Reimbursement of expenses as method of struggle against tax lawlessness. Part I

Expenses for administrative appeal of illegal decisions of tax authorities.


May 18, 2012

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Dear Sirs,

We avail ourselves of this opportunity to express to you assurances of our highest consideration and bring to your attention the comments regarding the possibility of reimbursement of taxpayers’ expenses incurred as the result of tax disputes and using this instrument for restraining excessive pressure from tax authorities.

Preparation of this comment is predetermined by the Law of Ukraine “On the Limit of Compensation Costs for Legal Assistance in Civil and Administrative Cases” which limits the upper limit of the reimbursement of expenses for the legal support in administrative case.

In accordance with the abovementioned law the amount of the compensation of expenses of the taxpayer shall not exceed 40% of the fixed by law minimum monthly wages per 1 hour of participation in the case, which is UAH 437,6/1 hour. Besides, reimbursement within the court expenses are only the one for the legal support concerning legal proceedings of the attorney right in the court (mainly time for participation in the court hearing) and thus not including the main part of the case conducting time.

As a comparison, in the neighboring Russia the recent practice affirms that Russian courts recognize the right of the taxpayer for reimbursement of all reasonable costs incurred during consideration of the tax disputes. For instance, on March 15, 2012 the Presidium of the Higher Administrative Court by the results of consideration of the case HAC – 16067/2011 answered a claim of the taxpayer regarding exaction of RUB 2 889 302, 19 of the court expenses from the tax body for payment of the company’s representatives services (of the law company) in view of consideration of the tax disputes. The key element is not the sum actually, but confirmation of the right on reimbursement of the reasonable and confirmed actual expenses without normative restrictions.

And on the contrary, the amount of the potential reimbursement of expenses of the taxpayer connected with court resolution of the tax disputes is limited. Therefore even in case of winning the case in the court the taxpayer might be “punished” financially by way of incurring the expenses for legal support which the law does not permit to reimburse.

In this regard the cases of not considering the pleas of the taxpayers and ignoring the procedural obligations by the tax authorities leading to dragging the processes and their excessive onerousness and thus to considerable increase of the expenses for legal support in the courts have considerable increased.

Therefore urgent becomes the task of finding the ways of reimbursement of such expenses of the taxpayer. One of the possible ways may be moving the main preparatory work to the pre-trial stage – administrative appeal.

Can the taxpayer receive reimbursement of the expenses at the stage of administrative appeal of the unlawful tax decision and moderate the excessive pressure from the tax authorities and “punish” them by hryvnia in case of presenting unlawful requirements?  This part of the newsletter is devoted to this question.

For the beginning: the right on reimbursement of the financial loss (at the expenses of the country), caused by the unlawful decisions, actions or inactivity of the state authorities, local self-governing authorities, their officials and officers during exercising their authorities,  is enshrined in Article 56 of the Constitution of Ukraine.

Respective provisions on reimbursement of damage, caused to the taxpayer are included in the Tax Code of Ukraine. In particular, p. 21.3 of the Tax Code states that “The losses incurred due to the illegal actions of officers of supervisory authorities shall be refunded from the state budget allocated to such supervisory authorities“.

That is, losses shall be reimbursed not from the abstract budget but at the cost of the budget financing the body, actions of which caused losses that means at the expenses of the tax body.

This obligation of the tax bodies corresponds to the right of the taxpayers for the complete reimbursement of the losses (damages) caused by the unlawful actions (inactivity) of the tax authorities (their officials), stated in subparagraph 17.1.11 of the Tax Code.

The losses to be reimbursed are perceived in the Tax Code as the losses of the taxpayer caused by the unlawful actions (inactivity) of the tax authorities, and the reimbursement shall be done to the full extend.

All the above mentioned norms are aimed at protection of rights and interests of the taxpayer, deriving from the civil legislation of Ukraine. Thus, in accordance with Article 16 of the Civil Code of Ukraine reimbursement of losses is one of the way of protection of the civil rights and interests of individuals performed by the court.

According to part 2 of Article 22 of the Civil Code the losses are, besides others, expenses the person has made or is obliged to make for restitution of the infringed right (actual losses). Within the general rule the losses shall be reimbursed to the full extend by the individual causing these losses (Article 1166 of the Civil Code). The Civil Code also “says” about reimbursement of losses to the full extend and at the expenses of the supervisory authorities passing the unlawful decision, that means that the general rule determined by the Civil Code is in force.

