Russian paper details business interests of defence minister’s associates

Vedomosti

Article by Roman Shleynov, Dmitriy Kazmin, Filipp Sterkin, and Aleksey Nikolskiy: “He Is a Machine, Not a Person”

There have been surprising twists and turns in Minister of Defense Anatoliy Serdyukov’s life. He came from retailing to impose order in the tax service and from a civilian finance job to reform the army. Generals complain that he taunts them as little green men.

Zubkov’s son-in-law

When Serdyukov came to the Petersburg Tax Inspectorate in 2000 he was already an established furniture retailer. After graduating from the Accountancy and Economics Faculty at the Leningrad Institute of Soviet Trade in 1984 Serdyukov went into the army. He served as a conscript in the 85th Motorized Infantry Division Communications Battalion in Novosibirsk. At that time, conscripts with higher education were offered the chance to enroll on a reserve lieutenant training course after nine months. After serving for 18 months they would be discharged with an officer’s rank. This was also the path that Serdyukov chose, a former officer in the Defense Ministry central apparatus says, clarifying that in the event of a war Serdyukov would have been eligible to be drafted to serve as a regimental military commissary chief.

But Serdyukov became a strictly peacetime retailer — after leaving the army he went to work for the No. 3 Lenmebeltorg furniture store in Petersburg. It was within the Lenmebeltorg system that he rose from assistant accountant to become director and joint owner of the Petersburg industrial trading company Mebel-market formed on the basis of Lenmebeltorg.

A possible contributory factor to Serdyukov’s transition to state service was his marriage. In 2000 he married Yuliya Pokhlebenina — the daughter of Viktor Zubkov. Zubkov was a party official during Soviet times, he became Vladimir Putin’s deputy in the Petersburg Mayor’s Office in 1990, and he then moved to the tax service – by 1999 he had risen to become deputy minister for taxes and levies while retaining the post of head of the Tax Service’s Petersburg Office.

After becoming a member of the Zubkov family, in 2000 Serdyukov went to work as deputy head of the No. 1 Interrayon Inspectorate for St. Petersburg (dealing with the biggest taxpayers). In May 2001 he was appointed as his father-in-law’s deputy in the Petersburg Office, and in November 2001, when Zubkov became first deputy minister of finance, he took over his job, becoming head of the St. Petersburg Office.

“A very decent, regular guy,” is how former St. Petersburg Deputy Governor Aleksandr Vakhmistrov describes Serdyukov. “I have known him since the time . he was head of the Petersburg Tax Inspectorate. He created a good tax administration system. He took care of the tax inspectorate’s material requirements and pushed for tax services to be located in accessible premises so that it would be convenient for clients.

“This reduced the waiting lines in the tax inspectorate. And on the whole the Petersburg Government was satisfied with his work.”

In February 2004, on the eve of the elections, Putin reshuffled the government and in the March a “Petersburg comrade” became acting minister for taxes and levies: This was Serdyukov, who was then confirmed as the leader of the Federal Tax Service, which had been deprived of its ministerial status (Zubkov became head of Rosfinmonitoring [Federal Service for Financial Monitoring]). “Without Zubkov this would never have happened,” a Tax Police general feels. “Serdyukov was low-profile, whereas Zubkov was convivial and knew how to take his vodka.”

Chief tax official

Serdyukov’s first project was the YUKOS affair. In April 2004 tax officials started to present the company with claims that built up within a year to $27.5 billion. “Serdyukov justified Putin’s confidence during the YUKOS saga and showed himself to be a loyal leader,” a former tax officials feels.

Serdyukov was not the manager in charge of the YUKOS affair – the tax trial was handled by Anton Ustinov, chief of the Tax Servi ce Legal Department, who reported directly to Igor Sechin, deputy chief of the Presidential Staff (Ustinov still works for him even now). “Ustinov was clearly told that his boss (Serdyukov) would not interfere,” former YUKOS chief lawyer Dmitriy Gololobov contends. “Sechin clearly coordinated all of this from on high, issued instructions, ensured that nobody interfered, and coordinated all of this with Putin personally. There were no superfluous links here. What was Serdyukov’s role? He gave everybody who came to him to negotiate about the YUKOS case the message that: This cannot be done, that cannot be done, this is not lawful. But it is possible that all of this fitted in with his views, his understanding of the situation.”

