Recent Developments in Ukrainian Finance Law 

January, 2004 - Michael V. Kharenko

On its way to a market economy, one of the primary tasks facing Ukraine is the development of its financial markets and, inevitably, elaboration of its finance laws. Although much remains to be done, the passing year has brought several major developments in the area of finance law: (a) introduction of the anti-money laundering system, (b) tightening of exchange controls and (c) further dramatic growth of the bond market, including the issue of corporate and municipal Eurobonds. Money Laundering Blacklisted by the Financial Action Task Force on Money Laundering (FATF), Ukraine had to yield to international pressure and create the comprehensive anti-money laundering system. On 11 June 2003 the Preventing and Countering the Legalization (Laundering) of Criminal Proceeds Act of Ukraine of 28 November 2002 came into effect (Money Laundering Act), which introduced a completely new specialized system of financial monitoring, reporting and identification requirements designed to combat money laundering. The Money Laundering Act provides for a two-tier system of financial monitoring. The first tier, referred to as the “initial financial monitoring”, is conducted by all banks and other financial institutions operating in Ukraine, as well as other organizations conducting financial transactions, including, inter alia, securities dealers, investment funds and lotteries. These institutions are now required to identify their clients, and to register and report certain financial transactions, to the Financial Monitoring Department, the chief financial monitoring agency in Ukraine. In addition, for a broadly defined group of financial transactions, these first-tier institutions have discretion to decide on whether to report them, including: (i) financial transactions of an intricate or unusual nature and not having any obvious economic sense or legal purpose; (ii) financial transactions which are inconsistent with the activity of the participating legal entity as declared in its charter or bylaws; or (iii) financial transactions that are part of multiple related financial transactions whose nature suggests that the main purpose behind such transactions is the avoidance of financial monitoring. The Money Laundering Act dramatically changed one of the major anti-money laundering measures, the identification requirement. From now on, first-tier institutions must identify not only the persons conducting financial transactions that are subject to any form of financial monitoring, but also the persons whom they represent in connection with such financial transactions and any respective third party beneficiaries. The second tier of financial monitoring, referred to as “state financial monitoring” is carried out by the Financial Monitoring Department, various state bodies of the central government and the National Bank of Ukraine (NBU). Exchange Controls Despite the professed liberalization of the state regulation of financial markets, the NBU has been further tightening its exchange control policies. Some of the latest restrictions are widely perceived as an attempt by the tax authorities to use banking regulators in their fight against tax evasion and the outflow of hard currency abroad. The most controversial of the latest NBU measures include the EUR 50,000 threshold for services payments abroad and the licensing of payments abroad for securities of Ukrainian issuers. Payment for any services rendered under contracts with foreign companies can be made only subject to the requirements imposed by the NBU Board Regulation No.58 of 12 February 2003 (“Regulation No.58”). Regulation No.58 provides that payments under a services contract that provides for payment in excess of EUR 50,000, or the equivalent in another currency, can be made only if the contract price is not higher than prices in the respective international markets. Certain payments are excluded from this rule, including payments for banking, insurance, transport and communication services. The comparison of prices is conducted by a specially designated governmental entity which issues a formal conclusion. If this entity concludes that the price is excessive, then NBU approval must be sought prior to making the payment. It should be separately noted that conclusion of several services contracts not exceeding EUR 50,000 is treated by the Ukrainian authorities as a possible money-laundering offence. The NBU Board Regulation No.36 of 5 February 2003 (“Regulation No.36”) established a licensing requirement for the transfer of hard currency abroad by Ukrainian companies as payment for securities issued in Ukraine, thus targeting sales to Ukrainian residents by nonresidents. To obtain an NBU license, a Ukrainian company must file a number of documents, some of which may be quite burdensome to collect, e.g., a copy of the document confirming the official registration of foreign investment (i.e. the purchase of Ukrainian securities by a foreign company), a copy of the official notification of the listing of Ukrainian securities or, in the absence of such a listing, documents confirming the value of such securities. While the NBU is adopting stop-gap measures, the effectiveness of which is widely questioned by experts, it has not addressed numerous existing omissions in the Ukrainian exchange control regulations. For example, while the NBU formally extended the licensing requirements to cover the opening of securities accounts abroad, to date there is no official procedure for the issuance of such licenses. Moreover, existing licensing procedures are often too burdensome and allow the NBU too much discretion. Bond Market Developments The passing year was marked by the continuing growth of the bond market, which accelerated both the adoption of new legislation regulating the issuance of corporate bonds and the development of the respective legal practices. On the regulatory side, the State Commission on Securities and Stock Market adopted its Regulation On the Issue of Bonds by Companies of 17 July 2003 governing the issuance of corporate bonds. This Regulation is the result of the joint work of Ukrainian regulatory authorities and market players, and is widely perceived as an example of a balanced regulatory approach to corporate finance. On the one hand, the Regulation strives to protect investors and requires wider disclosure of information on the issuers, e.g., submission of audited annual reports for the last three years and the last accounting period preceding the issuance, data on all the persons owning more than 10 % of the authorized capital and detailed information on the management. On the other hand, it accommodates the needs of various issuers by introducing simpler procedures for closed issues of bonds and providing for the underwriting of issues. Despite certain obvious successes, the Regulation fell short of solving a number of current problems of the Ukrainian bond market. For example, it does not attempt to specifically address the problems of bond issues, the value of which is unduly backed by the assets of their issuers, or to establish special procedures for the default of an issuer. As a result, many market players are concerned that this gap in regulation could encourage the use of the corporate bond market for a variety of questionable schemes that could negatively affect investors when the “bubble” burst.


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