Hulley v. Russia 2014

50 percent of the share capital. Both parent companies were registered in Kalmykia.470 The founding capital was RUR 8,400.

476. Pursuant to Order No. 53 of the Administration of the Evenkiysky Autonomous District of 29 June 2001, “On Application of Special Tax Regime,” Petroleum-Trading was granted targeted tax benefits.471

477.Tax reassessments would be later made against Yukos for Petroleum-Trading for the years 2000472 and 2002473 totaling RUR 90,943,100 (approximately USD 3,031,437).474

iv.Ratibor

478.Ratibor was registered by Order 168-p of the Administration of the Evenkiysky Autonomous

District on 21 July 2000. It was registered with tax authorities and state authorities on 14 February 2001.475 It was founded by Ms. Svetlana Ivanovna Vorobyeva, with a share capital of RUR 10,000.476 On 25 May 2001, 100 percent of the share capital of Ratibor OOO was transferred to Dunsley Limited, a company registered in Cyprus. Dunsley was, in turn, owned by Doluen Limited, with 99.9 percent of the shares, registered in Cyprus, and Abakus (Nominis) Limited, with 0.1 percent of the shares, also registered in Cyprus.477

479.Pursuant to Order No. 53 of the Administration of the Evenkiysky Autonomous District of June 2001, “On the application of the Special Taxation Procedure,” Ratibor was granted targeted tax benefits.478

480.Tax reassessments would later be made against Yukos for Ratibor for the years 2001479 and 2002,480 totaling RUR 13,870,285,714 (approximately USD 462,342,857).481

470Ibid., p. 55–56.

471Resolution of the Federal Arbitrazh Court for the Moscow District No. KA-A40/3222-05 p. 30, Exh. C-184 (referring to Order No. 53 of the Administration of the Evenkiysky Autonomous District, 29 June 2001).

4722000 Decision, p. 57, Exh. C-104.

4732002 Decision, p. 163–64, Exh. C-175.

474Yukos Tax Reassessment Breakdown, p. 6, Exh. C-1752. The RUR to USD exchange rate used here is approximate, based on a rate of 30:1.

4752001 Decision, p. 82, Exh. C-155.

476Ibid.

477Ibid.

478Ibid., p. 99.

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v.Yukos Vostok Trade

481.Yukos Vostok Trade was registered by Decision 36 of the Interdistrict Inspectorate of the

Russian Ministry of Taxes and Levies No. 3 for the Evenki Autonomous District, 9 February 2004.482 It was founded by OAO Yukos Oil Company with 70 percent of the shareholding and Yukos-Import with 30 percent of the shareholding.483

482.While there is no reference to any tax agreements on the record, the Tribunal notes that Field Tax Audit Report No. 52/996 refers to Yukos Vostok Trade making use of the beneficial tax system in Law 108 of 24 September 1998, with a preferential income tax rate reduced to 13 percent and a preferential property tax rate of 0 percent.484

483.Tax reassessments would later be made against Yukos for Yukos Vostok Trade for 2004,485 totaling RUR 8,660,507,192 (USD 311,337,530).486

5. Tribunal’s Observations

484.Having set out the evidence regarding Yukos’ tax optimization scheme, the Tribunal now returns to the question posed at the beginning of this chapter: does the record which it has reviewed at length demonstrate that Yukos was merely taking advantage of the legislation in place in the low-tax regions of the Russian Federation to minimize its taxes, or was there an element of abuse in its activities that made them illegal under Russian law?

485.The Tribunal first reiterates that the evidence reveals—indeed, the Parties are agreed—that the Russian Federation had enacted (in the late 1990s and early 2000s) a legislative structure to encourage investment in some of its low-tax regions, and that Yukos (as did many other Russian companies, including other oil companies) sought to take advantage of that legislative

479Ibid., pp. 99–100.

4802002 Decision, p. 146, Exh. C-175.

481Yukos Tax Reassessment Breakdown, p. 6, Exh. C-1752. The RUR to USD exchange rate used here is approximate, based on a rate of 30:1.