“The tax minister before Serdyukov was Gennadiy Bukayev. Admittedly he also carried out orders, but it was possible to have a conversation with him about some things,” Aleksandr Temerko, YUKOS deputy CEO, recalls. “And then Serdyukov came along and sorted everything out literally within three-four weeks. The man’s mindset was definitely: ‘I have been set a task and will carry it out totally uncritically.’ Everybody else at least showed some emotion — prosecutors Ustinov and Biryukov, even the investigator…. Whereas Serdyukov acted without emotion, in an organized and consistent manner. He is not a man but a machine. We tried to talk to him about a tax deferment. We asked why he had had all the accounts frozen. Because of this, we could not settle up with anybody. I believe that Serdyukov was involved in creating the situation that led to the company’s bankruptcy.”

The YUKOS affair set the tone not only in politics but also in tax administration: The state’s attitude toward “schemes” changed. Whereas previously entrepreneurs would tell tax officials how much they would pay into the budget, under Serdyukov the sides change places. Companies — from small businesses to the biggest — had to abandon popular and totally primitive optimization methods. Administrative pressure on the business community intensified sharply — often even legal behavior would be declared to be unscrupulous and additional taxes would be levied on, for example, a fly-by-night operation that showed up in a business network. Methods for extracting taxes using administrative methods became the norm. Companies were compelled by special panels to crank up salaries and subsequently profits too. For the sake of checking whether a firm was not a fly-by-night operation tax officials would block the accounts of all firms on the books in alphabetical order. In this way they wished to compel the firm’s director to personally visit the inspectorate.”

Serdyukov also imposed order in the area of reclaiming taxes. In the 2000s schemes for obtaining money out of thin air (or rather on fictitious grounds from the budget) had already become a totally established business, a tax police general says: “It was impossible to totally eliminate this, but nobody actually had any control over this area; it needed some kind of regularization and it needed to be put on the right track. Serdyukov was able to do this job.”

There are two main schemes for manufacturing money out of thin air, tax officials and consultants say. Value-added tax can be reclaimed by demonstrating, for example, that a product (in this case a nonexistent product) has not been sold and is lying in a warehouse. Whereas profits tax can be reclaimed by suing a firm for a large sum of money on fabricated grounds, for example, and thereby demonstrating that you made a loss. Both schemes are mainly operated in Moscow — there is a bigger turnover here and it is easier to conceal such operations, which is why companies from other regions specially reregister in the city.

Formally the decision is made by the inspectorate head. But repayments in excess of 5 million rubles have to obtain approval from a special commission in the Federal Tax Service Adm inistration for Moscow. In the 2004 this administration was headed by Nadezhda Sinikova, a long-standing colleague of Serdyukov’s: She had been his deputy in St. Petersburg and now heads up Rosoboronpostavka [Federal Agency for Supplies of Weaponry, Military and Specialist Equipment, and Materiel] in the Defense Ministry system. The repayment of sums in excess of 100 million rubles had to be checked in the Federal Tax Service’s central apparatus. The result was a situation where the decision would be made at the top but the inspectorate chief would be answerable for it before the law. So inspectorate officials also dreamed up ways to relieve themselves of this responsibility. A large proportion of value-added tax machinations could be uncovered simply by checking the warehouse where the product is allegedly being stored. Theoretically tax officials can even do this themselves, but they prefer to negotiate with MVD [Ministry of Internal Affairs] officials, who formally have nothing to do with tax repayments. The police say whether or not the product exists, and the tax officials take their word for it. If tax has been paid to the budget, the product is in the right place (according to police officers), and the firm has conducted real activity (that is, was not created a few days beforehand), the inspectorate has every reason to repay the tax.

Novaya Gazeta recently described how the value-added tax repayments scheme operates, although its investigation admittedly applies to the period when Serdyukov was already minister of defense. The newspaper discovered 20 firms that had reclaimed more 11 billion rubles in value-added tax in 2009-2010, although only cases of repayments in excess of 100 million rubles were analyzed. Sergey Vasilenko, former head of the Federal Tax Service Department for Prevention of Law Violations, explained that all of these firms reclaimed tax in accordance with a “residual inventory” scheme — if a product has not been sold during an accounting period a firm is entitled to reclaim the value-added tax that it paid when purchasing it. The firms had a workforce of two or three people but turnover was as high as several billion rubles, but only within the accounting period required for reclaiming the value-added tax. All of these firms were allegedly leasing the same warehouse where the products were ostensibly stored. All the repayments were made by Moscow Inspectorates 25 and 28.

