To meet the requirements of Article 54.1 of the Russian Tax Code, taxpayers must exercise “due diligence” when choosing counterparties. Tax risks will arise for companies if their counterparties violate tax law, so the Federal Tax Service recommends including a tax clause in contracts to reduce such risks.

Purpose of a tax clause

When agreements have a tax clause, taxpayers who were unable deduct expenses or VAT due to the seller’s bad faith will be able to demand compensation from such seller, and in case of refusal, they will be able to withhold the amount of losses from the payments under the agreement or collect them in court (Federal Tax Service Letter No. БВ-4-7/3060@ dated March 10, 2021, Supreme Court Ruling No. 308-ЭС17-13430 dated September 28, 2017).

The Federal Tax Service considers that a tax clause is a convenient tool for buyers to voluntarily file revised tax returns without disputes with tax authorities and then on their own recover losses from problematic counterparties. In such case, the Federal Tax Service dispenses from litigation, and the buyer can recover losses from the problematic counterparty, which may be easier than challenging the decisions, actions from the Federal Tax Service and is possible provided the tax clause is duly worded. And it is not because there is a tax clause in a contract that the buyer will have to decline applying the appropriate tax deduction by submitting a revised tax return. The buyer may ignore the recommendations from the Federal Tax Service Federal Tax Service, receive a claim or decision from the relevant tax office and challenge it.

Is including a tax clause in contracts mandatory?

A tax clause, like other contract terms and conditions, is included voluntarily by the parties to the contract as agreed by the buyer and the seller (Article 421 Russian Civil Code).

Such clause takes away from the seller the ability to protect its interests in court as the seller will be compelled to reimburse to the buyer all taxes that the buyer will pay voluntarily or compulsorily to the budget as per the recommendations or claims from the Federal Tax Service. Sellers may therefore refuse to sign contracts containing a tax clause. In such case, our consultants could help work out a tax clause that would be acceptable for both parties as well as back up your company’s position in negotiations with counterparties.

How to properly formalize a tax clause?

Civil law instruments such as representations and warranties (Article 431.2 Russian Civil Code) or compensation for losses incurred in the event of the occurrence of circumstances specified in a contract (Article 406.1 Russian Civil Code) can be used to include a tax clause in the contract.

If a tax clause is included in a contract, the buyer’s actions will be completely dependent on the content of the tax clause.

If a tax clause is formalized by drafting an additional agreement, then it is recommended to specify that it will apply to the relationship arisen between the parties upon conclusion of the agreement. Otherwise, the additional agreement will apply only to the circumstances arising from the date on which the additional agreement (rather than the agreement) is signed.

Does a tax clause guarantee the recovery of losses from counterparties?

A tax clause is not an absolute guarantee of recovery of losses and/or property losses from the seller. The buyer may pay tax to the budget at the request of the Federal Tax Service but not have time to collect the amount of tax from the seller due to the seller’s bankruptcy or liquidation. To mitigate this risk, we recommend evaluating and monitoring the financial position of significant counterparties.

Our support

Our tax lawyers and consultants have experience in drafting optimal tax clauses based on the recommendations made by tax authorities and case law on this issue. We can advise and assess all the risks associated with tax clauses, and if necessary, we can liaise on your behalf with counterparties and tax authorities.