beyondbrics

Russian authorities are mulling tax changes that could raise borrowing costs for Russian companies on the international eurobond market by as much as 20 per cent, according to lawyers familiar with the matter.

On Thursday Moscow newspaper Vedomosti reported on a letter from deputy finance minister Sergei Shatalov to the head of Russia’s tax service recommending that they look into levying withholding taxes on interest paid to eurobond holders living abroad. Since the issuers usually pay such taxes, the direct responsibilityould fall on the Russian borrowers, not the investors.

This is seen as part of a government assault on offshore tax havens, but could seriously hamper access to capital for Russian companies at a time when foreign bank lending is tight and growth forecasts for Russia are being downgraded for 2012 due to increased pessimism about the global economy.

Most eurobonds issued by Russian credits are issued via “special purpose vehicles”, generally set up in jurisdictions which have the benefit of a favourable double taxation treaty with Russia. On the basis of such treaties, the Russian tax authorities have not imposed withholding tax on money borrowed under Russian eurobonds.

Shatalov’s letter suggests assessing taxes on interest payments as if the special purpose vehicles do not exist.

Were this approach to be taken, eurobond documentation typically includes clauses that put the economic burden of such taxes on the Russian companies involved, rather than the bondholders, according to Michael Pugh of lawyers Hogan Lovells.

“If this approach to taxing interest payments is taken forward, Russian borrowers under Eurobonds would either be obliged to pay up to 20 per cent withholding tax on interest payments, or exercise their right to repay early” said Pugh “It is very hard to understand how this fits in with the policy of the Russian government to promote Moscow as an international financial centre”.

If implemented, Alexander Kudrin, head of fixed income research at Russian investment bank Troika Dialog said “it will make borrowing for Russian economies much more expensive and thus make investment in Russia more expensive.”

A meeting was being held Thursday at the ministry of finance between large private Russian borrowers and ministry officials to discuss the issue. “I believe that a compromise solution will be found” said Kudrin. He added that Russian traded eurobonds, a roughly $100bn market, did not react strongly to the news Thursday.

Related reading:
Russia: a touch on the tiller, beyondbrics
Bank of Moscow bail-out: what’s left for bondholders? beyondbrics
Russia: long queue for Eurobonds, FT