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Indirect Taxation

VIEWS: 58 PAGES: 23

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									                   Support for the Implementation of the Partnership and
                   Cooperation Agreement (PCA) between EU-Azerbaijan Phase III




Support for Implementation of the PCA between
               EU-Azerbaijan



                                 Scoreboard Report
                                         On
                                  Indirect Taxation




    This project is funded by the European Union and implemented by SOFRECO
    SA in consortium with Altair
    EU Support to the Prime Minister’s Office - KosovoAsesores and Omni Consultants
    An EU funded project managed by the European Agency for Reconstruction
                                  DISCLAIMER

Findings, conclusions and interpretations expressed in this document are those of the
                       authors alone, and should in no way be
       taken to reflect the policies or opinions of the European Commission.




                                                                                        2
                        Indirect Taxation
Scoreboard Paper on Approximation of Azerbaijani Legislation to EU Law




                            Prepared by:

                          Kamal Hadiyev
                           Local Expert



                   Fabrizio Cugia di Sant'Orsola
                      EU Key Mid-term Expert




                      Updated by Local Expert
                   Elnur Mammadov in July 2007
Principles and Objectives of the Sector

Taxation is both one of the main sources of revenues for a state that allows it to finance public
expenditures and a financial tool regulating economy. At the same time, taxation can be either a
stimulus or obstacle for developing the entrepreneurship and free market. Moreover, the inclination
of state’s system towards excessive or progressive taxation depends on application of several
principles, such as transparency, simplicity, equal treatment of all taxpayers, and prohibition of
unlawful interference with taxpayer’s business.

The VAT1, which is the most common type of indirect taxes, originated in Europe. France
introduced it for the first time in the history of mankind in 1954. Although some countries do not
use the VAT, for instance the USA, the indirect taxes in majority of other states form a substantial
part of their budgets2. The EU started integration of its indirect taxes in 1960s when it became
obvious that a difference in rates of these taxes in member states was a big hurdle on the way to the
European single market, because it distorted competition and created barriers for the free supply of
services and free movement of goods within the EU borders. Since then, the harmonisation of
European indirect taxes has passed several stages, the most recent of which started in 1993 after the
establishment of single market. While there are still some problems on the tax agenda of the EU
countries, their tax experience and practice can be indispensable for countries with transitional
economy, because it will help them to identify similar legal issues that the EU had in the past and
correct them efficiently and on time.

Following the adoption of the comprehensive Tax Code in July 20003, Azerbaijani tax law is being
constantly developed and updated: the Government of Azerbaijan has abolished a system of
differential profit tax depending on location of business in accordance with the requirement of
international financial institutions; determined the powers of tax authorities and conditions for tax
audits; concluded international treaties on avoidance of double taxation with many countries,
including several member states of the EU (UK, Lithuania, Austria, etc)4. Now Azerbaijan could
be interested in both further development of market economy by easing tax burden and
strengthening the tax collection, especially regarding indirect taxes.

The European tax experience not only shows the evolution of tax system in various member states,
but is a vivid example that a tax system shall correspond to the economic purposes of the state. For
example, some new member states of the EU have introduced a flat tax system (i.e. Baltic
Republics, Slovakia, and Romania) covering the income, profit and indirect taxes; consequences of
such move are being considered now by other members of the EU and world community5, namely
the IMF. Moreover, the EU tax law is in line with the requirements of the WTO, to which
Azerbaijan intends to access in near future. Therefore, the approximation of Azerbaijani tax law to
the EU Acquis apart from obvious benefits for local taxpayers can serve two main goals: assist
Azerbaijan in joining the WTO and remove existing barriers in trade relations with the EU.

This report will try to compare the existing European legislation in the indirect tax field and the
corresponding Azerbaijani tax law and give recommendations regarding possible improvement of

1
  See, for example: http://finance.indiamart.com/taxation/vat_in_history.html ; M. Keen, Y. Kim, and R. Varsano, The
“Flat Tax(es)”: Principles and Evidence, http://www.imf.org/external/pubs/ft/wp/2006/wp06218.pdf.
2
  See “Tax Systems in European Union Countries” by Isabelle Joumard, page 106;
http://www.oecd.org/dataoecd/15/57/2968128.pdf
3
  It entered into force on January 1, 2001.
4
  See the site of Azerbaijani Tax Ministry: http://www.taxes.gov.az/info/
5
  See “Simplifying tax systems” report in The Economist magazine of April 16 th-22nd 2005. For example, Latvia
introduced the flat income tax of 25% in 1995; some CIS states, such as Russia, Ukraine and Georgia also decreased
their income tax to 12-13%.


                                                                                                                       4
relevant indirect taxation rules in Azerbaijan.

Recommendations and Prioritisation

The following are our recommendations regarding indirect taxes in Azerbaijan.

VAT

        The list of VAT exemptions in Azerbaijani law can be supplemented with some exemptions
         of the EU Directive relating to the social development, such as education, medical services,
         supply of services and goods closely linked to welfare and social security, etc6.

        Under the Azerbaijani law, the Cabinet of Ministers can exempt certain imported goods
         from the VAT. It is necessary to define the scope of such exemptions in order to avoid any
         possible tax abuses or distortion of competition.

        It is recommended to introduce a practice of refunding the VAT to taxable persons not
         established in Azerbaijan, who pay the VAT on goods supplied in Azerbaijan and intend to
         take them out of the country.

        The Azerbaijani law could be supplemented with provision that VAT invoices may be sent
         and stored by electronic means, taking into account the adoption of a new Azerbaijani law
         On Digital Signature and Digital Document and future initiative relating to eGovernment.

        The corresponding state body may evaluate the relevant experience of the EU and adopt the
         reduced VAT rate for certain types of labor-intensive services or supply of goods, including
         tourism and hospitality sectors if it finds such approach economically grounded7.

Excises

        The main discrepancy of Azerbaijani tax law with the EU Acquis is different tax rates
         applied to some types of locally produced and imported goods. Therefore, it is
         recommended to introduce a uniform rate to both types of excisable goods.