Unlawfulness of the passed decisions by the tax authorities requires taking measures from the taxpayer for proving their unlawfulness and exclusion from payment of unlawful tax liabilities and penalties. If the taxpayer does not appeal such decision of the tax authority it will come into force according to the provisions of the Tax Code and the taxpayer shall be obliged to pay the unlawful tax liabilities and penalties. Thus, expenses on the legal services regarding appealing the unlawful decision are compelled, because in the opposite case the taxpayer shall pay taxes and penalties which, according to the legislation, he shall NOT pay.

We shall mention in between that reimbursement can include expenses on the in-house lawyers who participate in (directly work at) appealing the unlawful decisions of the tax authorities, since under the conditions of regular business such workers shall be engaged in other issues and not spend time on disputes with tax authorities or even not apply for work. Such conclusion shall be proved by the practice of the European Court of Human Rights. In the decision “Sunday Times vs. United Kingdom” dated November 6, 1980 the Court decided that reimbursement also includes expenses of the staff legal adviser of the company which is the offended party. Thus, work of the legal adviser of the company-applicant “Times Newspapers, LTD” which consisted of preparation of memorandums, documents, participation in the Commission work and familiarization of the attorney with the case materials before consideration in the Court, shall be reimbursed by the respondent State (p.25 of the abovementioned decision).

So the unlawful decision of the tax authorities is the primal cause the resulting expenses of the taxpayer, in particular for legal services or payment of the tax liabilities and penalties, The fact of existence of the unlawful decision gives the right for reimbursement of losses irrespective of the availability of the fault of the tax body passing such decision in accordance with Articles 1166,1173,1174 of the Civil Code.

Therefore, in accordance with the provisions of the current legislation of Ukraine, in case of proving the unlawful decision of the tax authorities, the result of which is its cancellation, the expenses of the taxpayer for the administrative appeal of the decision shall be refunded to the full extend and the expenses of the costs foreseen for the tax body. In such case the taxpayer shall address to the tax authorities with the claim of reimbursement of financial losses cause by passing unlawful decision, and in case of rejection – to the court with respective claim.

For instance, court case № 6/590-08 brought by private entrepreneur to the tax authority on reimbursement of the pecuniary losses caused by unlawful decision of the tax body.

The tax body passed unlawful decision appealed by the enterprise in the administrative order. Under the results of considering the claim the appealed tax notification-decision was cancelled by the tax body of the higher instance. After that the enterprise addressed to the tax body to reimburse the financial losses, caused during passing the unlawful decision which was dismissed.

That is why the enterprise submitted the claim on reimbursement of financial losses at the rate of expenses for the legal services necessary for such appealing to the Economic Court. The presence of such expenses was confirmed by the Agreement on rendering legal services, transfer-acceptance act of such services, by the complaint on the tax notification-decision and payment order concerning payment of rendered services. The Court if primary jurisdiction, considering the pleas of the prosecutor and provided arguments, satisfied the claim on reimbursement of the financial losses to the full extend. This decision was confirmed by the courts of appeal and cassation.

Thus, in the resolution of the Higher Economic Court of Ukraine dated May 27,2009 it is mentioned in the case № 6/590-08 (Unified State Register) that “The Chamber of the Higher Economic Court of Ukraine considers that lower courts took into consideration the provision of Articles 16,22 of the Civil Code, according to which every person has the right to apply to the court for protection of the private property or non-property rights and interests. One of the ways of civil rights protection is refunding and other ways of reimbursement of the financial losses. An individual facing losses caused by infringement of the civil rights has the rights for their reimbursement. Losses, in particular, are the one the person faced in respect with  destruction or damage of the thing as well as the expenses the person has made or is obliged to make for restoration of the infringed right (actual losses); income an individual could really get under usual circumstances if the right was not infringed (lost profit).

In addition to that it is determined in Articles 1166,1173 of the CC that “property damage caused by unlawful decisions, actions or inactivity regarding personal non-property rights of individuals and legal entities as well as damages of the property of individuals or legal entities, shall be reimbursed to the full extend by the person causing this damages…

It shall be mentioned that the institute of reimbursement of expenses incurred at the stage of administrative (pre-trial) appealing of the tax decisions can become efficient instrument of control of the unsubstantiated pressure from the tax authorities and preventing tax bodies rights abuse, corruption etc..

