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January 2007Legal Ins and Outs of Establishing and Operating a Business by Foreign Investors in Russiaby Elena V. Yushkina Types of Foreign-Business Presence in Russia and Applicable Law There are several possible choices for foreign investors to establish their presence in Russia. These include establishing newly formed Russian companies as limited liability companies (LLCs) and joint stock companies (JSCs) or subdivisions of an existing foreign company as its representative office (RO) and its branch. Along with the Civil Code of Russian Federation, which provides fundamental requirements of these legal forms (LLC, JSC, representative office, and branch), Russian corporate law governs issues of operating a legal entity in Russia. These laws include “On Limited Liability Companies,” “On Joint Stock Companies,” “Tax Code,” “On State Registration of Legal Entities and Individual Entrepreneurs,” “On Foreign Investments in Russian Federation,” “On Insolvency (Bankruptcy),” and others. Additional regulations are provided by governmental enactments, presidential orders, and regulations by other state bodies. To determine the appropriate legal way to commence business in Russia, foreign investors must consider their project goals and they must be aware of key distinctions between the types of legal entities mentioned above (LLC, JSC, RO, and branch). This article is intended to provide a general overview of legal issues regarding the entities that foreign investors who plan to establish business in Russia should keep in mind. In addition, the article will cover some legal aspects related to a wholly foreign-owned limited liability company and a representative office of a foreign company, comparing these two legal forms. These two forms are the most widely used by foreigners to establish businesses in Russia. Joint Stock Companies and Limited Liability Companies Among the various corporate forms of legal entities, corporate legislation provides for the joint stock company (JSC), which can either be open (OJSC) or closed (CJSC), and the limited liability company. There are a few significant differences between OJSC and CJSC. An open joint stock company is usually chosen by companies planning to have unlimited numbers of stockholders or large public stock offerings. A closed joint stock company limits stockholders to a maximum of 50. In addition, in open JSCs, stockholders can sell their shares without limitation, while in closed JSCs, the existing stockholders have the prevailing right of acquisition of the shares being sold. Thus, the stockholders of a closed JSC selling their shares must first offer the shares being sold to existing stockholders, who have the right of first refusal. Closed joint stock companies and limited liability companies are the most commonly used legal forms that offer limited liability in Russia. These corporate entities are most appropriate for the individual starting a company alone or with a small number of people. CJSCs and LLCs may be founded by a minimum of one and maximum of 50 stockholders (participants). However, it should be noted that a company cannot be founded by one shareholder (participant) if the sole founder is another legal entity that itself has only one shareholder (participant). Business Activities Requirements and Restrictions Both entities may perform any activity not prohibited by law. It is advisable to list all anticipated activities in a charter. Documents Required for Incorporation • Formal Application for Registration Name Requirements and Restrictions There do not appear to be any specific name requirements or restrictions, except that use of the words “Russia” and “Russian Federation” or phrases with those words requires an additional state fee. The words reflecting the company’s corporate form must appear along with the company’s name. Incorporation Procedure After concluding the foundation agreement, adopting the charter, and signing the minutes, a company must file the application for its registration accompanied by the documents specified above with the registered body. The authorized registered body is a local office of the Federal Tax Service in the area of the company’s location (hereinafter Tax Inspection). Effective January 1, 2004, the registration procedure for Russian companies is simplified by the introduction of a “one window” approach to the registration process. Tax Inspection shall complete the company’s registration within five days from the receipt of the required documents and register the company with all applicable state pension funds, and social and medical insurance funds. After this, the company should register itself with the state statistics committee. Thereafter, the company has full legal capacity and receives a document certifying its incorporation. To engage in most activities, a license under Russian law is required. In addition to the incorporation procedure described above, registration of the stock emission is required for joint stock companies. Management General meetings of stockholders (participants) is the company’s supreme body. The shareholders of a company participate in the management of the company business through a general meeting. Every stockholder (participant) has an equal right to propose its own questions for the general meeting and to vote on all issues. Generally, unless a charter provides otherwise, a shareholder (participant) has votes proportional to shareholding. In LLCs and CJSCs, a different number of votes is required for decisions made by majority votes. In an LLC, the decision can be adopted by no less than two-thirds of votes, while in a CJSC, no less than 75 percent of votes is needed. Russian law provides strict rules regarding the procedure for calling a general meeting and the decision-making procedure. Russian law also dictates issues that constitute the exclusive competence of this executive body. The sole authority of a general meeting set forth in the law cannot be reduced by a charter. The general director or president is a sole executive body of a company elected by stockholders (participants) for the term defined by the charter. A general director (president) represents the company in relation to third parties and acts without a power of attorney. She also issues powers of attorney and concludes contracts, agreements, and transactions on behalf of the company. The sole executive body approves a personnel structure, issues orders, and gives instructions, which are binding for all company employees. A general director is responsible for day-to-day management and liable for a company’s failure to pay taxes, fictive bankruptcy, and