On March 5, 2020, when according to reports from all over the world it was already clear that an epidemic of coronavirus infection was approaching us, the Government suddenly decided, under a mockingly far-fetched pretext, to refuse a significant amount of budget revenues in favor of an organization controlled by a friend and countryman of the Prime Minister. The question was raised in parliament by deputy Kanatbek Isaev last week.
Ekonomika decided to understand this story.
Legalized offshore
There are five free economic zones in Kyrgyzstan. “Act” is, of course, an overly optimistic word. In reality, the Makmal, Leilek, Karakol and Naryn FEZs are barely showing signs of life, and the only real working zone is the Bishkek FEZ.
Formally, the zones were created in order to develop production on the territory of Kyrgyzstan and create jobs. In reality, they trade in tax and customs benefits, and the involved production is mainly of a packaging and assembly nature or is characterized by a low degree of redistribution.
In addition, a variety of original schemes flourish in the free zones, based on unprecedented tax exemptions guaranteed by law for their residents: instead of ALL taxes and fees, residents pay only an annual fee of 0.5% to 2% of the declared turnover.
If the schemes of the well-known “customs millionaire” are absolutely black in nature (declaring iPhones as rubber slippers), then the FEZ is “schemes in law”. There are quite official benefits. Simply, in order to import duty-free goods into the country through the FEZ, you need to demonstrate that it is undergoing some kind of transformation in the FEZ.
Accordingly, the majority of participants in the Bishkek FEZ declare production as their type of activity. Most do it in one form or another. There are also sewing workshops, and assembly of building structures, and much more.
The sewing shop on this side of the FEZ fence pays 10% income tax and 12% VAT, and on the other side of the fence — 2% of its revenue. An ordinary sewing workshop is forced to buy Chinese or Turkish fabric with the payment of all duties (unless, of course, it transports it through “millionaire” channels), and exactly the same workshop on the other side of the fence imports fabric duty-free absolutely legally. On which side of the fence would you like to be if you opened a sewing shop?
Legalized tax-free freemen, of course, is a very attractive corruption resource. The Law «On Free Economic Zones» is drafted in such a way that the decision on admission or non-admission to registration in the FEZ is made by the FEZ Directorate, having considered the applicant’s business plan (Article 11 of the law). No universal rules, no automatism. If you liked the business plan, it was allowed, if you didn’t like it, stay on this side of the fence.
According to an entrepreneur who was interested in the possibility of moving his business to free economic zones, everywhere at the first conversation the question arose of additional remuneration for accepting his company in the FEZ, as well as a regular annual “mark” in addition to official payments. The real trade in tax benefits, and under the roof of the law.
SEZs and budget
Not only are all FEZ participants exempt from taxes in exchange for a single contribution (from 0.5% to 2% of their revenue), FEZ participants pay it not to the state budget, but directly to the FEZ Directorate.
In FEZ «Bishkek» this fee is set at 2% of revenue. It is assumed that this money (about 300 million soms per year) should go to the development of the infrastructure of the FEZ, but you yourself perfectly understand that they are spent very creatively.
According to Economics, during the audit of the Bishkek FEZ, the Accounts Chamber of the Kyrgyz Republic revealed numerous violations, and these materials are now being considered by the State Committee for National Security.
Should the budget receive at least some part of the fees paid by the FEZ participants to the Directorate? Until recently, a government decree established that the state budget should receive 2% of the fees collected by the directorate. That is 2% of 2%. Not so much: from 300 million soms, this amounts to 6 million soms. But then decree No. 130 was issued …
Inexplicable ruling
A permanent budget crisis is raging in Kyrgyzstan. They try to find money from all sources, take grants and loans, knock out advance tax payments from businesses. At the beginning of this year, the budgetary situation became especially threatening, with business out of the country slowly fleeing, and a serious drop in revenues due to the epidemic looms on the horizon.
And so, on March 5, 2020, against the backdrop of all this, the Prime Minister signs a decree that the state budget should now receive not 2% of their fees, but … 0.02% from the management of the Bishkek FEZ! That is a hundred times less. That is, if earlier the directorate had to give 6 out of 300 million collected to the budget, now this amount is reduced to 60 thousand soms. From 300 million. Prick me with something, I think I’m dreaming.