        Azerbaijani law lacks the principle that energy products shall be taxed only when used as a
         fuel or for heating purposes, which is established in the EU Acquis. Therefore, in
         Azerbaijan the excise tax is levied on such materials as local bitumen or imported asphalt. It
         is recommended to abolish excise taxes for such goods.

        Moreover, the EU law allows Member States to exempt from tax the energy products used
         for maritime transport within Community waters, in carriage of goods and passengers by rail
         (metro, tram and trolleybus), air navigation (excluding private pleasure flying) and energy
         used for producing the electricity, etc. The corresponding state agency can think over about
         introducing similar tax provisions in Azerbaijani law.

6
  For more information see Article 13 of the 6 th Directive.
7
  Although the tourism sector in the EU is subject to standard VAT rate, the reduced VAT rate can be used for services
indicated in Annex H of the 6th Directive, such as hotel accommodation. At the same time, Council Resolution of 21
May       2002     on    the    future    of      European    tourism     (2002/C     135/01;      http://europa.eu.int/eur-
lex/pri/en/oj/dat/2002/c_135/c_13520020606en00010003.pdf) stated that “…many Community policies and measures
in the field of … tax matters have a direct effect on the tourism sector, although its interests are not always taken into
account before a decision is taken”. Taking into account that tourism is a price-sensitive sector and Azerbaijan is
interested in its development, the corresponding state agency can closely evaluate the consequences of introducing the
reduced VAT rates for this sector using the relevant experience of some European countries.

                                                                                                                          5
       There is no tax technique to promote the use of environmentally friendly energy products
        (unleaded fuel, biofuel, fuel from renewable resources) in Azerbaijan. It is recommended to
        amendment the Azerbaijani tax law in order to address these shortcomings, especially
        encouraging the use of environmentally friendly fuel.

Relevant Azeri Legislation of the Sector

Azerbaijani tax law is characterised by presence of the comprehensive and up-to-date Tax Code and
several subordinate legal acts. The Tax Code consists of general and special parts. The general part
describes Azerbaijani tax system, powers of tax authorities, rights and obligations of taxpayers, etc.
The special part determines the application, rates and similar terms regarding present taxes in
Azerbaijan: profit and income taxes; VAT; excise taxes; assets tax, etc.

Like in Europe, the VAT is levied from turnover of goods, supply of services and import of goods
in Azerbaijan. The current rate of VAT is set at 18%. The law requires a VAT registration for
taxpayers. Turnover and import of certain goods is VAT exempt: financial services, import of
goods, performance of works and provision of services related to the exercise of the functions of the
National Bank provided in the law. The law also provides for zero-rated transactions: export of
goods and certain services, international and transit transportation of cargo and passengers. At the
same time, the Government of Azerbaijan can exempt import of certain products (the recent
amendment has elaborated the criteria for choosing such products) from the VAT.

The excise taxes are levied both for the production of excisable goods (alcoholic beverages and
ethyl alcohol; tobacco products and mineral oils, passenger vehicles, sports and leisure yachts) and
their import. However, there is a difference between rates for locally produced and exported
excisable products. Export of excisable goods is subject to 0% tax rate.

The Azerbaijani tax law does not apply to special tax regimes established by Production and
Sharing Agreements regarding oil and gas reserves that were concluded among Azerbaijan and
foreign oil companies: if PSAs or agreements on construction of oil and gas pipelines that were
approved prior or after the entering into force of Tax Code and the Law On Oil and Gas, establish
provisions that differ from provisions of the Tax Code or other tax laws, then provisions of such
PSAs and similar agreements prevail.8

The Ministry of Taxes is the main state authority that administers collection of taxes; carries out tax
control and implements state’s tax policy. Customs authorities can also exercise tax powers i.e.
they levy tax duties during the import of goods.

Other relevant legal acts in this field are:

Resolution No 11 of January 31, 2005 of the Cabinet of Ministers of the Republic of Azerbaijan On the List
of Goods Imported to the Territory of the Republic of Azerbaijan and Exempted from the VAT;

Resolution No 160 of July 27, 1998 of the Cabinet of Ministers of the Republic of Azerbaijan On Rules of
Full or Partial Exemption from Payment of Customs Duties and Taxes for Temporarily Imported
(Exported) Goods in the Republic of Azerbaijan;

Resolution No 20 of January 19, 2001 of the Cabinet of Ministers of the Republic of Azerbaijan On Rates of
Excise Taxes Applied to Goods Imported to the Republic of Azerbaijan;



8
 See Article 2.7 of the Tax Code. The reason for such provision is to guarantee the immunity of foreign investments in
Azerbaijani oil sector as well as the recognition of supremacy of international law vis-à-vis national legislation.

                                                                                                                    6
Resolution No 165 of November 1, 2004 of the Cabinet of Ministers of the Republic of Azerbaijan On
Regulation of Prices for Mineral Oil within the Republic of Azerbaijan;

Instruction of August 30, 2001 of the State Customs Committee of the Republic of Azerbaijan On the
Simplified and Privileged Procedure of Passing the Customs Border of the Republic of Azerbaijan by
Individuals Wishing to Bring Goods of Non-Commercial and Non-Industrial Purposes;

Resolution No 33 of the State Customs Committee of July 24, 1998 On Regulation of Activities of Duty-
Free Shops and some others.

Relevant EU Legislation of the Sector

Unlike the direct taxation where Member States have full competence and autonomy, and therefore
where the EU harmonisation process is slow, the situation in indirect taxation is quite different. The
EU law determined the minimal VAT rates, exemptions, etc in the past and continues to propose
new laws in this field. A reason of such condition can be explained by Article 14 of the EC Treaty
“the Community shall adopt measures with the aim of progressively establishing the internal
market…The internal market shall comprise an area without internal frontiers in which the free
movement of goods, persons, services and capital is ensured in accordance with the provisions of
this Treaty”. Moreover, Articles 90-93 of the EC Treaty laid a basis for such harmonisation: “the
Council shall, acting unanimously on a proposal from the Commission and after consulting the
European Parliament and the Economic and Social Committee, adopt provisions for the
harmonisation of legislation concerning turnover taxes, excise duties and other forms of indirect
taxation to the extent that such harmonisation is necessary to ensure the establishment and
functioning of the internal market…”. Therefore, a difference in application and rates of indirect
taxes in 1960s and desire to establish an internal market forced Member States to adopt several
uniform laws that harmonised the indirect taxation within the EU.

