The fiscal system that has been formed in Ukraine features a range of unique properties that separate it from many others. It would not be possible in Europe, as it is based on two fundamentals: the level of taxation that makes any business unprofitable, perhaps only with the exception of criminal activity, as well as a very low quality of administration of the taxes. These are obstacles an honest taxpayer has to maneuver between every day unless his business is in the shadow. This is the instrument that is used to benefit the ruling elite, as, when the fiscal burden is toxic for business, while the administrative system is on hand-brake, the role of an individual official in taxation issues becomes almost absolute, similarly to the official voluntarism theory. Whereas those who don’t want to pay their taxes and sleep at the cemetery, try to find a way to optimize their obligations in regards to the state.
The tax on real estate for individuals is one of the best examples that illustrate all of the aforementioned. The revenue collected goes to local budgets, and it is expected to be one of the main sources of funds for Ukrainian towns and rural communities. It was supposed to, but it hasn’t become that yet, even though the Western approach was taken as the basis. Just about any reformatory idea in Ukraine appears either because of grant organizations, or as the result of long discussions with international creditors. It was exactly the latter that brought about the tax on real estate. It began with the IMF demanding to introduce a tax on real estate for the wealthy. This is why the minimal threshold for the taxation of property did not concern most of the ordinary population of the country. However, “the elite” was far from willing to pay for their assets, which led to a number of confusing instances, where the right to an estate of 1000 m2 was distributed between all the trustworthy relatives. This was done in order to acquire a tax concession. The revenue collected from the tax was abysmal, which contradicted the increasing number of yachts on the Dnipro, of expensive foreign-made cars and the growth of suburban villages that all of a sudden became something close to a “golden mile”. On the other hand, the country was still seeking loans from international creditors. This contradiction was the administration of taxes distracting to the latter, who started demanding to improve the administration of taxes first before the country could ask for any loans. The argument was that the money is right there before your very eyes, and you are too lazy to pick it up.
As it often happens, the common Ukrainian was called upon to solve the situation. This is why the problem with tax administration was solved in a very simple way – by expanding the taxable base. From now on, individuals owning apartments of over 60 m2 and houses of over 120 m2 became taxpayers in regards to the real estate tax. This means that the middle class was targeted, including those “unlucky ones”, who built sheds in the 1990s, as well as those who own apartments built during the Stalin and the Brezhnev eras – as descendants of the criminal colonial past. The amount of the tax is set at 1.5% of the minimum wage per one taxable square meter. For those who own large real estate facilities, namely apartments of over 300 m2 and houses of over 500 m2, a universal tax of UAH25,000 ($950) per individual was created.
The practice of applying the real estate tax in Ukraine has demonstrated how such complex taxes can be implemented within the national fiscal system, given the presence of a few tight prerequisites. First of all, the tax itself needs to be based not on the quantity of the lodging, but rather on its market value: a taxable 100 m2 single family house built during the Khrushev era on the outskirts may be times cheaper in terms of the market value than a 60 m2 apartment facing the Mariinsky Park. This is without even mentioning the fact a 120 m2 house in some village and the same house in a luxury village of townhouses are two very different things. Therefore, the existing model of the real estate tax is socially unfair and demotivates the population to pay the tax.
Furthermore, the administration of the tax is impossible without the availability of property registers that are at least 70-80% filled, while tax officials themselves admit that a lot of the items commissioned in the previous years is not recorded. Another important issue is that the tax works in countries with a developed practice of property valuation. Only if the mentioned conditions are in place, the tax system works perfectly: you buy an apartment, you perform a required annual market valuation, you pay the tax depending on the value of the estate.
In such situation, not only the principle of social justice is kept (more tax is paid not by whoever owns a larger area, but whoever owns a more expensive lodging), but also the simple logic is maintained: if property prices rise, the tax rises too, and if they fall – the tax declines as well, as it is supposed to reflect the price of the asset. In Ukraine, however, the tax is linked to the minimum wage that is set by an administrative decision, which depends on the government’s actions ahead of elections. And the result is that the property prices fall for a number of years in a row, while the tax on that property continues rising. By the way, the fact that the property tax is linked directly to the minimum wage, it is rather strange that all the social standards are tied to the living minimum, whereas all the fines are linked to the non-taxable income minimum of individuals.
In reality, however, the link between the real estate tax to the living minimum is rather favorable for the state. The government is not rushing to raise the living minimum: since 2014 it has risen only from UAH 1176 to UAH 1853 in 2018. Within the same period, the minimum wage has risen from UAH 1218 to UAH 3723. Such selectiveness can be explained by an unwillingness to raise pensions and public benefits, while the growth of the minimum wage is attributed mostly to the real sector of the economy.
The state cannot fool itself, and this is exactly why the amount of the tax was tied to the minimum wage instead of the living wage. As early as 2014, the link of the tax to both of these indicators exhibited similar levels of tax payments per m2 – UAH 18. Fast forward to 2018, and the tax calculated based on the minimum wage is UAH 56 per m2, whereas had the tax been tied to the living wage, this indicator would be exactly two times less – UAH 28. In case of paying taxes for the previous year, the ratio would be UAH 48 and UAH26 respectively.
How has the peg to the minimum wage influenced the ordinary Ukrainian? If the tax was calculated based on the living wage, its amount in 2018 would be UAH1112, while in reality, one would have to pay some UAH 2234, which is two times more, for 40 "extra" m2. Surely, local authorities may lower the amount of tax, but why should a taxpayer be dependent on the mercy of local lawmakers?
Nobody has ever analyzed the dynamics of the real estate tax growth in relation to the inflation level. So, within the period between 2015 and 2018 (if one takes the target level of inflation at 10% as the basis), the consumer inflation reached 79%, whereas the tax increase within those years stood at 170% (the amount of tax per m2 in UAH), meaning it was two times greater than the inflation growth. Any economics laws do not matter here, just as physics laws do not within the singularity. Taxes cannot grow two times faster than the inflation, it contradicts the most simple rules of fiscal "gravitation". The reason for this condition is that in the higher spheres, the right hand has no idea where the left hand is, so the minimum wage is raised without accounting for it causing the growth of the tax payments pegged to them as well. An effective state management would have to do just two things – either to direct the higher minimum wage in an economically viable direction or to unpeg the taxes tied to the minimum wage.
If our fiscal system were operating as it does in Europe, then we would be witnessing a paradox, where wage growth is partially consumed by the higher real estate tax. But the thing is that the cumulative revenues of the tax do not typically exceed UAH 200-300 million. Most of the revenue is collected from commercial property. The majority of the population does not really care about the tax, especially as the responsibility of tax assessment lies exclusively on the State Fiscal Service, which cannot do anything, as nothing has been done in our country in these long years in regards to property rights, especially the fact that no reasonable registries have been introduced. And the result is that any time our fiscal system messes up it is minimized by total non-enforcement of its requirements. And any tax reform is destined for the same result without the creation of fundamental institutions.