4822004 Decision, p. 86, Exh. R-1539.

483Ibid.

484Field Tax Audit Report No. 52/996, p. 84, 27 December 2005.

4852004 Decision, pp. 90–91, Exh. R-1539.

486Yukos Tax Reassessment Breakdown, p. 6, Exh. C-1752. RUR to USD calculated at 27.8171:1, the official exchange rate on 17 March 2006.

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structure. As a result, Yukos set up trading companies in various low-tax regions and, where required, entered into investment agreements with the local authorities.

486.There is evidence in the record that Mr. Dubov informed the authorities, at least in respect of the Yukos trading companies in Mordovia, that Yukos was using the legislative arrangements in place to minimize its taxes, and that none of his interlocutors, including the then First Deputy of Finance, Alexei Kudrin, formulated any objection. Finally, the Tribunal recalls that few of the audits of the trading companies conducted in the regions prior to 2003 ever resulted in any tax assessments, and, when they did, the transgressions were generally minor and the assessments insignificant.

487.In this connection, the Tribunal notes that Respondent chose not to call any fact witnesses to challenge Claimants’ fact witnesses. That is unfortunate. The Tribunal would have been assisted, for example, by the evidence of Mr. Kudrin who, after his meeting with Mr. Dubov, became Minister of Finance and Deputy Prime Minister of the Russian Federation. Instead, Respondent has relied solely on the documentary record to build its case that Yukos’ activities in the low-tax regions were abusive and illegal. As Claimants pointed out during the Hearing, and as the Tribunal found out for itself, the documentary record compiled and presented by Respondent to the Tribunal, while significant, is selective and unfortunately incomplete.

488.The record does reveal, however, that Yukos had some concerns about the legality of its trading operations in certain low-tax regions, notably in Lesnoy and Trekhgorny. As recorded in the previous section of the present chapter, there were audit reports and memoranda that attest to an investigation of whether the practices of some of the Yukos trading companies in those regions were abusing the system, since those companies were acting in conformity with the relevant legislation in form only and not in substance.

489.The Tribunal recalls that, in November 2001, after an extensive corporate restructuring had taken place (as a result of which the trading entities in Lesnoy and Trekhgorny ceased to exist, and were merged into entities created in other regions), Ms. Irina Golub, the Chief Accountant of Yukos, received a document by e-mail from Mr. Kartashov, a general director of Yukos. That document referred specifically to the ongoing investigations in Lesnoy and Trekhgorny by the Federal Tax Police Service of Sverdlovsk as part of a criminal case “in connection with tax evasion” by the Yukos entities and to the fact that office personnel in Lesnoy and Trekhgorny (including, in the case of the Lesnoy entities, the General Directors) had been interrogated by tax authorities.

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Fourthly, Mr. Khodorkovsky’s refusal in early 2003 to sign Yukos’ registration statement (for a confidential SEC filing) over concerns for his “personal risks”;492 and

Fifthly, a “blackline” version of Yukos’ draft filing for the SEC sent on 23 July 2002 by Natalia Kuznetsova of PwC to Stephen Wilson (at that time Yukos’ international tax director), proposing that the following be deleted from an earlier draft: “We use tax optimization mechanisms that may be challenged by the tax authorities” and “If a number of regional tax incentives we have used to reduce our tax burden are successfully challenged by the Russian tax authorities, we will face significant losses associated with the additionally assessed amount of tax and related interest and penalties.”493

492.In their reply to the evidence regarding concern over potential tax liabilities, Claimants submit that the Russian tax authorities “were notorious for displaying arbitrary and unpredictable interpretations of law generating significant and unquantifiable risks for taxpayers[,] risks that Yukos and other Russian oil companies . . . disclosed in their financial statements.”494 They conclude that references by Yukos’ management to such risks “[could not] reasonably be construed as evidencing ‘knowledge’ or ‘belief’ that Yukos’ tax structure was unlawful.”495 Claimants also argue that Respondent’s reliance on Mr. Maly’s e-mail was “much ado about nothing,” and that “it is clear that any risks were neither a problem, nor an obstacle, to Yukos pursuing the NYSE listing because Yukos continued to draft its Form F-1 into mid-March 2003, nearly a year after this memo.”496 Claimants also note that, in respect of the blackline filing that it “in fact states—in a sentence the Respondent omits to quote—that Yukos’ management ‘believe the tax mechanisms used by us comply.’”497

492E-mail from M.B. Khodorkovsky to O.V. Sheiko, 20 February 2003, Exh. R-3611.

