukrainian capital gain tax effective as of July 2020: A non-resident that purchases from another non-resident shares in a Ukrainian company, 50 per cent or more of the value of which is made up of real estate in Ukraine (either owned or leased), shall, prior to the transaction, register with the Ukrainian Tax Office at the location of the Ukrainian company’s seat, as well as withhold and pay the tax from the capital gain amount due to the seller.
Resident shareholders must indicate their investments in regular financial and statistical reports under the general rules.
In an unincorporated joint venture, a (resident) party determined by the joint venture agreement is responsible for tax accounting, reporting and payment.
What deadlock provisions are commonly included in joint venture agreements in your jurisdiction?
The parties of unincorporated joint ventures can include any applicable deadlock provisions in their joint venture agreements.
The law does not provide wide discretion for agreements between the participants or shareholders of an incorporated joint venture. Provisions on the formation of corporate bodies, their competence, procedures for convening general meetings and adopting decisions at such meetings shall be drafted in accordance with Ukrainian law. In turn, the law does not provide deadlock provisions to be used by participants or shareholders, except appraisal rights of minority shareholders in joint stock companies.
With the enactment of the Law on Limited Liability Companies and respective amendments to the Law of Joint Stock Companies, shareholders are also able to stipulate certain deadlock provisions in their shareholder agreements.
What exit provisions are commonly included? Does the law restrict any forms of mandatory transfer provision or any basis of calculation?
A party to an unincorporated joint venture may make a notice of its refusal to further participate in the joint venture agreement no later than three months before the withdrawal. This period cannot be altered by the agreement. Items (property) transferred to the joint venture shall be returned to the participant who provided them without remuneration, unless otherwise provided by the agreement.
For incorporated joint ventures, their shareholders, in some instances, have pre-emptive rights (rights of first refusal) in the case of an exit of other shareholders. For example, a shareholder of a private joint stock company must notify other shareholders about the intention to sell its shares. The company charter may set such a notification period. Other shareholders may have 20 calendar days to two months to exercise their pre-emptive rights to buy the shares. A similar rule is applicable to limited liability companies (LLCs), where the participants are entitled to their pre-emptive rights in proportion to each participant’s share (unless the charter provides otherwise).
Participants in LLCs have a general statutory right to exit the company upon giving notice of a demand to pay the proportionate amount of assets. Such payment must be made within 12 months of the date of the exit (unless the charter sets another payment term). At the request of the participant and upon the consent of other participants, the contribution may be returned in kind. The participant also receives the proportionate amount of the profit received by the company in the given year. Participants that hold 50 per cent or more of the charter capital require the consent of the other shareholders for withdrawal. The withdrawal of a participant becomes effective with its state registration.
Tax considerations following termination
What are the tax considerations on termination of the joint venture?
Termination of an incorporated joint venture triggers a mandatory tax audit conducted by the tax office, which is usually complicated by local conditions and red tape. The entity may not be liquidated as long as it has outstanding tax debts (unless declared bankrupt).
Other tax considerations in relation to the transfer of assets include value added tax (VAT) levied when in-kind (as opposed to monetary) assets are returned to participants of a joint venture owing to its termination.
Finally, an income derived by a non-resident shareholder of an incorporated joint venture from the disposal of its shareholding is subject to the Ukrainian withholding tax of 15 per cent (unless an applicable double taxation treaty provides otherwise). Starting in July 2020, the new Ukrainian capital gain tax (15 per cent) applies to the capital gain derived by a non-resident from the sale of its shares in an incorporated joint venture, 50 per cent or more of the value of which made up of real estate in Ukraine (either owned or leased), if the shares are sold to another non-resident. At the same time, transactions with shares and other corporate rights are not VAT taxable.
Choice of law and resolution methods
In your jurisdiction, are there constraints on the choice of law or the method of dispute resolution provided for in joint venture agreements?
As a matter of court practice, joint ventures incorporated in Ukraine, relations between shareholders regarding joint ventures and corporate governance are subordinated exclusively to Ukrainian law and Ukrainian courts. Shareholders of a Ukrainian company may face significant obstacles with enforcement in Ukrainian courts of joint venture agreements under foreign laws.
In contrast, joint venture agreements between participants in an unincorporated joint venture and disputes between them may be subordinated (except for imperative provisions of Ukrainian law) to a foreign jurisdiction and arbitration.
Mandatorily applicable local law
What mandatory provisions of local law will apply irrespective of the choice of governing law?
Legal provisions pertaining to areas of Ukrainian public law, such as accounting and taxation, monetary regulations and currency control, customs, competition, regulatory, administrative and criminal law, remain mandatory and must be complied with.
