On 5 October 2025, Law No. 4577-IX came into force, setting the basis for the launch of the incentive-based tax and legal regime Defence City. Defence City offers its future residents several tax benefits and other incentives, subject to compliance with the established criteria.
The initiative is Ukraine’s strategic response to the wartime challenges and aims to stimulate the growth of the Ukrainian military-industrial complex (MIC). The regime will be launched on the date the first resident is entered into the Defence City register and will last until 1 January 2036 (or until Ukraine’s accession to the EU).
The purpose of “Defence City” is not only to provide MIC companies with benefits but also to establish a complex environment designed to accelerate the development, production, and modernisation of military goods in Ukraine. This is expected to be achieved through economic incentives for “Defence City” residents, administrative facilitation of their activities, and enhanced security.
Tax incentives
Residents of Defence City are entitled to significant tax preferences.
In particular, the profits of Defence City residents may be exempt from income tax. This exemption is applicable if the following requirements are met simultaneously:
- Defence City resident does not accrue or pay dividends (or equivalent payments), except in cases where dividends are paid to the state budget or to state-owned enterprises and institutions;
- Defence City resident reinvests tax-exempt profits in the defined activities (upgrade of material and technical assets, R&D, innovation, etc.);
- Defence City resident is not simultaneously a resident of special Diia.City regime; and
- There are no established facts of breach by “Defence City” resident of the obligations to submit reports and/or documents (notifications) regarding transfer pricing and controlled foreign companies (CFCs).
If the tax-exempt profit is not spent by 31 December of the year following the reporting year, its unspent portion will be subject to taxation. Besides, there will be oversight of how Defence City residents spend their tax-free profits.
Further, Defence City residents are fully exempt from environmental tax and, in respect of certain real estate, from real property and land taxes.
There are no specific provisions regarding special procedures for administering or paying VAT.
Administrative facilitation
The Defence City regime has several advantages aimed at mitigating bureaucratic and administrative barriers for MIC companies:
- A special authorisation mechanism is being introduced for Defence City residents, which will significantly speed up customs clearance of goods under import (for end use), temporary admission and processing regimes;
- Defence City residents will be able to export military goods without obtaining approval from the Cabinet of Ministers of Ukraine. However, other procedures required for the export of military goods (including obtaining permission from the State Export Control Service of Ukraine) will remain in force; and
- The National Bank of Ukraine will develop a special, potentially simplified, currency supervision regime for Defence City residents.
Enhanced protection
In the context of modern warfare, protecting information about MIC companies is a matter of national security. For this reason, the Defence City regime provides for special mechanisms to protect such information, namely:
- Access to information about Defence City residents, their property and land plots will be restricted in key state registers (including the Unified State Register of Legal Entities, Individual Entrepreneurs and Public Organisations, the State Register of Real Rights to Immovable Property, and the State Land Cadastre);
- Defence City residents will be exempt from the obligation to publish financial statements along with an audit report during the period of martial law; and
- Defence City residents may register an address different from their actual place of business.
It is also announced that state authorities and local self-government bodies shall do their best efforts to facilitate relocation of Defence City residents and contribute to the security of their manufacturing facilities. The procedure for implementing these measures shall be developed by the Cabinet of Ministers of Ukraine.
Criteria for obtaining Defence City resident status
The key requirement for obtaining Defence City resident status is to receive “qualified income” (income from the sale of defence goods, works and services). Such income must account for at least 75% of total income for the previous calendar year (50% – for companies engaged in aircraft (UAVs) manufacturing).
A company cannot apply for the status of a Defence City resident if it:
- is not registered in Ukraine;
- is not a corporate income tax payer;
- is in the process of liquidation, except for reorganisation;
- has tax debts and/or debt in the payment of the single social contribution in excess of the established thresholds;
- is included in the Register of Non-Profit Institutions and Organisations;
- has breached the requirements for disclosure of information about beneficiaries;
- has connections with the russian federation or sanctioned persons (for example, if a company’s participant/beneficiary is a resident of the russian federation or is on the sanctions lists);
- is located in temporarily occupied territories; and/or
- has breached its obligations under a government contract within the last 12 months, which was confirmed by a court decision.
Applications of candidates for Defence City residency will be considered by the Ministry of Defence of Ukraine, in accordance with the procedure to be determined by the Cabinet of Ministers. Defence City residents will be required to submit an annual report to the Ministry of Defence on their compliance with the established criteria, including financial statements and an audit report.
Risks
Defence City residents may be deprived of their status if they fail to meet the established criteria or misuses their profits. In this case, the company will be required to pay all taxes for the entire period of enjoying the benefits, as well as penalties and fines. On the one hand, this rule will motivate Defence City residents to follow the established game rules; on the other hand, the onerous consequences of losing Defence City residency could demotivate businesses.
Defence City vs Diia.City
A Defence City resident may also be a resident of Diia.City, provided, however, that such a company will not be able to apply the tax benefits of the “Defence City” regime. Applying both regimes simultaneously may be practicable if a company plans to use specific instruments available to residents of Diia.City, e.g., special gig-contracts, non-competition agreements, etc.
In general, most companies will have to choose between the more favourable tax regime in Defence City, flexible legal instruments of the Diia.City regime, or a compromise combination of both regimes.
Additional guarantees
In parallel, the parliament is reviewing draft laws on additional guarantees for residents of Defence City while dealing with the law enforcement authorities. For example, draft law No. 13423-2 introduces a special procedure for pre-trial investigations involving residents of Defence City and their officials, requiring key investigative actions to be approved directly by the General Prosecutor.
Prospects and conclusions
During martial law, one of the key challenges for the Ukrainian MIC has been the relocation of production facilities abroad due to security risks and administrative barriers. The advantages of the Defence City regime could be a compelling argument for Ukrainian defence companies. This, in turn, will contribute to the preservation of technologies and skilled personnel, the creation of new jobs, and the strengthening of Ukraine’s economic stability and defence capabilities.
The introduction of the Defence City regime is a timely and necessary step that creates the basis for a breakthrough in the Ukrainian defence industry. At the same time, the success of the initiative is not guaranteed. The tax consequences of losing Defence City resident status may be a deterrent for potential candidates who are weighing the benefits and risks of the new regime. The effectiveness of Defence City will largely depend on the quality of its practical implementation, the building of trust, and real, rather than declarative, support for the Ukrainian MIC from the government.
The full-scale launch of the Defence City regime is expected after the development and adoption of relevant secondary legislation (in particular, regarding the procedure for obtaining Defence City resident status and the special currency control regime). The effectiveness and speed of this regulatory work will directly influence the moment when the first companies can enjoy the benefits of the new regime.
