Bermuda's Economic Substance Act 2018 (ESA) and Economic Substance Regulations 2018 (ESR) came into operation on 31 December 2018. The ESA was enacted in response to guidance published by the European Code of Conduct Group (Business Taxation) (COCG) regarding the manner in which the COCG will assess Bermuda's compliance with the "economic substance" element of its "fair taxation" criteria.
In June 2019, Bermuda's Minister of Finance (Minister) published draft guidance notes: (i) to assist entities registered in Bermuda to determine if they are within scope of the economic substance requirements under the ESA and, if so, how to satisfy them; and (ii) to provide guidance as to how the Registrar of Companies (Registrar) will measure and assess the criteria for meeting the requirements.
This memorandum is tailored for members of the Bermuda insurance industry and is designed to assist them in understanding the requirements of the ESA.
1 REGISTERED INSURANCE ENTITIES FALL WITHIN THE SCOPE OF THE ESA
The ESA applies to companies, limited liability companies and partnerships registered in Bermuda and overseas permit companies (Registered Entities) that carry on a "relevant activity". Carrying on insurance as a business is a relevant activity. "Insurance" is amplified in the ESR as comprising "business for which registration is required in accordance with the Insurance Act 1978."
As a result, all Registered Entities that carry on, in or from within Bermuda, insurance business or business as an insurance manager, broker or agent (together, Registered Insurance Entities), must, unless the entity is a Non-Resident Entity (see Section 2, below), comply with the ESA.
2 EXEMPTION FOR NON-RESIDENT ENTITIES
Entities which are resident for tax purposes in a jurisdiction outside Bermuda that is not in Annex 1 to the EU list of non-cooperative jurisdictions for tax purposes (Non-Resident Entities) are not required to comply with the ES requirements. This exemption will apply, for instance, to insurers who have elected to be treated as a United States corporation for federal income tax purposes under Section 953(d) of the US Internal Revenue Code of 1986, or have otherwise organized their affairs so as to be tax resident in another jurisdiction.
This does not mean that Non-Resident Entities have no obligations under the ESA. They must make an annual claim for exemption (see Section 5 below), which must be approved by the Registrar to be valid, and are subject to new tax information exchange provisions (see Section 6 below).
3 IMPACT OF THE ES REQUIREMENTS ON REGISTERED INSURANCE ENTITIES
There are four chief consequences of an entity being within scope of the ESA:
- The entity must meet the economic substance requirements (see Section 4).
- The entity must file an annual compliance declaration (ES Declaration).
- The entity is potentially subject to tax information exchange-related powers created by the ESA.
- The entity is within scope of the ESA compliance and enforcement regime.
4 COMPLIANCE WITH ES REQUIREMENTS FOR REGISTERED INSURANCE ENTITIES
The ESA requires all Registered Entities carrying on a relevant activity as a business to maintain a substantial economic presence in Bermuda by:
- Being managed and directed in Bermuda.
- Undertaking "core income generating activities" in Bermuda
- Maintaining adequate physical presence in Bermuda
- Employing adequate suitably qualified full time employees in Bermuda
- Incurring adequate operating expenditure in Bermuda
However, in recognition of the fact that the Insurance Act 1978 and associated codes of conduct already contain provisions requiring a substantial presence on the island, Registered Insurance Entities benefit from a deeming provision in the ESR, according to which they may comply with the ES requirements by complying with certain requirements applicable to economic substance set forth in:
- Provisions of the Companies Act 1981 (Companies Act) relating to corporate governance (Companies Act Specific Requirements).
- The Insurance Act 1978 (Insurance Act), regulations, rules or other instruments (including code of conducts) made under that Act (Insurance Act Specific Requirements; together with Companies Act Specific Requirements, Specific Requirements).
The Companies Act Specific Requirements include requirements in the Companies Act that a Registered Insurance Entity:
- Maintain its registered office in Bermuda.
- Maintain statutory books, records of account, financial statements and registers at its registered office address in Bermuda.
- May be served with legal process in Bermuda.
- Appoint a minimum of one director or officer or a representative resident in Bermuda.
The Insurance Act Specific Requirements applicable to a Registered Insurance Entity vary relative to the licensing class of the Registered Insurance Entity. An exhaustive list of the Insurance Act Specific Requirements applicable to a specific Insurance Registered Entity could only be determined after consideration of the licensing class and the business carried on by the Insurance Registered Entity.
However, there are some requirements that are common to all or to all members of a broad category of Insurance Registered Entities. For example, for all Insurance Registered Entities, the Insurance Act Specific Requirements include the requirement to maintain a principal office in Bermuda. For all insurers, they include the requirement to appoint a principal representative in Bermuda approved by the BMA.
The Insurance Act Specific Requirements for commercial insurers include the requirement to comply with the head office requirements set forth in Section 8C of the Insurance Act (Head Office Requirements), including that the insurance business of the insurer be directed and managed from Bermuda.