The way that the scheme for reclaiming profits tax operates has been described for several years now by the Hermitage Fund, which believes that it was robbed of several firms that subsequently lost lawsuits seeking compensation for loss of profits and, having recorded a loss, demanded the repayment of 5.4 billion rubles. In December 2007 the same inspectorates as in the previous case — Inspectorates 25 and 28 — adopted a decision to make the repayment with lightning speed — on one day. Hermitage feels that the lawyer Sergey Magnitsky was tortured in prison precisely because he tried to prevent this scheme being carried out. According to the fund’s figures, the same inspectorates also repaid at least 2.9 billion rubles in profits tax on the basis of the same scheme in 2006- 2007.

“Serdyukov created a system replicating the Central Bank one — that is, all repayments made by district inspectorates could be tracked on line and the delete button could be pressed at any moment,” a former tax official says. “Systematization and centralization mean at least supervision and a clear picture of what is happening,” a former high-ranking official contends. “Whereas previously it was impossible to understand anything at all in the chaotic repayments systems, the process has now been regularized. Serdyukov takes the credit for that.”

After Serdyukov was appointed minister of defense in February 2007 he de facto continued to be in charge of the Federal Tax Service for several more years (right up until new chief Mikhail Mishustin arrive d in April 2010). Serdyukov constantly visited the tax service, his former colleagues recall, and issued instructions to the members of his team still working there — acting Federal Tax Service Chief Mikhail Mokretsov; his deputy Sinikova, who was in charge of the value-added tax repayments scheme; and Tatyana Shevtsova, who was in charge of the interregional inspectorates for the biggest taxpayers. Serdyukov wanted to see Sinikova as his successor, but in the end the job went to a protege of then Finance Minister Aleksey Kudrin — Mikhail Mishustin. But Sinikova and Shevtsova moved to the Defense Ministry.

Military reformer

Serdyukov’s appointment as minister of defense in February 2007 came as a surprise. Putin’s decision can be attributed to the fact that Serdyukov had proved his ability to control enormous money streams during his time serving with the Federal Tax Service, an official and a former officer in the Defense Ministry central apparatus say. Putin stressed that Serdyukov had experience of working in the sphere of economics and finance and that it was necessary to control the “enormous budget funds” allocated for modernizing the Armed Forces.

But it was not only a question of supervision — the increase in military expenditure was only part of the military reform that Serdyukov had to implement. He demonstrated the new management style literally within a month of being appointed — in March 2007, when he began his familiarization with the Nakhimov College in Petersburg with an inspection of a backyard garbage heap and outbuildings and then demanded financial documentation.

Serdyukov began to dismiss his deputies, the commanders of arms of service and categories of troops, and the chiefs of Defense Ministry directorates literally within a few months of his arrival. A key personnel decision was the appointment of General Nikolay Makarov as chief of the General Staff in June 2008. Now Makarov makes decisions about the organizational development of the Armed Forces while Serdyukov makes the political and economic decisions.

The reform actually began after the war in South Ossetia. Although the Russian army demolished the Georgian military machine in five days in August 2008, the war uncovered many shortcomings in the organization and provisioning of the troops. A year later Serdyukov recalled how logistics officers had proposed that additional good-quality food and hygiene projects should be purchased and sent to the troops and he had agreed but then, when he checked, he found that absolutely nothing had gotten to the troops.

In October 2008 Serdyukov announced the start of a transition to a “new configuration” at the Armed Forces. Within three years the Russian army ceased to be a shrunken copy of the Soviet army: Mass mobilization for a big war is no longer envisioned, a Defense Ministry officer says. The numerical strength of the wartime army has been set at 1.7 million as against 5 million in 2008, and the skeleton-strength units eligible to be deployed during a mobilization have basically been closed down. This has made the Russian army more similar to the armies of NATO countries and most others. In 2008-2010 the number of officers was reduced from 350,000 to 150,000 (admittedly a decision was adopted in 2011 to increase this number to 220,000), more than 1,000 skeleton-strength units and storage depots were closed down, 24 Ground Troops divisions were reconstituted as approximately 90 brigades, 72 air regiments and 14 air bases were reconstituted as 7 first-category and 7 second-category airbases, and the number of military training institutions was reduced from 65 to 10.

