“Council of Defence Industry” calls for further revisions of the Defence City concept

The NGO “Council of Defence Industry” has published an overview of the concept for the special legal regime Defence City, initiated by the government to support defence industry enterprises. In general, the community supports the introduction of benefits and the simplification of procedures that will facilitate the development of production. However, the published information about the project contains several critical elements that may create obstacles for market participants.

What is Defence City

Defence City is a new government initiative intended to become a tool to stimulate the development of the Ukrainian defence industry. It involves the creation of a separate legal regime for resident enterprises working in the field of development, production or modernisation of defence products. Resident status will provide tax, customs and regulatory benefits, as well as open up opportunities for targeted financing.

Key changes include the abolition of income tax on reinvestment, reduction of other fiscal burdens, protection of sensitive information about manufacturers, and a ban on dividend payments to private shareholders for companies benefiting from the incentives. At the same time, it is proposed to allow state-owned enterprises to transfer dividends to the state.

Defence City is proposed to be implemented by 1 January 2036 through amendments to a number of codes and laws. A key element is the formation of a list of residents – enterprises that will be able to receive the benefits provided. It is expected that this will include around 100 large companies, mainly from the field of arms and equipment production.

Components for further development

The main criticisms concern the excessive narrowing of the circle of participants. The Council of Defence Industry proposes lowering the mandatory threshold for defence revenue from 90% to 80%, taking dual-use products into account, and applying financial criteria to the previous four quarters rather than the calendar year.

Another concern is mandatory relocation. The ‘Council’ insists that such a decision should be voluntary. In the event of a voluntary relocation by a manufacturer, part of the personal income tax should remain with the local community, and the community should be exempt from the reverse subsidy to the state budget.

The current version of the draft law does not contain a mechanism for voluntary exit from the regime. It is proposed to introduce such a procedure and to guarantee that, provided the requirements are met, the resident will not be required to pay taxes and fines retrospectively.

Another risk is the ban on paying dividends to private investors. The Council emphasises that such a provision would reduce the investment attractiveness of the sector. Companies should be given a choice: either benefits, subject to reinvestment, or taxation with the right to pay dividends.

The proposed licence fee for exporting products also raises concerns. This would create discriminatory conditions for residents of Defence City, so it is proposed to cancel this fee or at least limit it to the duration of martial law.

The professional community calls for the creation of a working group with the participation of manufacturers and specialised associations to finalise the legislative package through an open dialogue.