VAT

General Picture

The history of VAT in the EU can be divided into two stages: before and after 1993. Several
landmark laws were adopted during the first stage (for example, the Sixth Directive), which created
a possibility for establishing a single market in Europe. After it was established i.e beginning from
1993, the European Commission tried to move from the destination to origin principle in order to
abolish fiscal barriers within the Community9. However, this move was not successful because
there were still some discrepancies among tax laws of Member States. Instead, a transitional VAT
system was adopted, which merged these two principles: transactions among taxable persons are
subject to VAT in accordance with the destination principle; however origin principle applies to
cross-border purchases of individuals with some exceptions (purchase of new transport means and
distance selling of goods)10.

The Council Directive 2006/112/EC11 of 28 November 2006 provides the common system of value
added tax. The new Directive applies VAT to the supply of goods, intra-Community acquisitions in
a Member State of goods from another Member State, supplies of services, and imports of goods
from outside the EC. The new Directive determines the terms that are necessary for the uniform

9
  The destination principle means that VAT is levied at place of consumption of goods for both final consumers and
producers; the origin principle provides for taxation at place where goods are produced regardless of where they are
consumed. See more at page 143 of “Tax Systems in European Union Countries” by Isabelle Joumard;
http://www.oecd.org/dataoecd/15/57/2968128.pdf
10
   See http://europa.eu.int/comm/taxation_customs/taxation/vat/how_vat_works/index_en.htm
11
   The Sixth Directive 77/388 (with relevant amendments) has been repealed by the Council Directive 2006/112/EC of
28 November 2006 on common system of value added tax.

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functioning of the VAT system (taxable persons, supply of goods and services, the place and
territory of taxable event, etc). Article 96 of the new Directive states that “the standard rate of value
added tax shall be fixed by each Member State as a percentage of the taxable amount and shall be
the same for the supply of goods and for the supply of services”. The minimum standard rate of
VAT has been set at 15% until 31 December 2010. The law also provides for the reduced or
increased VAT rates although the VAT rate cannot be lower than 5%12.

The new Directive contains a list of exemptions from the VAT, such as the supply of services and
of goods closely linked to welfare and social security work; insurance and reinsurance transactions;
export transactions; activities relating to the international transport, etc. There are also exemptions
on import of certain goods: goods brought under a declaration for transit arrangements; by
international organisations recognised as such by the public authorities of the host country; etc.
Besides, the law provides for special schemes for small undertakings, travel agents and farmers.

Farmers can also be subject to normal VAT or enjoy privileges for small transactions. At the same
time, Member States may apply to farmers a flat-rate scheme tending to offset the value added tax
charged on purchases of goods and services made by the flat-rate farmers. Such schemes provide
farmers with a flat rate compensation percentage, which is “applied to the price, exclusive of tax, of
the agricultural products and agricultural services supplied by the flat-rate farmers to taxable
persons other than a flat-rate farmer”. Moreover, this compensation is paid either by buyers, who
can deduct it from their VAT or by authorities. Member States can fix this percentage for
agricultural, forestry and fishery products.
Furthermore, a special VAT Committee operates in order to hold consultations about “the
application of Community provisions on VAT”.

E-commerce

The development of information technologies created a problem of application of VAT to e-
services and required a new approach to taxation of ecommerce. Therefore, the Council Directive
2006/112/EC of 28 November 2006 addressed these new concerns. Under these new rules, EU
suppliers are no longer obliged to levy VAT when selling on markets outside the EU, thereby
removing a significant competitive handicap. Previously under tax rules drawn up before e-service
existed, EU suppliers had to charge VAT when supplying digital products even in countries outside
the EU.

The changes eliminate the existing competitive distortion by subjecting non-EU suppliers to the
same VAT rules as EU suppliers when they are providing electronic services to EU customers. The
VAT rules for non-EU suppliers selling to business customers in the EU remain unchanged, with
the VAT paid by the importing company under self-assessment arrangements13.
Labour Intensive Services

As development of entrepreneurship and creation of jobs are priorities for the EU, the Directive
1999/85/EC was adopted with the aim to apply the reduced VAT rates for some labour intensive
services within EU and to combat the “grey” economy. Initially the reduced rates applied to;



12
   The EU Directive 92/77/EEC stipulated that VAT rates lower than 5% shall be kept for the transitional period. For
example, Cyprus was allowed to maintain zero VAT rate on foodstuffs and pharmaceuticals until 31 December 2007
http://europa.eu.int/comm/enlargement/negotiations/chapters/chap10/)
13
   See http://europa.eu.int/comm/taxation_customs/taxation/vat/how_vat_works/e-services/index_en.htm Azerbaijan
has no law on ecommerce and e-services related tax provisions as of July 2007, therefore these Directives were not
mentioned in our Scoreboard.

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     The repairing of:
             bicycles,
             shoes and leather goods,
             clothing and household linen (including mending and alteration);
    Renovation and repairing of private dwellings, excluding materials which form a significant
      part of the value of the supply;
     Window cleaning and cleaning in private households;
     Domestic care services (e.g. home help and care of the young, elderly, sick or disabled);
     Hairdressing.


The recently adopted Council Directive 2006/112/EC has prolonged the validity of such reduced
rates up to 31 December 2010.

Other important Directives in this field are:
Council Directive 83/181/EEC of 28 March 1983 determining the scope of Article 14 (1) (d) of
Directive 77/388/EEC as regards exemption from value added tax on the final importation of
certain goods;
Council Directive 83/182/EEC of 28 March 1983 on tax exemptions within the Community for
certain means of transport temporarily imported into one Member State from another;
Council Directive 83/183/EEC of March 1983 on tax exemptions applicable to permanent imports
from a Member State of the personal property of individuals;
Thirteenth Council Directive 86/560/EEC of 17 November 1986 on the harmonisation of the
laws of the Member States relating to turnover taxes - Arrangements for the refund of value added
tax to taxable persons not established in Community territory;

Excises

Excise tax is a consumer duty that is paid for consumption or use of a product at the market. Unlike
VAT, they are usually expressed in fixed monetary amount per quantity of the product. The EU
Member States levy excise taxes on:

     manufactured tobacco products,
     alcoholic beverages and
     energy products (motor fuels and heating fuels, such as petrol and gasoline, electricity,
       natural gas, coal and coke).