other illegal acts. A general director (president) is, in certain circumstances, subject to administrative and criminal sanctions. In addition to the said executive bodies, the law provides for the existence of the following optional executive bodies that may be fixed in the charter: the collective executive body — executive committee; the company supervising body — board of directors; and the company controlling body — auditor. In general, forming optional bodies may be reasonable for a company with a large number of participants in order to maintain better control. Capital Requirements In an LLC, capital is divided into quotes (similar to shares), and in a joint stock company, authorized capital is divided into shares, which are considered securities. Minimum capital The registered capital of CJSC and LLC must not be less than 100 times the monthly minimum wage. For open joint stock companies, the required minimum capital is 1,000 times the monthly minimum wage. For a limited liability company, at least half of the registered capital must be contributed prior to registration. For a joint stock company, 50 percent of capital must be paid within three months from the date of state registration. For both corporate entities, the capital must be fully paid within one year of the registration of the companies. Payment for shares The share capital may be paid in cash or by contributions in kind if the value of these contributions has been verified by the company’s general meeting of stockholders (participants). If the value of such non-monetary contributions is higher than approximately $700, then an independent appraisal is required. Alienation of shares Unless a charter provides otherwise, CJSC stockholders and LLC shareholders may transfer their stock and quotes respectively without limitation. However, the other existing stockholders (participants), and a company itself, if provided by a charter, have the right of first refusal to purchase the share being sold. Withdrawal LLC participants have the right to withdraw from the company at any time without the consent of the other participants. The share of the withdrawing participant must be returned to the company. JSC stockholders may dispose of stocks at their own discretion, including sale of stock to a third party. In a JSC, the stockholder cannot be expelled from the company. Russian law provides for LLC participants holding more than 10 percent of the company’s capital a chance to exclude, under specific circumstances, another participant through a court order. Taxation CJSCs are subject to the same taxes and same rates as LLCs, such as income tax, value-added tax, Social Security taxes, property taxes, transportation taxes, and other applicable taxes. In addition to corporate taxes, dividends and profit shares are taxed as part of stockholders’ (participants’) income. American investors will be subject to either U.S. taxation or Russian taxation, according to the treaty between the Russian Federation and the United States of America, to avoid double taxation and prevent fiscal evasion with respect to taxes on income and capital. Civil Liability of Shareholders For both corporate entities, shareholders are not liable for debts or obligations related to operations of the business and bear the risk of losses to the extent of their investments in the corporation. In a JSC, stockholders’ liability is limited to the nominal value of their shares. In an LLC, participants are liable to the extent of their contributions in a charter capital. CJSC or LLC? Although a closed joint stock company and a limited liability company are similar in many instances, the main differences between them pertain to the formation of authorized capital, decision-making procedures, shareholders’ liability, and withdrawal requirements. The regulations provided to a CJSC make it best suited to investors planning to enter a joint venture with a number of Russian partners, while a limited liability company is likely to better suit a sole founder setting up a company with 100 percent foreign ownership. Branches and Representative Offices A foreign company can establish its presence in Russia by opening a branch or a representative office. Under Russian law, branches and representative offices are not independent legal entities, but subdivisions of a foreign company. Branches and ROs are permitted to exercise and defend interests of a foreign company in Russia. Acting on behalf of a foreign company, representative offices and branches can negotiate, market, and provide other business support to the foreign company. Representative offices are not allowed to undertake any commercial activity and generate profit on their operations in Russia. However, branches may conduct business in Russia in the name of the foreign company. The foreign company is liable for all activities carried by its branch or representative office in Russia. Management Both the RO and branch are managed by an executive body (a head of the RO or branch) appointed by the foreign company. The executive body is authorized to act for and on behalf of the foreign company pursuant to the power of attorney. Accreditation Procedure To open a representative office or branch, it must be accredited with the State Registration Chamber and entered into the Summary State Register. The certificate issued by the chamber serves as an official document confirming such registration. Besides the accreditation with the State Registration Chamber, the following must be completed: • The local office of the Federal Tax Service (Tax Inspection) Documents Required for Accreditation • Application Taxation According to the Russian Tax Code, there is no distinction between a branch and a Russian LLC in terms of tax compliance. A representative office is required to submit reports on its activities and possible income every quarter and it is subject to payroll taxes, retirement taxes, road taxes, Social Security taxes, and other taxes provided by the Russian Tax Code. State Accreditation Fee For a representative office, the fee may vary from $1,000 for a one-year accreditation to $2,500 for a three-year accreditation. There is a 60,000 ruble (approximately $2,100) flat fee for the accreditation of a branch in Russia. Foreign Personnel After the accreditation, a representative office and branch receive employment permits. Afterwards, every foreign employee, even one who has a personal accreditation card, must also obtain a personal work permit. Comparison of establishing a business in Russia as a representative office or as a limited liability company wholly owned by a foreign investor
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