Legal Update: Offshore Economic Substance Requirements and Singapore landscape for businesses

Offshore Economic Substance Rules

In order to address alleged concerns on unfair tax practices, the European Union has sought to introduce economic substance requirements. As a result, many of the traditional offshore jurisdictions, including the British Virgin Islands (BVI) and the Cayman Islands, have recently introduced substance legislation. Such legislation came into effect for new entities from 1 January 2019 and to existing entities from 1 July 2019.

In this client update, we will provide an overview of the new reporting and economic substance requirements for BVI and Cayman Islands entities under the Economic Substance (Companies and Limited Partnerships) Act, 2018 and International Tax Co-Operation (Economic Substance) Law, 2018 respectively (collectively “Economic Substance Legislation”) and discuss the implications to your business.

While each offshore jurisdiction[1] has introduced its own economic substance legislation and guidance, the key requirements are broadly similar across the offshore jurisdictions.

Overview of Offshore Economic Substance Requirements

The Economic Substance Legislation introduces certain reporting and economic substance requirements for “legal entities” or ”relevant entities” conducting “relevant activities”.

The scope of “legal entities” or “relevant entities” is very broad and includes both domestic and foreign companies and partnerships incorporated or registered and deemed to be tax resident in the BVI or Cayman Islands respectively.

“Relevant activities” generally comprise the following:

• Banking
• Distribution and service centres
• Finance and leasing
• Fund management
• Headquarters
• Holding company
• Insurance business
• Intellectual property holding
• Shipping

How to satisfy the Economic Substance Requirements?

The economic substance requirements focus on the following criteria:

• adequate physical presence;
• adequate full time employees in the BVI / Cayman Islands with suitable qualifications;
• the relevant activity is directed and managed in the BVI / Cayman Islands;[2]
• core income generating activities are undertaken in the BVI / Cayman Islands with respect to the relevant activity; and
• adequate operating expenditure incurred in the BVI / Cayman Islands.

Currently, the Economic Substance Legislation do not define “adequate” under the economic substance requirements.  The determination of what is “adequate” is fact sensitive.

For pure equity holding companies, they will be subject to a reduced economic substance test (e.g. items (a) and (b) above).

For legal entities carrying on fund management business, the core income generating activities to be undertaken in the BVI / Cayman Islands include:

(a)       taking decisions on the holding and selling of investments;

(b)       calculating risks and reserves;

(c)       taking decisions on currency or interest fluctuations and hedging positions; and

(d)       preparing relevant regulatory or other reports for government authorities and investors.

Failure to comply with substance requirements could lead to grave consequences, such as incurring significant fines or being struck off­ by local registries.

What it means for you?

As the trend is moving towards requiring more substance as further countries seek to meet the European Union’s requirements, businesses with entities incorporated or intending to be incorporated in traditional offshore jurisdictions may wish to re-evaluate their group structures. It may be more sustainable for businesses to either incorporate companies in Singapore or re-domicile eligible foreign corporate entities (“FCE”) onshore to Singapore.

General requirements for incorporation of Singapore entity

Company incorporation in Singapore is a straightforward process with the following requirements:

• at least 1 shareholder
• minimum initial paid-up capital of S$1
• at least one resident director
• at least one company secretary
• local registered address

General requirements for inward re-domiciliation to Singapore

1. Eligibility requirement – A FCE must first be authorised to transfer its incorporation under the laws of its place of incorporation.[3]

2. Size requirement – At least 2 of the following criteria must be satisfied:

• total assets exceeding S$10 million
• annual revenue exceeding S$10 million
• more than 50 employees

3. Solvency requirement – The FCE must also be balance-sheet solvent and is able to pay its debts (including for the period of 12 months immediately after the date of the application) as they fall due.

For further information, please refer to our previous article on re-domiciliation here.

For Fund Managers – Singapore Tax Incentive Schemes

Singapore is also increasingly being used as a preferred location for fund vehicles due to attractive tax incentives. There are three (3) main tax exemption schemes available to qualifying funds managed by Singapore-based fund managers under which “specified income” from “designated investments” is exempt from tax. This exempts trading gains and remittances which are usually taxable by Singapore tax resident companies. 

We set out below a summary of some of the key conditions of the 3 tax exemption schemes:

Companies can enjoy favourable tax and regulatory environment in a stable business environment in Singapore.  

For further information contact:

Claudia Teo
Partner & Head, Corporate and Financial Services
claudiateo@eversheds-harryelias.com
+65 6361 9845

Valerie Boh
Senior Associate
valerieboh@eversheds-harryelias.com  
+65 6361 9324 

1 BVI, Cayman Islands, Bermuda, Jersey, Guernsey, Isle of Man, Bahamas, United Arab Emirates, Barbados and Mauritius

2 For a relevant activity to be directed and managed from the BVI/Cayman Islands there must be an adequate number of board meetings held in the BVI/Cayman Islands in which, there must be a quorum of directors physically present in the BVI/Cayman Islands. Besides, decisions of the board regarding the relevant activity must be minuted, and minutes of those decisions must be kept in the BVI/Cayman Islands.

3 At present, various offshore jurisdictions such as Cayman Islands and BVI, Australia, Canada and New Zealand permit re-domiciliation.

4 Section 13CA of the Singapore Income Tax Act (Chapter 134)

5 Section 13R of the Singapore Income Tax Act (Chapter 134)

6 Section 13X of the Singapore Income Tax Act (Chapter 134)