Regardless of the chosen law, Ukrainian law also applies to all real estate matters for real estate situated in Ukraine, as well as to other property subject to state registration in Ukraine (such as transport vehicles and securities). Overall, according to the general principle of private international law, Ukrainian law shall determine the property and other proprietary rights to things located in Ukraine.
In addition, some types of disputes are subject to the exclusive jurisdiction of Ukrainian courts, such as related to real estate located in Ukraine, IP rights registered in Ukraine and corporate disputes regarding Ukrainian legal entities and their bankruptcy.
Are there any restrictions on the remedies a tribunal can grant that would have a bearing on the arbitration of joint venture disputes? Are there any restrictions on the arbitration of shareholder claims?
Corporate disputes or shareholder claims of incorporated joint ventures may not be subject to arbitration. State commercial courts are the competent courts of Ukraine. The only exception is for disputes arising out of a shareholder agreement between shareholders of an incorporated joint venture. Such disputes may be subjected to international commercial arbitration based on an arbitration clause (agreement) endorsed and signed by the joint venture and all its shareholders.
In terms of interim measures or injunctive relief as a remedy prior to the final judgment, the claimant must sufficiently prove their necessity to the court; for example, if there is otherwise an imminent danger that its rights will be breached or their restoration or the enforcement of the final judgment may otherwise become impossible or impeded. Interim measures may include, inter alia:
retrieval of evidence;
search of premises;
seizure of money and property; and
prohibition to undertake certain actions.
The court may decide on injunctive relief at its discretion to the extent permitted under the law. The following interim measures, however, may not be used as injunctive relief in corporate disputes:
prohibition on holding shareholders’ meetings and taking decisions (except for certain decisions determined by court directly related to the subject matter of a dispute and a prohibition to amend the company charter with respect to charter capital if the subject of a dispute is the shares of the joint venture);
prohibition on issuers, registrars or custodians providing the shareholders’ registers or information on shareholders necessary for the holding of general meetings; or
prohibition on participation (registering for participation) in shareholders’ meetings and determining their quorum.
Injunctive relief measures must be proportionate to the claimant’s demands and not affect other shareholders’ rights.
Minority investor protection
Are there any statutory protections for minority investors that would apply to joint ventures?
With regard to an incorporated joint venture, a minority investor can file an action to the court against the company’s officials who have caused damage to the company. Shareholders holding 10 per cent or more of the company are entitled to file such action as well as initiate a general shareholders’ meeting.
Additionally, shareholders in joint stock companies shall have the right to claim from the company to buy out their shares at market value if they have registered at the general shareholders’ meeting and voted ‘against’ a decision on one of the following:
a merger, accession, division, transformation, spin-off or change of company type;
granting consent to a substantial or interested-party transaction;
refusal to exercise the pre-emptive right of a shareholder to purchase shares of an additional issue in the process of their placement; or
a change (decrease or increase) of the share capital.
Moreover, in joint stock companies, in the case of a purchase of the controlling shareholding (ie, more than 50 per cent of the shares), the new majority shareholder (acting alone or with its affiliates) is obliged to offer the remaining minority shareholders the ability to buy out their shares at the market value.
The law provides no statutory appraisal rights to participants of limited liability companies (LLCs). However, participants of LLCs holding less than 50 per cent of the shares have a general right to exit the company upon giving notice with a demand to pay the proportional amount of assets, as envisaged by the law and charter. Participants holding 50 per cent or more of the shares require the consent of the other participants to withdraw from the company.
How can joint venture parties have liabilities to each other beyond what is expressly agreed in the joint venture agreement?
With regard to an incorporated joint venture in the form of an LLC and joint stock company, the law prescribes that the shareholders can be held liable within the amount of their shares only. Few other forms of legal entity can envisage the full responsibility of their shareholders for the joint venture’s liabilities.
For non-incorporated joint ventures, the participants bear sole responsibility under all joint-obligations, irrespective of the grounds for their emergence. If a joint venture agreement was not terminated upon the participant’s refusal to participate in it further, or in the case of an agreement breach upon one of the participant’s demand, the participant whose participation in the agreement is terminated is liable to the third parties under joint obligations that emerged during the term of its participation in the agreement.
A shareholders’ agreement can provide for liability (financial sanctions or reimbursement of damages) of its parties for failure to comply with their obligations. The mentioned liability measures are protectable by court.
Disclosure of evidence
Are there any particular issues that can arise in joint venture disputes in your jurisdiction concerning disclosure of evidence?