Tobacco

There are several main Directives that regulate excise taxes on tobacco in the EU.

The Directive 92/12/EEC lays down some provisions regarding types of excisable goods in the EU.
The law applies to mineral oils (i), alcohol and alcoholic beverages (ii) and manufactured tobacco
(iii). Such products are subject to excise duty at the time of their production at the territory of the
EU or during their importation into that territory. Moreover, several definitions such as tax
warehouse (a place where goods subject to excise duty are produced, processed, held, received or
dispatched under duty-suspension arrangements by an authorized warehouse keeper in the course of


                                                                                                     9
his business, subject to certain conditions laid down by the competent authorities of the Member
State where the tax warehouse is located); authorized warehouse keeper (a natural or legal person
authorized by the competent authorities of a Member State to produce, process, hold, receive and
dispatch products subject to excise duty in the course of his business, excise duty being suspended
under tax-warehousing arrangement); registered and non-registered traders, etc were introduced by
this Directive.

The movement of excisable goods under the suspension arrangements (i.e a tax arrangement applied
to the production, processing, holding and movement of products, excise duty being suspended)
must take place among tax warehouses and if they are moved within the EU, then a special
document in the form of either an administrative or commercial document drawn up by a consignor.
Tax authorities shall be informed by traders about dispatched or received goods. This is done by
the specific quadruplicate document:

      one copy is kept by the consignor,
      one copy is sent to the consignee,
      one copy is returned to the consignor for discharge,
      one copy is sent to the competent authorities of the Member State of destination.

Besides, Member States may also require the usage of tax markings or national identification marks
for products that are released for consumption. Moreover, the Directive sets exemptions from
payment of excise duty for delivery in the context of diplomatic and consular relations, for
international organisations, armed forces of the NATO members.

Another Directive 95/59/EC establishes and defines the different categories of tobacco products that
are subject to excise tax: cigarettes; cigars and cigarillos; smoking tobacco - fine-cut tobacco for the
rolling of cigarettes and other smoking tobacco.

The law also provides for several exemptions from excise or a refund for already paid product:

      denatured manufactured tobacco used for industrial or horticultural purposes;
      manufactured tobacco which is destroyed under administrative supervision;
      manufactured tobacco which is solely intended for scientific tests and for tests connected
       with product quality;
      manufactured tobacco which is reworked by the producer.

The excise tax on tobacco consists of two parts: proportional excise duty calculated on the retail
selling price and a specific excise duty calculated per unit of the product. Moreover, the Directive
provides for the two stages of harmonisation of excise taxes. Thus, the specific rate can vary
initially between 5-75% and 5-55% subsequently of aggregate amount of the proportional excise
duty, the specific excise duty and the turnover tax levied on cigarettes.

The Directive 92/79/EEC introduced a requirement that “not later than 1 January 1993, each
Member State shall apply an overall minimum excise duty (specific duty plus ad valorem duty
excluding VAT) the incidence of which shall be set at 57 % of the retail selling price (inclusive of
all taxes) for cigarettes of the price category most in demand. The overall minimum excise duty on
cigarettes shall be determined on the basis of cigarettes of the price category most in demand

                                                                                                     10
according to data established as at 1 January of each year, beginning on 1 January 1993”.

The most recent law in this field is the Directive 2002/10/EC. It introduced the minimum excise
rate of 60 Euro per 1000 cigarettes of the price category most in demand. This rate has increased to
64 Euro beginning from July 1, 2006. At the same time, if Member States already apply the
minimum excise rate of at least 95 Euro per 1000 cigarettes (101 Euro beginning from July 1, 2006)
need not to comply with the 57% minimum incidence requirement. The law also establishes
minimum excise for fine cut smoking tobacco intended for rolling of cigarettes (36% of the retail
selling price including all taxes or 32 Euro per kilogram beginning from July 1, 2004); cigars (5%
of the retail selling price including all taxes or 11 Euro per 1000 cigars or per kilogram) and other
smoking tobacco (20% of the retail selling price including all taxes or 20 Euro per kilogram).

According to Directive, the European Commission shall prepare reports and/or proposals about
rates of excise duties every four years.

Alcohol

There are two main legal acts that define the structure and rates of the EU excise on alcohol:
Directives 92/83/EEC and 92/84/EEC.

The Directive 92/83/EEC determines taxation criteria for alcoholic beverages, such as beer, wine
and non-sparkling drinks, sparkling wines and other sparkling drinks, intermediate products, alcohol
and sprits. Alcoholic beverages are subject to excise tax depending on the volume of actual
alcoholic strength: for example, according to Article 8 of the law, sparkling wine shall mean a
product (i) having an actual alcoholic strength by volume exceeding 1.2% vol. but not exceeding
15% vol., provided that the alcohol contained in the finished product is entirely of fermented origin
or (ii) having an actual alcoholic strength by volume exceeding 15% vol. and not exceeding 18%
vol. provided they have been produced without any enrichment and that the alcohol contained in the
finished product is entirely of fermented origin.

A slightly different approach is used for drinks with low level of alcohol: the excise duty levied on
beer shall be fixed by reference either: (i) to the number of hectolitres/degrees plato or (ii) to the
number of hectolitres/degrees of actual alcoholic strength by volume of finished products. (Article 3
of the EU Directive).

The law provides for the reduced rates for independent small breweries within the corresponding
production limits as well as intermediate products; ethyl alcohol produced by small distilleries, etc.
Moreover, if privileges in the way of the reduced tax are granted for local small producers, they also
shall be granted to small producers in other Member States. The main idea behind such reduced
rates is to protect small producers provided that competition is not distorted. The Directive also
contains a list of exemptions from the excise tax depending on activity (for example, for scientific
research) and specific arrangements with Member States.