This is proved by the foreign countries practice where reimbursement of the expenses for the pre-trial appealing the decisions of the tax authorities was introduced in due time.

In particular, current tax legislation of the USA allows the taxpayers to reimburse the expenses (including the costs of services of the experts and attorneys), incurred in the course of administrative proceedings in the tax authorities of the USA. The issue of administrative resolution of the disputes with tax authorities and reimbursement of respective expenses is regulated by the separate law which clearly determines the order of dispute resolution, requirements that shall be fulfilled for reimbursement of the expenses for the dispute, their amount and their relevancy.

As it is mentioned in, for example, Article of M. Laro, tax attorney (USA), “Reimbursement of the pre-trial expenses of the taxpayer in the USA” (Russian magazine “Nalogoved” №11 as of 2011), the aim of introduction of the mechanism of reimbursement of expenses of the taxpayers was (1) reduction of  the possibility of abuse of the tax authorities and (2) providing the taxpayers the possibility to defend their rights irrespective of their financial status. Received results are evident: today most of the tax disputes in the USA (85-95% according to different estimates) are resolved in the pre-trial order. So, the mechanism of pre-trial regulation of the tax disputes is rather effective and the taxpayers are not obliged to spend lots of money and time for the court consideration.

To sum up, we consider that the institute of reimbursement of expenses incurred at the stage of administrative (pre-trial) appeal of the tax decisions has considerable value for tax lawlessness struggle and it shall be developed. Moreover, it is foreseen at the level of legislative acts of Ukraine, but the practice of its realization is lacking.

Urgent possible actions:

  1. To include to the texts of the comments on inspection certificates, primary and secondary complaints the citation to the obligation of the tax authorities to prove lawlessness of any charges or any other decision of the tax body, to consider the claims objectively and pass motivated decision by the results of their consideration. To notice separately that the taxpayer has the right to appeal to court with the claim on reimbursement of property damage to the taxpayer to the full extend (including expenses for respective legal services).
  2. After cancelation of the appealed decision of the tax authority which confirms its unlawfulness (by the higher tax body or administrative court) – to appeal to the court with the claim on reimbursement the expenses for the legal services connected with administrative appeal of such unlawful decision to the full extend.

Please pay attention that the case on reimbursement of the expenses for the administrative appealing of the unlawful tax decision shall be considered in a separate order in view to the position of the Supreme Court of Ukraine stated in the decision as of April 15, 2009. In particular, the Supreme Court of Ukraine make a conclusion that “expenses connecter payments of the legal support of the attorney, incurred by Person 1 in view of realization of the procedural rights during consideration of the case in the order of civil and administrative proceedings, are referred to the court expenses by the procedural law and they are reimbursed in the order foreseen by respective procedural law shall not considered to be the damage in understanding of the Article 1166 of the CC and cannot be refunded by the claim on reimbursement of losses”.

That means that expenses for the legal support of the attorney (lawyer) in procedural actions during consideration of the case in the court shall be considered as the court expenses and shall be reimbursed in the order established by the Code of Administrative Procedure in Ukraine but not under the claim on reimbursement of the losses. But that doesn’t mean that all other expenses on the legal support are not the losses and are not under reimbursement in the action proceedings.

Besides, proper, full documentation of respective services and expenses (expenses for wages of the in-house lawyers shall be provided, special attention shall be paid to:

  • agreement on providing the legal services (legal support etc.),
  • job descriptions, under which the functions of the in-house lawyers include participation in the tax disputes;
  • pleas regarding amount, description and content of the provided services (performed work of the in-house lawyers), their connection with the tax dispute,
  • respective acceptance-transfer Acts of the provided services and specifications,
  • timesheets – in case legal support of the taxpayer’s in-house lawyers in the tax disputes,
  • payment documents confirming the fact of incurring expenses for the tax dispute.

Thus, taking the abovementioned measures will allow the taxpayers not only get reimbursement of the expenses for administrative appeal of the tax decisions and it will be the deterrent of the tax “unlawfulness” for the future.

We hope that the provided information will be useful for you. The issue of reimbursement of expenses incurred with respect to court appealing of the decisions of the tax authorities will be covered in details in the Part II of the newsletter.

Kind regards,

© TOV «KM Partners», 2012