Russian billionaires could better survive economic sanctions thanks to a tax haven their country created in 2018.
The two offshore zones, known as special administrative regions, or SARs, have used tax incentives to entice Russian companies based in other countries to locate in Russia.
Located in the far west and east of the country – one on Oktyabrsky Island in the Kaliningrad region sandwiched between Lithuania and Poland, the other on Russky Island near the borders with China and North Korea – the two special regions gave the oligarchs a ramp out of foreign jurisdictions where they could face sanctions.
Along with low tax rates, SARs have the added benefit of putting businesses out of reach of the United States and other countries seeking to punish President Vladimir Putin for Russia’s aggression against Ukraine. . US President Joe Biden has said his administration is preparing to impose sanctions on Russian billionaires in retaliation for any violence.
“The SAR initiative was set up to help sanctioned companies return to Russia and minimize legal risks,” says Ivan Nasonov, director of international tax at KPMG Russia. Since then, they have become more popular among non-sanctioned companies, as well as for their low dividend taxes. , income and capital gains, he adds.
It was in August 2018, four months after the US Treasury Department imposed sanctions on seven Russian billionaires with alleged ties to Putin, that the Russian government quietly passed the law creating the potential escape route.
For Russian businessmen, bringing their foreign businesses back to Russia offered a tax deal that was hard to beat: zero tax on dividends and capital gains from the sale of shares in listed companies, as long as recipients invest at least 50 million rubles – about $650,000 – in a Russian business within six months of transferring their business to the SAR. And they could still use foreign bank accounts for payments and transfers, making it easy to move money across borders when they needed it.
For the Kremlin, the SARs have brought some of Russia’s biggest companies back into Moscow’s orbit and blunted US sanctions. Since 2018, more than 70 companies have been repatriated to the Russian SARs from foreign jurisdictions, many of them located in places that have agreed to recognize US sanctions. This includes the European Union and its member states, such as Cyprus, an offshore financial hub once popular with Russian billionaires. The biggest are aluminum giant UC Rusal and energy and metallurgical company En+ Group, which are respectively partly owned by Viktor Vekselberg and Oleg Deripaska, two Russian billionaires sanctioned by the Treasury Department in April 2018.
Deripaska, a close Putin ally and former client of Donald Trump’s 2016 campaign chairman Paul Manafort, owns a 45% stake in En+ Group worth about $3.3 billion, or more than 75 % of his estimated net worth of $4.3 billion. En+ Group in turn owns 57% of Rusal. Vekselberg owns about 10% of Rusal’s stock, worth $1.4 billion, a fraction of his estimated $9.3 billion fortune.
In December 2018, eight months after the Treasury sanctions, En+ moved its headquarters from the British crown dependency of Jersey – a popular offshore haven in the English Channel – to Oktyabrsky Island SAR. A month later, in January 2019, the United States lifted sanctions against Rusal and En+ Group, citing the reduction of Deripaska’s direct and indirect stake in the companies after Deripaska restructured its holdings. The move has been criticized for leaving Deripaska and associates with a majority stake in En+ Group as well as a larger stake in Rusal, through a share swap with commodities trading powerhouse Glencore. Rusal eventually followed suit by making the same move from Jersey to Oktyabrsky in September 2020. Deripaska has since moved at least 12 other companies to Oktyabrsky RAS.
Now Deripaska and Vekselberg can manage these investments without the threat of Uncle Sam freezing the assets, while earning tax-free dividends and capital gains. Unlike Jersey, which followed in the footsteps of the US and UK and imposed sanctions on several Russian banks in 2014, Oktyabrsky Island offers similar tax rates without exposing itself to foreign sanctions .
Prior to the SARs, wealthy Russians frequently incorporated their companies in Cyprus, taking advantage of its tax advantages and lax citizenship-by-investment regime. Vekselberg, for his part, had Cypriot citizenship before being withdrawn in 2019. But as an EU member, Cyprus has also imposed the bloc’s economic sanctions on Russian companies.
Although not sanctioned, some of the Russian billionaires named in a 2018 Treasury Department list of Russian oligarchs with ties to Putin also benefited from SARs Viktor Kharitonin transferred his Cyprus-based holding company, Augment Investments Ltd, which owns a majority stake in pharmaceutical company Pharmstandard, in Oktyabrsky. Fellow billionaire Andrey Melnichenko has moved both his Cyprus-based holding company Donalink Ltd – which in turn owns a majority stake in energy distribution company Kuzbassenergo – and coal energy company SUEK from Cyprus to the Russky Island SAR Yet another, real estate tycoon Sergei Gordeev, moved his Cypriot company Ledamen Ltd. – linked to homebuilder PIK, which accounts for the vast majority of his estimated $4.3 billion net worth – to Oktyabrsky.
“Russian groups had historically used Cypriot holdings,” says KPMG’s Nasonov. “The majority of entities that moved to the Russian SARs have roots in Cyprus.”
Yet SARs are designed to repatriate large corporations or holding companies, not the personal assets that many Russian billionaires own in Western countries. Some of the people on the 2018 Treasury list, including Mikhail Prokhorov, Kharitonin and Melnichenko, currently own or have owned in the past real estate in France and Italy through holding companies based in Luxembourg, a founding member of the European Union with its own taxation. advantages for foreign investors.
Since SARs require a 50 million ruble investment in Russia to receive the associated tax benefits, Russian billionaires have little incentive to transfer personal holding companies to Russia, Nasonov says. A new bill being considered by the Russian parliament would offer additional tax cuts to those who invest 300 million rubles, or about $3.9 million, in certain industries, including transport and infrastructure in the RAS. If passed, the provisions would reduce the withholding tax rate from 15% to 10%, making it cheaper for billionaires with companies in the SARs to reinvest their profits outside of Russia.
But those foreign assets could still be targeted by US sanctions. In an interview with Forbes Russia in 2021, Vekselberg revealed that he still could not access more than $1.5 billion in overseas assets. And the US government may soon target other Russian oligarchs with much more visible assets in the West that would be very difficult, if not outright impossible, to transfer to a Russian SAR.
The Russian government has emphasized tax incentives for offshoring to the SARs, but any new US sanctions could convince companies that have yet to move to finally take the plunge.
“There are companies in Russia that have not relocated their foreign holdings to SARs,” Nasonov explains. “If these groups or beneficiaries are under [new] sanctions, they can decide to move to a SAR as soon as possible. »