What motivates such generosity towards the management of the Bishkek FEZ at the expense of the long-suffering Kyrgyz budget?
The resolution says that the share of the budget is reduced to 0.02% «in order to develop and improve the efficiency of the Bishkek free economic zone, as well as provide conditions for attracting foreign investment.»
I reread this phrase in Resolution No. 130 of March 5, 2020 five times. And I still cannot understand how the refusal to receive 6 million out of 300 collected can provide conditions for attracting foreign investment. And improve the efficiency of the SEZ. Efficiency of off-budget cutting of funds by the hands of the directorate — yes, but foreign investment? There is only one conclusion — the government takes us for idiots.
After Kanatbek Isaev raised this issue at a meeting of the Parliament, by a strange coincidence, Resolution No. 130 disappeared both from the government website and from the online database of the Ministry of Justice. We will publish it here, so be it — let everyone admire the example of corrupt creativity.
Is there an explanation?
Duishen Ismailovich Irsaliev, head of the general directorate of the Bishkek FEZ, is a close friend of Prime Minister Abylgaziev, according to several people close to government circles we interviewed. They both come from the village of Kochkorka in the Naryn region and, as they say, have been friends for a long time.
Perhaps this friendship and the unprecedented generosity of the Prime Minister in favor of an organization controlled by his friend at the expense of the state budget is a mere coincidence.
In our opinion, this is not so important. What is important is that Decree No. 130 is a real budget sabotage. Moreover, it has passed all stages of examinations for legal purity, anti-corruption, efficiency for the budget … Can you imagine how many signatures in the «mass grave» of its approval?
We really hope it gets cancelled. We would also propose to completely reconsider the format of functioning of the Kyrgyz offshore companies under the guise of a free economic zone. The most correct thing is to let the entrepreneurs working in the FEZ control the costs of maintaining the free zone. We need to build a new fence — please. Connect the water — let’s hold a tender under general control and choose the best contractor. As if the SEZ participants were shareholders of a joint-stock company. And management should be accountable to them. Otherwise, such friendly resolutions will appear, legalizing the cut. It’s embarrassing already.
We have grown tired of the constant revelations that have been undermining our government. Yet, another one emerges.
On March 5, 2020, when reports from around the world had already made it clear that a coronavirus epidemic was imminent, the government, under a seemingly contrived pretext, chose to forgo a significant portion of budget revenues in favour of an organization controlled by a friend and compatriot of the Prime Minister. This issue was brought up in parliament by deputy Kanatbek Isaev last week.
Ekonomika decided to delve into this story.
Legalized Offshore
There are five free economic zones (FEZs) in Kyrgyzstan. To say that they are «active» might be an overstatement. In reality, the Makmal, Leilek, Karakol, and Naryn FEZs are barely functioning, and the only truly operational zone is the Bishkek FEZ.
On paper, these zones were established to promote production in Kyrgyzstan and create jobs. In practice, they engage in trading tax and customs benefits, with production being primarily limited to packaging, assembly, or characterized by low redistribution levels.
Furthermore, a range of unique schemes thrive within these free zones, which are based on the exceptional tax exemptions granted by law to their residents. Instead of paying all taxes and fees, residents only pay an annual fee ranging from 0.5% to 2% of their declared turnover.
While the notorious «customs millionaire» schemes are blatantly fraudulent (e.g., declaring iPhones as rubber slippers), the FEZs provide «legal schemes.» They offer official benefits, but to import duty-free goods into the country via an FEZ, one must prove that the goods have undergone some form of transformation within the FEZ.
As a result, the majority of Bishkek FEZ participants list production as their business activity. Many do this in various ways, including sewing workshops, assembling building structures, and more.
A sewing shop on one side of the FEZ fence pays 10% income tax and 12% VAT, while on the other side, it pays only 2% of its revenue. An ordinary sewing workshop must purchase Chinese or Turkish fabric, paying all duties (unless it uses «millionaire» channels), while an identical workshop on the other side of the fence can import fabric duty-free and legally. Which side of the fence would you prefer to be on if you were to open a sewing shop?
Naturally, these legalized tax-free havens are an attractive source of corruption. The «On Free Economic Zones» law is drafted in such a way that the FEZ Directorate decides whether or not to admit an applicant based on their business plan (Article 11 of the law). There are no universal rules or automation. If they like the business plan, it is approved; if not, the applicant remains on the other side of the fence.