The Directive 92/84 sets rates for alcoholic beverages. The standard rate is determined at 550 Euro
per hectolitre of pure alcohol. However, Member States which apply to alcohol and alcoholic
beverages a rate of duty not exceeding 1 000 Euro per hectolitre of pure alcohol may not reduce
their national rate. In addition, Member States which apply to the said products a rate of duty
exceeding 1 000 Euro per hectolitre of pure alcohol may not reduce their national rate below 1 000
Euro.

Additionally, minimum rates are established for still and sparkling wines (0 Euro per hl); beer
(0,748 Euro per hl or 1,87 Euro per hl of finished product) and intermediate products (45 Euro per
hl).

                                                                                                   11
Mineral Oil

The Community law in this field was substantially amended in 2003 with adoption of the new
Directive 2003/96/EC of 27 October 2003 restructuring the Community framework for the taxation
of energy products and electricity. This law widened the application of excise tax not only to
mineral oils, but also to all energy products including coal, natural gas and electricity. It aims
primarily at reducing the distortion of competition for energy products among the Member States of
the EU. The Directive introduced the principle that energy products shall be taxed only when used
as fuel or for heating, but not when used as raw materials, or in chemical reductions or in
electrolytic or metallurgical processes.

According to Article 7.2 of the law, Member States may differentiate between commercial and non-
commercial use of gas oil used as propellant, provided that the Community minimum levels are
observed and the rate for commercial gas oil used as propellant does not fall below the national
level of taxation in force on 1 January 2003. Commercial gas oil used as propellant “shall mean
the usage of gas oil for (i) the carriage of goods for hire or reward, or on own account, by motor
vehicles or articulated vehicle combinations intended exclusively for the carriage of goods by road
and with a maximum permissible gross laden weight of not less than 7,5 tons and (ii) the carriage
of passengers, whether by regular or occasional service, by a motor vehicle of category M2 or
category M3, as defined in Council Directive 70/156/EEC of 6 February 1970 on the approximation
of the laws of the Member States relating to the type-approval of motor vehicles and their trailers”.

At the same time, energy products used in stationary engines and for agricultural purposes will be
normally taxed at lower levels than the fuel used in motor cars.

Besides, the Directive provides exemptions for energy products used for international air transport,
maritime transport within the EU waters, renewable energy sources (solar, wind, wave, tidal or
geothermal origin; biofuel) as well as energy used for carriage of goods and passengers by train,
metro, tram or trolleybus. Member States may also apply tax reductions on the consumption of
energy used for heating purposes; stationary motors and plant and machinery used in construction,
civil engineering and public works and on electricity for energy-intensive business. According to
the law, the energy-intensive business “shall mean a business entity where either the purchases of
energy products and electricity amount to at least 3,0 % of the production value or the national
energy tax payable amounts to at least 0,5 % of the added value”. Moreover, Member States may
apply a level of taxation down to zero to energy products and electricity when used by energy-
intensive businesses or they may apply a level of taxation down to 50 % of the minimum levels in
this Directive to energy products and electricity when used by business entities, which are not
energy-intensive.

The law provides for transitional period for several Member States; such countries are required to
reduce the gap in taxation in accordance with new minimum tax rates. However, when the
difference between the national level and the minimum level does not exceed 3 % of that minimum
level, the Member State concerned may wait until the end of the period to adjust its national level.

Other important legal acts in this field are:

Commission Regulation (EEC) No 2719/92 of 11 September 1992 on the accompanying
administrative document for the movement under duty-suspension arrangements of products subject
to excise duty;




                                                                                                  12
Commission Regulation (EEC) No 3649/92 of 17 December 1992 on a simplified accompanying
document for the intra-Community movement of products subject to excise duty which have been
released for consumption in the Member State of dispatch;

Commission Regulation (EC) No 31/96 of 10 January 1996 on the excise duty exemption
certificate;

Commission Regulation (EC) No 3199/93 of 22 November 1993 on the mutual recognition of
procedures for the complete denaturing of alcohol for the purposes of exemption from excise duty.
This Regulation implements Article 27(1)(a) of Council Directive 92/83/EEC for the complete
denaturing of alcohol and sets down the various formulations of denaturants in the Member States;

Council Directive 95/60/EC of 27 November 1995 on fiscal marking of gas oils and kerosene;

Commission Decision of 22 June 2006 on establishing a common fiscal marker for gas oils and
kerosene and so on.

WTO Rules on Indirect Taxation

Definition of indirect taxes is not established by the WTO Agreements. Only the Annex I of the
Agreement on Subsidies and Countervailing Measures (“SCM”) states that “the term "indirect
taxes" shall mean sales, excise, turnover, value added, franchise, stamp, transfer, inventory and
equipment taxes, border taxes and all taxes other than direct taxes and import charges”. Article 3.1
(a) of the SCM Agreement provides that subsidies contingent, whether solely or as one of several
other conditions, upon the use of domestic over imported goods shall be prohibited except for
provisions provided in the Agreement on Agriculture14. It means that export subsidies are
prohibited. If a state uses such subsidies, it is required to withdraw them without delay.

Article III (“National Treatment on Internal Taxation and Regulation”) of the GATT/WTO
Agreement provides that “internal taxes and other internal charges, and laws, regulations and
requirements affecting the internal sale, offering for sale, purchase, transportation, distribution or
use of products, and internal quantitative regulations requiring the mixture, processing or use of
products in specified amounts or proportions, should not be applied to imported or domestic
products so as to afford protection to domestic production. The products of the territory of any
contracting party imported into the territory of any other contracting party shall not be subject,
directly or indirectly, to internal taxes or other internal charges of any kind in excess of those
applied, directly or indirectly, to like domestic products”. Moreover, the Agreements states that
“products of the territory of any contracting party imported into the territory of any other
contracting party shall be accorded treatment no less favourable than that accorded to like products
of national origin in respect of all laws, regulations and requirements affecting their internal sale,
offering for sale, purchase, transportation, distribution or use”.