Apart from the military logic, financial logic was also a factor here: Officers are entitled to various benefits that the state is often incapable of providing (for example, the waiting list for housing, despite Putin’s promise to eliminate it, still exists to this day — Serdyukov recently requested an additional 272 billion ruble s through 2014 to solve the problem; Kommersant wrote about this). NCOs cost the state less money than officers and so officers need to be cut, with part of their work been transferred to NCOs (and thus the same number of colleges is not needed).

The selling off of non-core Defense Ministry real estate, the outsourcing of provisioning, and the reform of arms purchases are part of the same financial logic.

In 2000-2008 the Russian Federal Property Fund sold off military real estate worth 1.4 billion rubles. In November 2008 this matter was transferred to the Defense Ministry, for which purpose the Department of Property Relations, which began work in April 2009, was created there. And the Defense Ministry sold off real estate worth more than 1.5 billion rubles in 2009, 4.4 billion rubles in 2010, and 5 billion rubles in 2011.

Under Serdyukov, purchases of weaponry, housing, and materiel have been removed from military control; they are handled by Defense Ministry structures staffed by civilians. They are headed up by Serdyukov associates from the Federal Tax Service. Sinikova became head of Rosoboronpostavka in 2010 and Shevtsova was appointed deputy minister of defense for financial and economic matters. Former Federal Tax Service official Sergey Khursevich, became head of the Oboronservis open joint-stock company, to which all Defense Ministry structures engaged in maintenance, construction, and provision of services for the troops have been transferred. All of this has radically transformed the department’s central apparatus, which has been cut in the process to 10,000 personnel. “Previously it was good if you could see two or three women during dinner in the ministry canteen, whereas now the problem is seeing men in uniform,” a colonel within the central apparatus comments ironically.

2001 was marked by a price war with the defense industry — the Defense Ministry delayed the conclusion of contracts for a full year trying to get prices reduced. The conflict even became public: For example, Yuriy Solomonov, general designer of the Topol M and Bulava missiles, openly opposed the Defense Ministry. But in the end most contracts were concluded on the Defense Ministry’s terms.

Rearming of the army began under Serdyukov, Konstantin Makiyenko, an expert with the Center for the Analysis of Strategies and Technologies, says. Since 2008 the Air Force has taken delivery of around 150 new aircraft and helicopters (during the 10 years before that there had been just a few). At the very end of 2010, despite the Finance Ministry’s resistance, a new state arms program through 2020 was approved at a cost of more than 20 trillion rubles. It is unlikely to be fulfilled in full, but the percentage to which it will be fulfilled will be manifestly higher than that of previous programs, Makiyenko feels.

Many military personnel look at Serdyukov’s reform without optimism. Former Defense Minister Igor Rodionov feels that Serdyukov has not carried out any kind of reform and that what he has done is a mockery. In Rodionov’s words, following the destruction of the potential for a mobilization deployment he doubts that the Russian army would be able to form even a single combat-capable brigade from scratch.

In the words of the general director of one of the enterprises belonging to Rostekhnologii, the former tax inspectorate officials who are now in charge of arms purchases have a weak grasp of the technology and understand only the financial and accounting realities. “They do not understand that without a complete test cycle, which they are refusing to pay for, a missile is only a chunk of iron; they do not understand that without purchasing spares a new aircraft is an equally useless bit of metal; and the military personnel who could have put them right have all been dismissed by Serdyukov,” a Vedomosti interlocutor complains. In his opinion, corruption in the department has not declined, it has simply acquired a more modern nature. Straight theft, when new trucks, fuel, and so forth would be sold illicitly, has been replaced by schemes to inflate prices when purchases are being made.

There is also a personal aspect to this discontent. “The minister keeps honored generals waiting for two or three hours in reception,” a source close to the Defense Ministry complains. “And on one occasion at a conference he jokingly described them as ‘little green men.'”

Serdyukov himself also dreams of swapping the Defense Ministry for another ministry — finance — several high-ranking officials told Vedomosti, and some time ago the minister of defense even had a discussion with Vladimir Putin and Dmitriy Medvedev about the possibility of obtaining the post of vice premier for finance. Admittedly, in the words of Vedomosti’s interlocutors, he failed to obtain the tandem’s consent and Serdyukov was told to see the large-scale reform of the Defense Ministry through to its logical conclusion.

