Increased economic substance requirements in tax haven countries

Tax havens requiring businesses to demonstrate economic substance

A number of tax haven countries such as the Cayman Islands, British Virgin Islands and Bermuda introduced requirements to ensure that companies incorporated in these countries maintain an increased level of substance. The purpose is to ensure that companies set up in these countries have a level of substantive operations. 

These new laws were implemented to ensure that they meet their commitments to the European Union (EU) as well as their obligations as Inclusive Framework members under the OECD’s global Base Erosion and Profit Shifting (BEPS) initiatives.

The law is potentially a game changer for groups operating in Asia, especially with respect to their approach in using, managing and operating Cayman companies going forward.  This is because the new law requires all companies that fall within the regime (these are referred to as ‘Relevant Entities’ carrying on ‘Relevant Activities’) to maintain a level of operational substance that is effectively commensurate with the income generating activities of that company.  

In order to demonstrate economic substance, a company should carry on (1) relevant business activities that are directed and managed in the tax haven countries, (2) have adequate expenditures incurred, and employees employed in the tax haven countries, and (3) have core income generating activities carried on in the tax havens in respect of relevant business activities.

Generally, under the economic substance requirements, companies that are resident of tax havens are required to disclose the above information through their annual reports. Failure to comply with the new laws could result in financial penalties and/or criminal and financial sanctions.

Singapore as an alternative

With the increased scrutiny on tax havens, Singapore is a good alternative for corporations to set up holding companies. Singapore has the lowest corporate tax rate of 17% in the region, with possibility of reducing it further if certain business activities qualifying under a wide array of tax incentives are conducted in Singapore, has no capital gains tax, has an attractive offshore income exemption regime (subject to conditions), has a wide tax treaty network with almost 100 countries, strong financial infrastructure and a highly educated workforce.

How Mazars can help

Mazars can advise foreign businesses looking to structure investments and holding companies into or through Singapore and the region efficiently, on funding and capital repatriation strategies, explore the application of various tax incentives, on tax compliance and filing requirements, acquire new businesses or set up new companies.