Thus, protective or discriminatory use of taxes for imported goods is prohibited. Therefore, two
main principles of the WTO apply to indirect taxes: most favoured nation treatment (“MFN”),
under which no goods can be treated in discriminatory manner depending on their origin (i.e. it is
necessary to treat equally all goods) and national treatment, meaning that once goods are cleared by
customs authorities, they are subject to the same treatment as domestic goods.



14
  According to Agreement on Agriculture, the WTO members agree not to provide export subsidies regarding
agricultural products subject to certain provisions.

                                                                                                           13
The General Agreement on Trade in Services (“GATS”) also applies the MFN rule to the trade in
services: “each Member shall accord to services and service suppliers of any other Member, in
respect of all measures affecting the supply of services, treatment no less favourable than that it
accords to its own like services and service suppliers”. However if a WTO member makes a
reservation about application of MFN regime only to specific sectors during its accession to the
GATS, then trade in services in other, “exempted” sectors is not subject to the MFN treatment.

As our survey shows, Azerbaijan does not have any export subsidies, however, there are certain
discrepancies between rates of VAT and excise taxes levied on local and imported products as well
as several temporary tax privileges for local producers. Undoubtedly, these issues will be given a
particular attention by the EU within the supposed accession of Azerbaijan to the WTO.




                                                                                                14
                                           TACIS Programme for Azerbaijan – 2007
                          Support for implementation of the PCA between EU - Azerbaijan Progress
             Monitoring on the Aligning of the Legislation of Azerbaijan with the requirements of the WTO and EU

                                                   Scoreboard for the Legal Approximation Process
                                                           in the field of Indirect Taxation

Country: Republic Azerbaijan                                                          Date Table Completed: May, 2005 (updated in July 2007)

Person(s) completing Table: Kamal Hadiyev, Fabrizio Cugia di Sant'Orsola, Elnur Mammadov

Legal Approximation Degree (LAD) of the Azeri legislation (or draft legislation) to EU relevant Acquis: from 0 to 4.
0 = not approximated; 1 = very low level of approximation; 2 = low level of approximation; 3 = almost approximated; 4 = fully approximated




     WTO Provision                   EU Legal Reference               Azeri Existing Laws and Drafts          LAD           Comments and Recommendations


GATT        1994   (some                                                                        VAT
provisions, namely Article
III)                              EC Treaty (Articles 90; 93)        Constitution of the Republic of            4     Fully approximated.
                                                                     Azerbaijan
Agreement On Subsidies                                                                                                Article 73.II of Azerbaijani Constitution provides
and       Countervailing                                                                                              that “no person may be required to pay additional
Measures (SCM)                                                                                                        taxes and other state duties except as prescribed
                                                                                                                      by law, and in excess of the amount provided
                                                                                                                      therein.”
                             Council Directive 2006/112/EC of Tax Code of the Republic                         of     3      Almost approximated.
                             28 November 2006 on the common Azerbaijan (Articles 153-195)
                             system of value added tax                                                                       The relevant Azerbaijani tax provisions are, in
                                                                                                                             general, in line with the EU legal act. Azerbaijani
                                                                                                                             law does not discriminate against foreign
                                                                                                                             suppliers of goods or services15. Moreover,
                                                                                                                             definitions of the VAT scope, its rates (18% in
                                                                                                                             Azerbaijan and no less than 15% in the EU),
                                                                                                                             presence of a simplified taxation system, etc are
                                                                                                                             similar in Azerbaijani and the EU laws.

                                                                                                                             However, there are certain discrepancies: while
                                                                                                                             export of goods and services; activities of
                                                                                                                             international transport are VAT exempt in the EU
                                                                                                                             law, they are subject to zero VAT rate in
                                                                                                                             Azerbaijan.

                                                                                                                             The list of VAT exemptions of Azerbaijani law
                                                                                                                             can be supplemented with some exemptions of the
                                                                                                                             EU Directive relating to the social development,
                                                                                                                             such as education, medical services, supply of
                                                                                                                             services and goods closely linked to welfare and
                                                                                                                             social security and so on.




15
   Although there is a Law On Granting Provisional Tax Privileges to Manufacturers of Agricultural Products, which under the EU law can be classified as implicit subsidies,
however this law is of temporary character that should be abolished as soon as Azerbaijani agricultural producers are recovered from the long-standing decline and restore their
competitiveness at the domestic market. At the same time, Azerbaijani law requires a license for import of alcohol and tobacco products. These issues may come into the focus of
further negotiations with the EU in the course of Azerbaijan’s accession to the WTO.


                                                                                                                                                                             16
Council Directive 83/181/EEC of          Tax Code of the Republic           of    3   Almost approximated.
28 March 1983 determining the            Azerbaijan (Articles 153-195)
scope of Article 14 (1) (d) of                                                        While provision on exemption regime is
Directive 77/388/EEC as regards          Resolution No 11 of January 31, 2005         sometimes backed by international organisations,
exemption from value added tax on        of the Cabinet of Ministers of the           it is necessary to define the scope of such
the final importation of certain goods   Republic of Azerbaijan On the List of        exemptions granted by corresponding state
                                         Goods Imported to the Territory of the       authority in order to avoid any possible tax abuses
                                         Republic of Azerbaijan and Exempted          or distortion of competition.
                                         from the VAT




Council Directive 83/182/EEC of          Tax Code of the Republic           of    4   Fully approximated.
28 March 1983 on tax exemptions          Azerbaijan (Articles 153-195)
within the Community for certain
means of transport temporarily           Resolution No 160 of July 27, 1998 of
imported into one Member State           the Cabinet of Ministers of the
from another                             Republic of Azerbaijan On Rules of
                                         Full or Partial Exemption from
                                         Payment of Customs Duties and
                                         Taxes for Temporarily Imported
                                         (Exported) Goods in the Republic of
                                         Azerbaijan




                                                                                                                                  17
Council Directive 83/183/EEC of       Tax Code of the Republic           of    4   Fully approximated.
March 1983 on tax exemptions          Azerbaijan (Articles 153-195)
applicable to permanent imports
from a Member State of the personal   Resolution No 11 of January 31, 2005
property of individuals               of the Cabinet of Ministers of the
                                      Republic of Azerbaijan On the List of
                                      Goods Imported to the Territory of the
                                      Republic of Azerbaijan and Exempted
                                      from the VAT

                                      Instruction of August 30, 2001 of the
                                      State Customs Committee of the
                                      Republic of Azerbaijan On the
                                      Simplified and Privileged Procedure
                                      of Passing the Customs Border of the
                                      Republic of Azerbaijan by Individuals
                                      Wishing to Bring Goods of Non-
                                      commercial     and    Non-Industrial
                                      Purposes.