According to the law, the shareholders and participants of an incorporated joint venture can only have access to a limited portion of a company’s documentation. As a practical matter, usually, a majority shareholder has full access to the company’s documentation and, in the case of a dispute with their partners, can obstruct the disclosure of evidence.
What advantages does your jurisdiction offer for parties wishing to set up and operate joint ventures?
The main economic advantages are:
a large and rapidly growing consumer market;
a qualified and relatively cheap workforce;
varied cargo transportation options (railway, Black Sea ports);
preferential trade regimes for certain goods with EU and other countries; and
natural resources: black soil, coal and amber.
The main legal advantages are:
a civil law legal system;
continual approximation and adaptation to EU law and standards;
good practice in accordance with international standards;
ongoing work to improve the investment climate;
a positive attitude to foreign investors;
fast and simple registration of joint ventures;
transparency and easy access to public databases with relevant information on companies, their assets and beneficiaries; and
open tendering procedures in public procurement.
Requirements and restrictions
Are there any particular requirements or restrictions relating to joint ventures in your jurisdiction that could deter international investors?
In addition to the main legal restrictions connected with currency regulations, certain spheres of business activities are bureaucratically regulated and require substantial paperwork and matching formalistic requirements.
Key developments of the past year
What are the current trends affecting joint ventures in your jurisdiction? What recent developments in legislation and case law have had an impact on joint ventures?
Ukraine has substantially liberalised its forex legislation and currency control regulations. With the enactment of the new Law on Currency and Currency Transactions as well as relevant by-laws in 2019, most existing restrictions on cross-border payment transactions (such as restrictions on dividend payment and investment repatriation, payment deadlines and mandatory conversion of currency proceeds) were lifted.
Other major developments pertain to tax law. Material changes to the Tax Code of Ukraine took effect in 2020, which concern almost all aspects of taxation in Ukraine. In particular, there are new rules on capital gain tax on proceeds of non-residents from the sale of shares in some Ukrainian companies and on taxation of constructive dividends, and detailed provisions on controlled foreign companies have been introduced. The law stipulating these changes is frequently referred to in Ukraine as the 'anti-BEPS package law'. Due to some inconsistencies and difficulties with its implementation, certain revisions and adjustments are expected in the near future.
Further, in 2020 Ukraine has significantly updated its anti-corruption and financial monitoring legislation. This includes, in particular, expanded and detailed regulations for the disclosure of ultimate beneficial owners by companies and regular updates of this information.
Finally, in 2020 Ukraine has made the first major steps to lift the longstanding statutory moratorium on the sale of agricultural lands and to create a long-awaited agricultural land market. This land reform will gradually open the way to private ownership of agricultural lands by natural persons and legal entities. However, foreign citizens and non-resident entities, as well as Ukrainian companies (joint ventures) with shares held by foreigners or by non-resident entities shall be entitled to acquire agricultural land plots in Ukraine only if this decision is endorsed by an all-Ukrainian referendum.
What emergency legislation, relief programmes and other initiatives specific to your practice area has your state implemented to address the pandemic? Have any existing government programmes, laws or regulations been amended to address these concerns? What best practices are advisable for clients?
In response to the covid-19 pandemic, the Ukrainian government imposed quarantine followed by a complete lockdown on most non-essential business activities. The lockdown was gradually lifted in May and June 2020 and replaced by an adaptive quarantine regulated at local levels, depending on the epidemiological situation. Nationwide and local recommendations and mandatory health orders are in place providing for health and safety regulations to be followed by businesses to prevent and contain the spread of coronavirus (including physical distancing, mask wearing, temperature screening, increased cleaning and disinfection frequency, and training for staff on preventive measures).
Numerous businesses (such as retail, hospitality, tourism and transportation) suffered from the restrictive quarantine measures and were expecting the government to provide adequate relief. However, due to budgetary constraints, the state has in large measure been unable to implement any broad and comprehensive relief programmes to address the pandemic. Therefore, the response of the government has largely been limited. It has included, in particular, the following major relief measures:
certain benefits were offered to manufacturing businesses as partial compensation for the salaries of their laid-off or partly unemployed employees;
employers were given flexibility to transfer their employees to remote working schedules;
liability of businesses for tax violations during quarantine was temporarily suspended; and
landlords were encouraged (but not obliged) to negotiate rent discounts with tenants whose businesses were affected.
Consequently, many affected businesses have resorted to austerity measures, reducing their expenses and laying off or making redundant their staff.
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Reproduced with permission from Law Business Research Ltd. Lexology Getting the Deal Through: Joint Ventures 2021, (published in December 2020; contributing editors: Gavin Williams and James Farrell, Herbert Smith Freehills) For further information please visit gettingthedealthrough.com