493Facsimile transmission from Natalia Kusnetsova to Stephen Wilson dated 23 July 2002, pp. 133–34, Exh. R-1477.

494Claimants’ Post-Hearing Brief ¶ 15.

495Ibid.

496Reply ¶ 111.

497Reply ¶ 199 (emphasis in original). As Claimants note, the full paragraph reads:

“Our results of operation have historically benefited significantly from the use of tax [illegible] mechanisms. We believe that the tax mechanisms used by us comply with relevant [illegible]. If, however, we phase out all of our current tax optimization mechanisms due to changes to the tax regime or other reasons, we may have to pay significantly higher taxes in the future, and our result of operation may be adversely affected. In addition, if the various initiatives we have used to reduce our tax burden are successfully challenged by the Russian tax authorities we may face significant losses associated with the assessed amount of tax underpaid and related interest and penalties, which would have a material impact on our financial condition and results of operation.”

Ibid. n.337.

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493.In fact, the record before the Tribunal reveals that Lukoil, Rosneft, Sibneft and TNK, in their financial statements in those years, all referred to the significant risks associated with the varying interpretation by the Russian tax authorities of the Russian tax legislation.498

494.Although the Yukos entities in Lesnoy and Trekhgorny were only a small part of Yukos’ tax optimization scheme,499 it is clear to the Tribunal that these entities were being investigated as of late 1999 by the tax authorities in these regions, and were suspected of being “shams”. It is the view of the Tribunal that the legal basis for this scrutiny was the jurisprudential “good faith taxpayer” doctrine (“substance over form” or “anti-abuse” doctrine) and that, within the senior management of Yukos, there were a number of persons who were aware that Yukos was vulnerable in respect of certain facets of its tax optimization scheme.

495.As for the existence of the “good faith taxpayer” doctrine in Russia at that time, the Tribunal has reviewed the evidence of Mr. Konnov, the only expert on Russian tax law to give evidence in these proceedings, who appeared on behalf of Respondent. Although Claimants elected not

498See Consolidated Financial Statements of OAO Lukoil, 30 May 2003, Exh. C-371; Consolidated Financial Statements of OJSC Rosneft Oil Company (hereinafter “Rosneft”), 24 June 2005, C-373; Consolidated Financial Statements of AO Siberian Oil Company, 21 June 2002, C-384;and Consolidated Financial Statements of TNK International Limited, 15 May 2003, C-390. To illustrate, the following is the warning contained in Lukoil’s financial statements for the period ending 31 December 2002

“The taxation systems in the Russian Federation and other emerging markets where Group companies operate are relatively new and are characterized by numerous taxes and changing legislation, which may be applied retroactively and is sometimes unclear, contradictory, and subject to interpretation. Often, differing interpretations exist among different tax authorities within the same jurisdictions and among taxing authorities in different jurisdictions. Taxes are subject to review and investigation by a number of authorities, which are enabled by law to impose severe fines, penalties and interest charges. Such factors may create taxation risks in the Russian Federation and other countries where Group companies operate substantially more significant than those in other countries where taxation regimes have been subject to development and clarification over long periods.

. . .

The regional organizational structure of the Russian Federation tax authorities and the regional judicial system can mean that taxation issues successfully defended in one region may be unsuccessful in another region. The tax authorities in each region may have a different interpretation of similar taxation issues. There is however some degree of direction provided from the central authority based in Moscow on particular taxation issues.