All Registered Insurance Entities must in addition comply with various rules relating to the outsourcing of regulated functions.
Beyond that, the Insurance Act Specific Requirements encompass requirements to maintain documents and information at the Registered Insurance Entity's registered office or principal office in Bermuda and other matters.
5 FILING OF ES DECLARATION
The second chief consequence of being within scope of the legislation is the requirement to file an ES Declaration annually with the Registrar. Starting in 2020, each Registered Insurance Entity must file an ES Declaration within six months of the end of its financial year. The first Registered Insurance Entities to file will be those whose current financial year ends on 31 December 2019.
The ES Declaration must include at a minimum the following information about the Registered Insurance Entity for the relevant financial period:
- The nature and extent of core income generating activities (CIGA) undertaken in Bermuda (including, predicting and calculating risk, insuring or re-insuring against risk, providing client services, and preparing regulatory reports).
- The holding entity, the ultimate parent entity, the owner or the beneficial owner of the Registered Insurance Entity.
- Gross income and operating expenses and assets for the relevant financial year.
- The name(s) and physical address(es) of the director or directors of the Registered Insurance Entity who are ordinarily resident in Bermuda.
- The number of full-time employees.
- The nature and extent of the
entity's presence in Bermuda including:
- The physical offices or other premises occupied by the entity or its affiliates in Bermuda.
- Level of annual expenditure in Bermuda.
- Whether the entity is managed and
directed in Bermuda or from Bermuda, having regard to:
- The location of strategic or risk management and operational decision making or where the management of the entity meets to make decisions regarding business activities.
- The presence of an adequate number of senior executives, employees or other persons in Bermuda who are suitably qualified and responsible for oversight or execution of its core income generating activities or both.
- The location of its board meetings and the nature and frequency of those meetings held in Bermuda in relation to the overall number of meetings.
- The nature and extent of outsourcing arrangements (if any) to affiliates or service providers in Bermuda, and, in respect of such arrangements, details of the oversight and assessment by the entity of the outsourced activities, the resources and qualifications of the outsourcing entity and the outsourcing entity's own compliance with ES requirements.
Registered Insurance Entities will be required to file a completed ES Declaration even though they are able to rely on the deemed compliance regime (and thus the level of detail may exceed that which is strictly necessary to demonstrate compliance with Specific Requirements).
Since, under the Insurance Act, the Bermuda Monetary Authority (BMA) supervises compliance with Insurance Specific Requirements, it is hoped that the Registrar will follow the BMA's determination about compliance with such matters, and indeed the Registrar may be required to do so. Early indications are that the Registrar will generally follow the determination of the BMA as a matter of practice. However, the Registrar may choose not to do so where, on the basis of an ES Declaration, he has concerns about the Registered Insurance Entity's actual compliance with Specific Requirements.
As previously mentioned, Non-Resident Entities do not fall within the scope of the legislation. Registered Insurance Entities who consider that they are entitled to exemption on this basis must file a claim for exemption with the Registrar, within the filing period applicable to ES Declarations, for each relevant financial period. Claimants must provide sufficient evidence to support their claim.
6 PROVISION OF INFORMATION TO FOREIGN COMPETENT AUTHORITIES
The ESA brings information provided to the Registrar within the scope of the Minister's tax information exchange-related powers and functions under the International Cooperation (Tax Information Exchange Agreement) Act 2005. In particular:
- The Registrar will pass all information contained in a Non-Resident Entity's annual claim for non-resident status to the Minister for sharing with the competent authority of any relevant jurisdiction with which Bermuda has a tax information exchange agreement in which a holding entity, the ultimate parent entity, an owner or the beneficial owner of the entity is incorporated, formed, registered or resident (foreign competent authority).
- If the Registrar determines that a Registered Insurance Entity has not met the ES requirements for a financial period, it must provide all information contained in the entity's ES Declaration to the Minister for sharing with any relevant foreign competent authority.
7 ES ENFORCEMENT JURISDICTION
Finally, falling within scope means that Registered Insurance Entities will be subject to the enforcement regime under the ESA. The ESA invests the Registrar with a range of enforcement-related powers where a Registered Insurance Entity fails to comply with the Specific Requirements, including powers to (i) issue a notice to comply; (ii) undertake on-site visits; and (iii) impose a civil penalty in the absence of compliance with a notice to comply.
Where non-compliance continues after the issue of a final notice to comply and the imposition of a civil penalty, the Registrar may notify the Minister and apply to the court for an order:
- For the regulation of the conduct of the affairs of the entity.
- Restricting the entity from carrying on business.
- Authorising the Registrar to begin the strike-off procedure under the Companies Act (if applicable), the result of which would be the dissolution of the entity.
In addition, as noted in 6(b), above, if the Registrar determines that a Registered Insurance Entity has not met the ES requirements for a financial period, it must provide all information from the entity's ES Declaration to the Minister for sharing with any applicable foreign competent authority.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. Kennedys operates in Bermuda in association with Kennedys Chudleigh Ltd.