The Defense Ministry would not answer Vedomosti’s questions.

Shy individuals

Yevgeniy Vechko, Serdyukov’s former Mebel-market partner (they also graduated from the Trade Institute in the same year) followed him to the Tax Inspectorate and then to the Defense Ministry system. In 2010 Vechko became head of the Voyentorg open joint-stock company, which received 21.9 billion rubles under contracts with the Defense Ministry in that same year (figures from the register of state contracts).

In 2007 the husband of Serdyukov’s sister Galina — Valeriy Puzikov — owned a 34 percent stake in the Avtokombalt firm of developers (figures from SPARK [System of Professional Analysis of Markets and Companies]). Since 2011 Avtokombalt has been owned by the LSR Group. The purchase of Avtokombalt may have cost $20 million, Sergey Fedorov, deputy director of Jones Lang LaSalle in Petersburg, says. Avtokombalt General Director Lev Vinnik staff is a member of the LSR Group Management Board and was an adviser to Defense Minister Serdyukov in 2007-2010. The LSR Group has received contracts worth 39 billion rubles from the Defense Ministry since 2009.

A partner of Puzikov’s figures among people who have bought Defense Ministry real estate. Thus, in 2010, according to the Defense Ministry website, 1.9 hectares of land in the village of Komarovo was sold at auction together with some nonresidential buildings. They were bought for 154.5 million rubles by Petr Usov, the brother of Aleksandr Usov, who had owned Avtokombalt with Puzikov in 2007.

Puzikov told Vedomosti that he is a “shy individual” and refused to comment.

Anatoliy Serdyukov, minister of defense:

“Lack of financial discipline and impunity among people, whom nobody ever checked…, has become so deep-rooted (in the Defense Ministry) that it has already become a way of thinking.”

Aleksandr Temerko, former YUKOS deputy CEO:

“Serdyukov is the ultimate functionary without any creative spark. For him the main thing is to implement the leadership’s decisions.”

Serdyukov on the Defense Ministry:

“When I came to the Defense Ministry I was frankly discouraged by the level of theft.”

Russkiy Newsweek, October 2010:

Serdyukov and the Storchak case

Anatoliy Serdyukov and his team of tax officials were involved in collecting the material utilized in 2007 to arrest Aleksey Kudrin’s “right-hand man” and deputy, Sergey Storchak, several officials from the Storchak’s and Kudrin’s entourage said. During his time as head of the Federal Tax Service and subsequently also as minister of defense, Serdyukov had a difficult relationship with Kudrin. In the words of sources from their entourage, there were many reasons for conflict: The former finance minister was not prepared to allocate as much money for the defense sector as Serdyukov was requesting, and furthermore the latter always want ed to take Kudrin’s place.

Storchak was arrested in November 2007 in his own office on suspicion of attempting to embezzle $43.4 million in budget money “on the pretext of covering costs incurred by the Sodeksim company.” Storchak was arrested one day before he was scheduled to attend a session of the G20 in South Africa together with his boss, Aleksey Kudrin.

The essence of the accusations was as follows: In the 1990s the Sodeksim company was supposed to participate in the repayment of an old Algerian debt to the USSR. Algeria was unable to pay with money but could pay with goods — wine, figs, spices, and other sundry products. And Sodeksim undertook to sell these goods in order to ensure the money was obtained. But it was supposed to pay the budget first and then sell the goods. In 1996 Sodeksim apparently transferred $26 million into the Finance Ministry’s VEB account. But the goods were never received from Algeria. And after Russia and Algeria agreed at a government level to settle everything themselves it meant that the money had to be repaid to Sodeksim. And since many years had already passed, $43.4 million now had to be repaid, allowing for interest. The Finance Ministry official who worked on settling arrangements with Sodeksim was Storchak.

The criminal case initiated on the basis of this material was investigated by the Investigations Committee Attached to the Prosecutor’s Office. The case against Storchak was dropped only in 2011.

Andrey Romashov, who was Storchak’s lawyer, said that there is no information about any involvement by Serdyukov in the case. Serdyukov’s press secretary did not respond to Vedomosti’s request for information.

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