                                                                                                         18
                                Thirteenth    Council     Directive        Tax Code of the Republic          of   2   Not fully approximated
                                86/560/EEC of 17 November 1986             Azerbaijan (Articles 153-195)
                                on the harmonisation of the laws of                                                   VAT refund process in Azerbaijan is complicated
                                the Member States relating to              Resolution No 33 of the State              and lengthy one16.       It is recommended to
                                turnover taxes - Arrangements for          Customs Committee of July 24, 1998         introduce a practice of refunding the VAT to
                                the refund of value added tax to           On Regulation of Activities of Duty-       taxable persons not established in Azerbaijan who
                                taxable persons not established in         Free Shops                                 pay the VAT on goods supplied in Azerbaijan and
                                Community territory                                                                   intend to take them out of the country.




                                Council Directive 2006/112/EC of Tax Code of the Republic                    of   3   Almost approximated.
                                28 November 2006 on the common Azerbaijan (Articles 153-195)
                                system of value added tax                                                             The Azerbaijani law could be supplemented with
                                                                                                                      provision that VAT invoices may be sent and
                                                                                                                      stored by electronic means (e-invoice), taking into
                                                                                                                      account the adoption of a new Azerbaijani law On
                                                                                                                      Digital Signature and Digital Document and
                                                                                                                      future initiative relating to eGovernment.




16
     According to Article 179 of the Tax Code, tax refund process can take up to 45 days.

                                                                                                                                                                  19
             2)                Council Directive 2006/112/EC of Tax Code of the Republic                         of   2   Not fully approximated
                               28 November 2006 on the common Azerbaijan (Articles 153-195)
                               system of value added tax                                                                  Azerbaijani tax law does not contain such concept
                                                                                                                          as the “reduced VAT tax rate”.

                                                                                                                          The corresponding state body may evaluate the
                                                                                                                          relevant experience of the EU and adopt the
                                                                                                                          reduced VAT rate for certain types of labour-
                                                                                                                          intensive services or supply of goods, including
                                                                                                                          tourism and hospitality sectors if it finds such
                                                                                                                          approach economically grounded.


                                                                                                 Excise Taxes
                               Tobacco                                  Tax Code of the Republic                 of   2   Not fully approximated
                                                                        Azerbaijan (Articles 153-195)
                               Council Directive 92/12/EEC of 25                                                          Azerbaijani law applies excise taxes to alcohol
                               February 1992 on the general             Resolution No 20 of January 19, 2001              and alcoholic beverages, including beer; tobacco
                               arrangements for products subject to     of the Cabinet of Ministers of the                and mineral oils. The main discrepancy with the
                               excise duty and on the hooding,          Republic of Azerbaijan On Rates of                EU Directive is different tax rates applied to some
                               movement and monitoring of such          Excise Taxes Applied to Goods                     kinds of locally produced and imported goods.
                               products                                 Imported to the Republic of                       Moreover, the Azerbaijani law has no concept of
                                                                        Azerbaijan                                        tax warehouse, but only the customs one17.
                               Council Directive 2002/10/EC of
                               12 February 2002 amending                                                                  It is recommended to introduce a uniform rate to
                               Directives 92/79/EEC, 92/80/EEC                                                            both types of excisable goods; the corresponding
                               and 95/59/EC as regards the                                                                state agency can also consider a necessity to
                               structure and rates of excise duty                                                         introduce the concept of a tax warehouse to
                               applied on manufactured tobacco                                                            Azerbaijani tax law.




17
     More about differences between tax and customs warehouses can be found in our separate Report On Customs.

                                                                                                                                                                      20
                            Council Directive 92/79/EEC of 19 Tax Code of the Republic of                           3      Almost approximated.
                            October 1992 on the approximation Azerbaijan (Articles 153-195)
                            of taxes on cigarettes                                                                         Azerbaijani tax law imposes percentage based (ad
                                                              Resolution No 20 of January 19, 2001                         valorem) excise rate on locally produced tobacco
                                                              of the Cabinet of Ministers of the                           products i.e. 12,5% on wholesale market price).
                                                              Republic of Azerbaijan On Rates of                           The excise rate for imported tobacco products is
                                                              Excise Taxes Applied to Goods                                specific i.e. 1.8 USD per 1000 units. It is
                                                              Imported to the Republic of                                  recommended that specific excise rate be also
                                                              Azerbaijan                                                   applied in respect of locally produced tobacco
                                                                                                                           products to eliminate a possible discrimination
                                                                                                                           against imported products.

                                                                                                                           It is a laudable fact that Azerbaijan joined the
                                                                                                                           International   Convention    on     Harmonised
                                                                                                                           Commodity Description and Coding System on
                                                                                                                           07.07.2000, because now the classification of
                                                                                                                           excisable products complies with the wording of
                                                                                                                           the EU Combined Nomenclature18.

                            Council Directive 92/80/EEC of 19 Tax Code of the Republic of                           3      Almost approximated.
                            October 1992 on the approximation Azerbaijan (Articles 153-195)
                            of taxes on manufactured tobacco                                                               Azerbaijani tax law does not distinguish tobacco
                            other than cigarettes              Resolution No 20 of January 19, 2001                        products for tax purposes as provided by the EU
                                                               of the Cabinet of Ministers of the                          Directives19. Therefore, such imported tobacco
                            Council Directive 95/59/EC of 27 Republic of Azerbaijan On Rates of                            products will be subject to the above-mentioned
                            November 1995 on taxes other than Excise Taxes Applied to Goods                                excise duty.
                            turnover taxes which affect the Imported to the Republic of                                    A differential system of tobacco products used by
                            consumption       of  manufactured Azerbaijan                                                  the EU law may be considered by Azerbaijani
                            tobacco                                                                                        Government, if it finds economically grounded to
                                                                                                                           introduce it in Azerbaijan.