The Group has implemented tax planning and management strategies based on existing legislation at the time of implementation. The Group is subject to tax authority audits on an ongoing basis, as is normal in the Russian environment, and, at times, the authorities have attempted to impose additional significant taxes on the Group. Management believes that it has adequately met and provided for tax liabilities based on its interpretation of existing tax legislation. However, the relevant tax authorities may have differing interpretations and the effects could be significant.”

Exh. C-371, pp. 30–31 (emphasis added).

499The tax assessments levied against Yukos in connection with the trading entities in Lesnoy and Trekhgorny, which related only to the 2000 tax year (since the entities ceased to exist in early 2001), represented approximately 19 percent of the total tax assessment against Yukos for 2000, and represented under 3 percent of the total of all tax assessments against Yukos (for the years 2000–2003). See Yukos Tax Reassessment Breakdown, Exh. C-1752.

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to present their own expert on Russian tax law,500 in their written submissions, they referred to and criticized various Russian court decisions, which they contended did not support Respondent’s interpretation. As noted earlier in the present chapter, the Tribunal has considered Claimant’s submissions.

496.The Tribunal has also considered the lengthy cross-examination of Mr. Konnov by Professor Gaillard. The Tribunal recalls again that Professor Gaillard did not challenge Mr. Konnov on the existence of the anti-abuse doctrine but rather sought Respondent’s expert’s acknowledgement that the Yukos tax optimization scheme complied with the existing legislative framework in Russia as well as in the regions. The Tribunal notes in this context that Claimants stipulate to the existence of the “bad-faith taxpayer” doctrine in their Reply, but argue that “neither it nor any other alleged judicial doctrine had previously been applied as in the Yukos case.”501

497.As a matter of background fact, the record before the Tribunal is clear that, at the time of the issuance on 29 December 2003 of the Field Tax Audit Report, the “bad faith taxpayer” doctrine, although it had not yet gelled in the way that it did in 2006 in the ruling of the Supreme Arbitrazh Court in Resolution No. 53, had been recognized and applied in some Russian court decisions.

498.The Tribunal recalls that the eminent Russian tax lawyer, Mr. Sergey Pepeliaev, who later represented Yukos in the Russian tax litigation, wrote in 2002 that the doctrine existed and that “[i]f it appears that parties act both unreasonably and not in good faith then this constitutes a ground for reassessment of the parties’ tax liabilities . . . .”502

499.Beyond this conclusion, which the Tribunal considers a matter of fact, the Tribunal does not need to determine, as a matter of Russian law, whether any of the activities of the Yukos

500The Tribunal notes that in the RosInvestCo arbitration, the claimant presented a Russian tax law expert, Professor Maggs. The Russian Federation relied on Mr. Konnov. The RosInvestCo tribunal stated that it found Professor Maggs’ evidence more persuasive, but it also acknowledged that Professor Maggs did not dispute the existence of the “bad faith taxpayer” doctrine. See RosInvestCo ¶¶ 432, 495, Exh. C-1049. Similarly, in the Quasar arbitration, claimants presented a Russian tax law expert, Professor Stephan, as well as an expert on the Russian Civil Code, Professor Mozolin, who opined, inter alia, on the distinction between good and bad faith taxpayers. See Quasar, ¶ 66, 77–78, Exh. R-3383. As in this arbitration, and the RosInvestCo arbitration, the Russian Federation’s expert on Russian law was Mr. Konnov. As in the RosInvestCo case, the debate turned primarily on the application to Yukos of the anti-abuse doctrine, as opposed to the existence of the anti-abuse doctrine.

501Reply ¶ 217, n.368.

502S.G. Pepeliaev, Commentary to the Ruling of the Constitutional Court Ruling of the Russian Federation No. 138-O of July 25, 2001, Exh. R-352.

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trading companies in the low tax regions in 2000, 2001, 2002, and 2003 in the implementation of its tax optimization scheme were in violation of this doctrine. As noted in the introduction to the present chapter, it is not the role of the Tribunal in the present arbitrations to sit as a court applying Russian law.

