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. Last Updated: 07/27/2016

Leasing Laws Unclear, Especially on Taxation

The number of financial leasing arrangements is growing in Russia, cautiously following in the footsteps of other emerging markets, where financial leases are a booming business. However, in spite of the adoption earlier this year of the second part of the Civil Code, which made financial leasing "a recognized legal concept," the regulatory framework remains incomplete and some key issues concerning licensing, the registration of assets and taxation still need to be solved, lawyers said.

A Russian draft law on leasing was presented at an international conference last week. But in spite of the attendance of top government officials and a letter of support for the conference from President Boris Yeltsin, it will take some time before Russia gets a coherent legal framework concerning financial leasing. The draft law yet has to pass its first reading in the State Duma, and even its eventual adoption will not remove all obstacles for the development of leasing, experts agree.

So far the provisions guiding leasing "are scattered around Russian law," said Bruce Bean, a partner with the Coudert Brothers law firm in Moscow.

Financial leasing in Russia was introduced by a decree, "On the development of financial leasing in investment activities," issued by Yeltsin in September 1994. The decree was concretized in a government order, "On the development of leasing in investment activities," and a set of "Temporary regulations on leasing," both issued in June 1995.

In the second part of the new Russian Civil Code that came into force in March this year chapter 34 is dedicated to the question of financial leasing.

"The second part of the Civil Code established the basic parameters for financial leasing in Russia," said Eric Michailov, an attorney with the White & Case law firm in Moscow.

But there are still plenty of blank spaces when it comes to regulating leasing arrangements.

One often cited problem concerns the obstacles facing the lessor, when registering the leased asset. "There are not well-established practices" concerning the registration of several types of assets in Russia, Bean said.

Such practices are in place regarding the leasing of aircraft, but not for example as regards trucks and certain types of equipment, lawyers said.

This is a key obstacle to the development of several types of leasing, as registration is necessary to protect the lessor's interests while the lessee is in possession of the asset.

In a paper presented at the international conference last week, Maria Kozloski, an investment officer with the International Finance Corporation, or IFC, the World Bank's private sector arm, outlined some proposals to create a "conducive regulatory environment" for financial leasing.

An important element in this, according to the IFC paper, is a working system of licensing firms operating on the market.

"The government should regulate leasing companies through the licensing process and have minimal requirements over leasing companies once they are established," Kozloski said.

But the Russian rules guiding the licensing of financial companies, including those engaging in leasing, are unclear on several points.

"It is not always clear, when foreign firms involved in leasing operations in Russia should obtain a license from the Ministry of Economy," Michailov said. He added that he would advise foreign companies with more than two or three long-term financial leasing contracts to obtain a license.

In developed economies leasing is typically tax-driven. But so far the provisions guiding taxation of financial leasing in Russia are often confusing and in most cases do not encourage leasing operations.

"General rules are in place, but there aren't major incentives to use them until the tax issues are resolved," said one Western lawyer.

"Leasing companies should be taxed the same ways banks are taxed, and at the same rates, What leasing needs is 'a level playing field' with respect to other forms of financing," Kozloski said.

Under the June 1995 government order lessors would receive exemptions from profit tax as well as VAT exemptions, but the finance and economics ministries have not yet drafted the necessary resolutions, the lawyer said.

However, there may be light at the end of the tunnel, as the new law provides for state guarantees for leasing projects and tax holidays for leasing companies in their first year of operation, said a Russian lawyer, who asked not to be named.

But lawyers cautioned that the new lease law itself will hardly solve all taxation problems. While some suggest that the new Russian tax code -- whose first part is expected next year -- will give an answer to many of the open questions, others say that the patch-work character of the current legislation is not likely to change any time soon.

According to figures cited by Deputy Economics Minister Vladimir Kossov last week, there are currently some 25 leasing companies on the Russian market, while another 50 have applied for a license.

There has also been some progress concerning the crucial issue of tax deductibility.

"With careful drafting of the documentation," it is possible, according to Mikhailov, "for the lessee under a finance lease to receive a tax deduction of the lease payments he pays to the lessor."