18
  See Council Regulation 2658/87 (The Combined Nomenclature (CN) is the 8 digit trade classification system, used by the European Union for statistical and tariff purposes).
19
  At the same time, the Resolution No 80 of April 12, 2001 of the Cabinet of Ministers of the Republic of Azerbaijan On Rates of Import Customs Duties for Goods Brought in
Azerbaijan provides for different import customs rates for tobacco products depending on their blend and type.

                                                                                                                                                                          21
Alcohol                              Tax Code of the Republic            of   2   Not fully approximated.
                                     Azerbaijan (Articles 153-195)
Council Directive 92/83/EEC of 19                                                 a) According to Azerbaijani law, a beer is subject
October 1992 on the harmonisation Resolution No 20 of January 19, 2001            to excise tax per litre; however rates for locally
of the structures of excise duties on of the Cabinet of Ministers of the          produced and imported beer differ substantially.
alcohol and alcoholic beverages       Republic of Azerbaijan On Rates of
                                      Excise Taxes Applied to Goods               b) Azerbaijani law differentiates excise rates for
                                      Imported to the Republic of                 domestically produced wines depending on their
                                      Azerbaijan                                  quality: there are different rates for still wines,
                                                                                  champagnes and cognacs. There are also different
                                                                                  excise rates for local and imported wine products.

                                                                                  c) There is also a difference between excise rates
                                                                                  for local and imported ethyl alcohol and vodka.

                                                                                  It is recommended to harmonise the above
                                                                                  mentioned rates for imported and local goods.
Council Directive 92/84/EEC of 19 Tax Code of the Republic of                 3   Almost approximated.
October 1992 on the approximation Azerbaijan (Articles 153-195)
of the rates of excise duty on alcohol                                            Azerbaijani tax law determines the excise rates
and alcoholic beverages                Resolution No 20 of January 19, 2001       per litre for alcohol and alcoholic beverages,
                                       of the Cabinet of Ministers of the         wines, cognacs, etc.
                                       Republic of Azerbaijan On Rates of
                                       Excise Taxes Applied to Goods              It is recommended to harmonise the excise rates
                                       Imported to the Republic of                for locally produced and imported alcoholic
                                       Azerbaijan                                 beverages.




                                                                                                                              22
                             Mineral Oils                                Tax Code of the Republic                of      2      Not fully approximated.
                                                                         Azerbaijan (Articles 153-195)
                             Council Directive 2003/96/EC of                                                                    According to Azerbaijani law, the excise rates for
                             27 October 2003 restructuring the           Resolution No 20 of January 19, 2001                   both locally produced and imported mineral oil is
                             Community framework for the                 of the Cabinet of Ministers of the                     determined by the Government. However, the
                             taxation of energy products and             Republic of Azerbaijan On Rates of                     law lacks the principle that energy products shall
                             electricity                                 Excise Taxes Applied to Goods                          be taxed only when used as fuel or for heating,
                                                                         Imported to the Republic of                            which is established in the EU Directive.
                                                                         Azerbaijan                                             Therefore, in Azerbaijan the excise tax is levied
                                                                                                                                on such materials as local bitumen or imported
                                                                         Resolution No 165 of November 1,                       asphalt.
                                                                         2004 of the Cabinet of Ministers of the
                                                                         Republic of Azerbaijan On Regulation                   Moreover, the EU law allows Member States to
                                                                         of Prices for Mineral Oil within the                   exempt from tax energy products used for
                                                                         Republic of Azerbaijan                                 maritime transport within Community waters, in
                                                                                                                                carriage of goods and passengers by rail (metro,
                                                                         Resolution No. 1 of January 6, 2007                    tram and trolleybus), air navigation (excluding
                                                                         of the Cabinet of Ministers of the                     private pleasure flying), energy used for
                                                                         Republic of Azerbaijan On Change of                    producing the electricity and so on.
                                                                         Current Excise Rates for Mineral Oil
                                                                                                                                Thirdly, there is no tax technique to promote a use
                                                                         Resolution No. 1 of January 6, 2007                    of environmentally friendly energy products
                                                                         of the Tariff Council of the Republic                  (unleaded fuel, biofuel, fuel from renewable
                                                                         of Azerbaijan On Regulation of Prices                  resources) in Azerbaijan.
                                                                         for Mineral Oil within the Republic of
                                                                         Azerbaijan                                             It is recommended to amendment the Azerbaijani
                                                                                                                                tax law in order to address these shortcomings,
                                                                                                                                especially encouraging the use of the
                                                                                                                                environmentally friendly fuel20.


20
   It should be noted that Azerbaijan joined the Kyoto Protocol on 28.09.2000 (see http://unfccc.int/files/essential_background/kyoto_protocol/application/pdf/kpstats.pdf;
http://unfccc.int/parties_and_observers/parties/items/2155.php ). The 1997 Kyoto significantly strengthens the Convention (United Nations Framework Convention on Climate
Change) by committing Annex I Parties to individual, legally-binding targets to limit or reduce their greenhouse gas emissions. Only Parties to the Convention that have also
become Parties to the Protocol, however (that is, by ratifying, accepting, approving, or acceding to it), will be bound by the Protocol’s commitments, once it comes into force. The
individual targets for Annex I Parties are listed in the Kyoto Protocol’s Annex B. These add up to a total cut in greenhouse-gas emissions of at least 5% from 1990 levels in the
commitment period 2008-2012. Azerbaijan is placed in Non-Annex I Parties, which consists of mostly developing countries. Certain groups of developing countries are recognized
by the Convention as being especially vulnerable to the adverse impacts of climate change, including countries with low-lying coastal areas and those prone to desertification
and drought. Others (such as countries that rely heavily on income from fossil fuel production and commerce) feel more vulnerable to the potential economic impacts of climate
change response measures. The Convention emphasizes activities that promise to answer the special needs and concerns of these vulnerable countries, such as investment, insurance
and technology transfer.

                                                                                                                                                                                 23

								
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