On 27 December 2018, the Cayman Islands published The International Tax Co-operation (Economic Substance) Law, 20181 and The International Tax Co-operation (Economic Substance) (Prescribed Date) Regulations, 2018 (together, the "Initial Law").
The Initial Law was amended on 22 February 2019 by the publication of The International Tax Co-operation (Economic Substance) (Amendment of Schedule) Regulations, 20192 (the "Regulations" and, together with the Initial Law, the "Economic Substance Law") and supplemented by the issuance of the first version of the related Guidance on Economic Substance for Geographically Mobile Activities3 (the "Guidance").
The Economic Substance Law is responsive to global OECD Base Erosion and Profit Shifting ("BEPS") standards regarding geographically mobile activities. Requirements of this type are rapidly being implemented on a level playing field basis by all OECD-compliant 'no or only nominal tax' jurisdictions.
Global standards in this field continue to develop. Accordingly, it is to be expected that the Economic Substance Law and the body of related Guidance will also evolve. The Economic Substance Law envisages that further regulations can be issued from time to time to prescribe and amend certain matters in the Economic Substance Law. Certain important practical aspects of the economic substance requirements are likely to be further clarified by additional guidance in due course.
Those who establish Cayman Islands structures do not generally do so to engage in BEPS activity; they do so because the Cayman Islands is an efficient, stable and trusted neutral hub with key expertise in handling complex transactions.
Accordingly, the Cayman Islands financial services industry and its clients should be able to take these requirements in their stride given the nature of the transactions structured in the Cayman Islands and the global standards that are already applicable in the Cayman Islands.
The Economic Substance Law introduces certain reporting and economic substance requirements for 'relevant entities' conducting 'relevant activities'4.
Such entities will be required to report certain information on their relevant activities on an annual basis to the Cayman Islands Tax Information Authority, the first such annual report being due no later than 12 months after the last day of the relevant entity's financial year commencing on or after 1 January 20195.
'Relevant entities' that do not conduct a 'relevant activity' will have to make a simple notification to confirm whether or not they conduct a 'relevant activity' (this straightforward notification is expected to be made online, via a dedicated portal, the first notification being made around September 2020).
For a relevant entity formed on or after 1 January 2019 that will conduct a 'relevant activity', the economic substance requirements will apply from the date that the relevant entity commences the relevant activity.
For relevant entities conducting relevant activities that were in existence before 1 January 2019, the economic substance requirements will apply from 1 July 2019.
What is a Relevant Entity?
The definition of 'relevant entity' is set out in the Regulations. It expressly recognises that the following are not within the classification of a 'relevant entity':
- an entity that is an 'investment fund';
- an entity that is a 'domestic company'; and
- an entity that is 'tax resident' outside of the Cayman Islands.
The terms 'investment fund' and 'domestic company' are defined in the Schedule to the Economic Substance Law. The Guidance provides some practical guidance as to the meaning of 'tax resident'.
Entities without separate legal personality (such as certain forms of partnership or trust) are not within the classification of a relevant entity.
An initial step will be to determine whether an entity may fall within the classification of a 'relevant entity' (and, if so, to then determine if it is conducting or if it intends to conduct a 'relevant activity'). Your usual Maples Group contact will be able to assist you in making these determinations.
What is a Relevant Activity?
The Economic Substance Law applies economic substance requirements to the following categories of geographically mobile relevant activities previously identified by the OECD (and adopted by the EU):
- Fund management;
- Financing and leasing;
- Distribution and service centres;
- Holding company; and
- Intellectual property.
Please click on any of the relevant activities listed above to view the particular activity-specific client update.
Where a 'relevant entity' conducts a 'relevant activity', the economic substance test will apply.
Where a 'relevant entity' conducts more than one 'relevant activity', the economic substance test will need to be satisfied in respect of each relevant activity conducted.
For details on what it means to be subject to the economic substance requirements of the Economic Substance Law, as well as for information on the potential consequences of breaching these requirements, please contact your usual Maples Group team member.
Implementing a Global Standard
The Economic Substance Law has had significant OECD, EU and industry input and reflects both:
- the Cayman Islands' ongoing adherence to global standards as one of the 128 member countries committed to the OECD's BEPS Inclusive Framework6; and
- commitments made by the Cayman Islands to the EU as part of the EU's listing process7.
How will entities be affected?
The extent to which an entity is affected will depend upon a number of factors including the entity type, the type of business the particular entity is engaged in and the way in which it operates.
However, an initial step will be to determine whether an entity may fall within the classification of a 'relevant entity' and, if so, to determine if it is conducting or if it intends to conduct a 'relevant activity'.
1 A copy of the law can be found at: http://www.gov.ky/portal/pls/portal/docs/1/12738510.PDF. The law came into force on 1 January 2019.
2 A copy of the Regulations can be found at: http://www.gov.ky/portal/pls/portal/docs/1/12756530.PDF
3 A copy of the Guidance can found at: http://www.gov.ky/portal/pls/portal/docs/1/12756528.PDF
4 See the Regulations for the definition of 'relevant entity' and see the Schedule to the Initial Law for the definition of 'relevant activities'.
5 For example, if a 'relevant entity' conducting 'relevant activities' is subject to the economic substance tests and it has a financial year of 1 January 2019 to 31 December 2019, the first annual report would be due on or before 31 December 2020.
6 A full list of the 128 countries that are currently members of the BEPS Inclusive Framework can be found at: https://www.oecd.org/ctp/beps/inclusive-framework-on-beps-composition.pdf
7 The EU listing process has seen, as of 31 May, a total of 142 commitments taken at a high political level by 67 jurisdictions across the relevant EU criteria.
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.