An entrepreneur who explored the possibility of moving his business to a free economic zone reported that during initial discussions, the topic of additional compensation for accepting his company into the FEZ, along with a regular annual «fee» in addition to official payments, always arose. This constitutes a real trade in tax benefits, all under the protection of the law.
FEZs and the Budget
All FEZ participants are not only exempt from taxes in exchange for a single contribution (ranging from 0.5% to 2% of their revenue), but they also pay this fee directly to the FEZ Directorate, rather than to the state budget.
In the Bishkek FEZ, this fee is set at 2% of revenue. It is assumed that this money (approximately 300 million soms per year) should be used for the development of the FEZ infrastructure, but it is clear that the funds are spent rather creatively.
According to our sources, during an audit of the Bishkek FEZ, the Accounts Chamber of the Kyrgyz Republic uncovered numerous violations, and these materials are currently under review by the State Committee for National Security.
Should the state budget receive a portion of the fees paid by FEZ participants to the Directorate? Until recently, a government decree stipulated that the state budget should receive 2% of the fees collected by the directorate. In other words, 2% of 2%. From 300 million soms, this amounts to 6 million soms. However, then decree No. 130 was issued…
Inexplicable Ruling
A perpetual budget crisis plagues Kyrgyzstan. The government attempts to find money from various sources, accepts grants and loans, and pressures businesses for advance tax payments. At the beginning of this year, the budget situation became particularly dire, with businesses slowly leaving the country and a significant revenue drop anticipated due to the looming epidemic.
Yet, on March 5, 2020, amidst all this, the Prime Minister signed a decree stating that the state budget should now receive not 2% of the fees, but… 0.02% from the management of the Bishkek FEZ! This is a hundred times less. So, instead of the directorate giving 6 out of the 300 million collected to the budget, now this amount is reduced to 60 thousand soms. Out of 300 million. Pinch me; I must be dreaming.
What justifies such generosity towards the management of the Bishkek FEZ at the expense of the already struggling Kyrgyz budget?
The resolution states that the budget’s share is reduced to 0.02% «in order to develop and improve the efficiency of the Bishkek free economic zone, as well as provide conditions for attracting foreign investment.»
I have read this phrase in Resolution No. 130 of March 5, 2020, five times. Yet, I still cannot comprehend how refusing to receive 6 million out of the 300 million collected can create conditions for attracting foreign investment and improve the efficiency of the FEZ. The efficiency of off-budget fund allocation by the directorate, perhaps, but foreign investment? There is only one conclusion — the government must think we are fools.
After Kanatbek Isaev raised this issue at a parliamentary meeting, by a strange coincidence, Resolution No. 130 disappeared from both the government website and the Ministry of Justice’s online database. We will publish it here, for posterity — let everyone marvel at this example of corrupt creativity.
Is There an Explanation?
Duishen Ismailovich Irsaliev, head of the general directorate of the Bishkek FEZ, is reportedly a close friend of Prime Minister Abylgaziev, according to several individuals close to government circles we interviewed. Both hail from the village of Kochkorka in the Naryn region and, as they say, have been friends for quite some time.
Perhaps the Prime Minister’s unprecedented generosity towards an organization controlled by his friend, at the expense of the state budget, is merely a coincidence.
In our view, this is not the most crucial issue. What is important is that Decree No. 130 represents a genuine act of budget sabotage. Moreover, it has passed all stages of legal, anti-corruption, and budget efficiency examinations. Can you imagine how many signatures it received during its approval process?
We sincerely hope that this decree is repealed. We would also suggest a complete reconsideration of the functioning format of Kyrgyz offshore companies operating under the guise of a free economic zone. The most appropriate approach would be to allow the entrepreneurs working in the FEZ to control the expenses of maintaining the free zone.
If a new fence is needed, so be it. If water connections are required, let’s hold a tender under general supervision and select the best contractor. It would be as if the FEZ participants were shareholders of a joint-stock company, with the management being accountable to them. Otherwise, such friendly resolutions will continue to emerge, legalizing budget cuts. It’s already quite embarrassing.
Alexei Gorin