500.However, the Tribunal does note that that, in using the available tax benefit legislation in the Russian Federation, the Yukos group principally availed itself of facilities under the laws of Mordovia, the region which represents approximately 78 percent of the 2000 to 2004 tax reassessments against Yukos. Another significant portion of the reassessments relates to Evenkia, while the tax reassessments in ZATO Lesnoy and Trekhgorny represent less than three percent of the total. It is important for the Tribunal to stress that the bad faith doctrine was never used against Yukos prior to December 2003.

501.The Tribunal will now turn in the next chapter of its Award to the central question which it posed at the beginning of the present chapter: were the December 2003 and the subsequent tax assessments a legitimate exercise by the Russian Federation of its prerogative to enforce its tax laws or were they, as Claimants argued, a mere fabrication of massive tax claims against Yukos serving as instruments which allowed the premeditated expropriation of all Yukos assets by the State after the arrest of Mr. Lebedev and Mr. Khodorkovsky.

502.As will be seen, a crucial consideration for the Tribunal concerns the remedy or sanction of “re-attribution”, and the application of the “re-attribution” remedy to revenues (for purposes of profit tax) without a corresponding “re-attribution” of tax filings for purposes of VAT. Also considered in the next chapter is the legitimacy of associated fines levied against Yukos, notably the “willful offender” and “repeat offender” fines.

B.THE TAX ASSESSMENTS STARTING IN DECEMBER 2003

1.Introduction

503.This chapter addresses the next crucial facet in the factual narrative of the present arbitration, namely the tax assessments that were issued against Yukos starting in December 2003, the manner in which those assessments were made and how they were reasoned and, eventually, enforced.

504.This important review will lead the Tribunal to consider a central question in this case: were the December 2003 and subsequent tax assessments covering the tax years 2000 to 2004 a

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legitimate exercise by the Russian Federation of its prerogative to enforce its tax laws (Respondent’s position), or were they a fabrication of massive tax claims against Yukos that allowed the premeditated expropriation of all Yukos assets by the State (Claimants’ position)? Or does the record rather suggest that the truth lies somewhere between these two positions: could certain taxes in the assessments have legitimately been imposed while others plainly not, and were the consequential sanctions inexorably exacted by Russian authorities so excessively disproportionate as to require an answer to the question described as key by counsel for the claimant in Quasar, Mr. O.T. Johnson: “Why would Russia have treated Yukos as it did if its purpose was to collect taxes?”503

505.A closely related question concerns the arrests in 2003 of Messrs. Lebedev and Khodorkovsky: were the arrests and the subsequent convictions of Messrs. Lebedev and Khodorkovsky (not once but twice), again, a legitimate exercise by the Russian Federation of its prerogative to enforce its criminal and tax laws (Respondent’s position), or were they a politically motivated attack on these individuals as part of a broader campaign to confiscate the rich assets of Yukos (Claimants’ position)?

506.The issues raised by the arrests and convictions of Messrs. Lebedev and Khodorkovsky, and of other individuals connected with Yukos, and the alleged harassment of Yukos management, are addressed in detail in Chapter VIII.C of the present Award. The Tribunal considers it opportune however at this time to comment upon some of the circumstances surrounding those arrests.

507.Claimants have argued that the arrests, and the broader campaign of harassment and

Mr. Khodorkovsky’s political and social activism, which Claimants allege became intolerable for President Putin subsequent to a public encounter between the two men in February 2003.

508.Specifically, on 19 February 2003, in the context of a meeting between President Putin and a group of the country’s most powerful businessmen, a televised confrontation between President

Putin and Mr. Khodorkovsky took place.504 According to the testimony of Dr. Illarionov,

503Quasar ¶ 41, Exh. R-3383.

504Video recording and transcript of the meeting of the members of the Union of Industrialists and Entrepreneurs with President V. Putin held in the Ekaterininsky Hall, Kremlin, 19 February 2003, Exh. C-1396.

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