Economic Substance Law | Legislation & Regulations

Appleby experts can assist you to consider and assess the impact of these regulations in your applicable jurisdiction and will be able to guide you through the questions set out below.

What is the Background to the Economic Substance Regulations?

The Council of the EU adopted a resolution on a Code of Conduct for business taxation, the aim of which was counteracting the effects of zero tax and preferential tax regimes around the world.

In 2017 the Code of Conduct Group (Code Group) investigated the tax policies of both EU member states and third countries, assessing:

tax transparency;
fair taxation; and
implementation of anti–BEPS measures (The OECD’s project on Base Erosion and Profit Shifting).

Following assessment by the Code Group, each non-EU relevant jurisdiction (which includes Bermuda, the British Virgin Islands, the Cayman Islands, Guernsey, Isle of Man and Jersey) was required to address the Code Group’s concerns about ‘economic substance’.

The governments in each of these jurisdictions worked closely with the Code Group to ensure that those concerns were adequately addressed. As a result of this engagement, new laws and regulations were adopted in each jurisdiction (Substance Regulations).

Which entities are subject to the Substance Regulations?

The precise scope of the Substance Regulations varies somewhat from jurisdiction to jurisdiction. As a first step, clients should take an inventory of all their entities in the affected jurisdictions and make note of the type of company, LLC or partnership and how they are taxed. Appleby can then give specific advice on whether or not the Substance Regulations will apply.

Are your In-Scope Entities conducting a Relevant Activity?

While all relevant entities will be required to make a filing setting out particulars relating to their business, an in-scope entity will only be required to meet the economic substance test if it carries on a “relevant activity”. The relevant activities in each jurisdiction are:

banking;
insurance;
fund management;
financing and leasing;
headquarters;
shipping;
distribution and service centres;
holding entity; and
intellectual property.

What are the Economic Substance requirements?

An entity (other than a holding entity, and entities that conduct intellectual property business, for which there are different criteria) conducting a relevant activity will satisfy the economic substance requirements if:

it is managed and directed in the jurisdiction;
core income generating activities (CIGA) are undertaken in the jurisdiction in relation to the relevant activity;
it maintains adequate physical premises in the jurisdiction;
there are adequate employees in the jurisdiction with suitable qualifications;
there is adequate expenditure incurred in the jurisdiction in relation to the relevant activity; and
it files a confidential economic substance report each year with the applicable authority in its jurisdiction which will assist the authority in assessing compliance.

The Substance Regulations also set out the circumstances where the above activities may be outsourced.