Economic Substance Requirements for Offshore Companies (Overview in BVI and Belize)

What are Economic Substance Requirements and Why is Substance Required?

The OECD Forum on Harmful Tax Practices (FHTP), a sub-body of the BEPS Inclusive Framework, has defined that all companies must have economic substance in the country where they conduct business as the definition of future global standards. This is referred to as the Economic Substance Requirement. The same forum (FHTP) serves as the monitoring and management body for Action 5 (Harmful Tax Practices) of the BEPS Project for member countries.

The focus of the Economic Substance Requirements is on offshore jurisdictions that exempt corporate tax.

In the Code of Conduct Group within the European Union (EU), countries granting harmful tax benefits to offshore companies (IBCs) established within their own territory in violation of the group's code are defined as "Non-Cooperative Countries" or "Blacklisted". Countries that largely comply with the code and are making efforts regarding non-compliant parts are "Grey-listed", and countries fully compliant with the group's code are "White-listed".

The current Economic Substance Requirements were adopted voluntarily by offshore jurisdictions in response to this. Offshore jurisdictions defined the overview of offshore companies requiring economic substance requirements through their own domestic laws to avoid being labeled as "Non-Cooperative Countries".

(*) BEPS: Base Erosion and Profit Shifting

Which Companies Require Classification (*)?

(*) Classification regarding whether they fall under Economic Substance Requirements

All companies. All companies are required to accurately perform the classification test for economic substance requirements and prove the classification results.

Who is Responsible for the Economic Substance Requirement Classification Test Results?

The directors of each company. All company directors must properly conduct the company's economic substance classification and understand obligations based on the Economic Substance Requirements Act. Each company is required to submit proof of entity classification results to the authorities in the country of incorporation. Proof will be a formal written classification, such as a detailed record in a board resolution describing what classification analysis was performed.

Which Companies Need to Meet Economic Substance Requirements Locally?

The following companies conducting business are subject to economic substance requirements in the country of incorporation:

1. Banking Business
2. Insurance Business
3. Fund Management Business
4. Lending and Leasing Business
5. Air Transport Business
6. Holding Companies (Holding Company)
7. Headquarter Business
8. Distribution and Service Center Business
9. Holding of Intellectual Property (IP Business) (*)

(*) In Belize, holding of intellectual property by offshore companies established in Belize (Belize IBC) has been prohibited since 2019. (According to Section 5(4) of the International Business Companies Act, Chapter 270 of the Substantive Laws of Belize, Revised Edition 2011, amended as Act No.17 in 2019). Intellectual property includes all intangible assets such as copyrights, patents, trademarks, brands, and technical know-how.

Classification Test, Three Questions

1. Does the type of the company fall under economic substance requirements?
2. Is the company conducting business activities that require economic substance?
3. Is the company a tax resident in a country other than the country of incorporation?

If the answer to either question 1 or 2 is "No", or if the answer to question 3 is "Yes", the company is not required to meet economic substance requirements locally.

First Step

Zetland provides services related to economic substance requirements for clients who have established companies in countries where economic substance requirements are enforced. Clients will be asked to answer the following 9 questions:

1. About the profit-making activities of the company
2. About the country of residence managing the profit-making activities
3. Annual turnover
4. Country of residence for the office where profit-making activities are conducted (activity location, home is OK)
5. Country of residence of major customers
6. Country of residence of major suppliers
7. Country of residence of employees
8. Number of employees
9. Tax residency status of the company and the date tax residency was certified

In Case of Holding Companies (Holding Company)

Companies that do not conduct business activities other than holding shares of subsidiaries are considered pure holding companies. If the company is properly managed in the country of incorporation, has appropriate employment, and an appropriate office, it is deemed to meet economic substance requirements locally.

(*) For pure holding companies, "appropriate employment and office" usually means simply utilizing the current status, local address lending, and registration agency services. Please contact us for details.

Definition of Business for Companies Subject to Economic Substance Requirements

Distribution and Service Center Business refers to cases where the following main operations are conducted:

• Logistics or distribution
• Storage of stock
• Order taking
• Provision of consulting or other management services

Headquarters:

• Making decisions regarding management
• Incurring expenses for related companies
• Coordinating and managing business of related companies

Intellectual Property Business (IP Business):

• Business handling intellectual property such as patents and R&D
• Handling intangible assets other than trade such as brands, trademarks, customer data, marketing, branding, and distribution

Conditions to Meet Economic Substance Requirements

1. Management and operation of the company is conducted locally in the country of incorporation according to the business content and scale.
2. Employ employees with qualifications for business execution capability locally in the country of incorporation.
3. There are expenditures such as expenses locally in the country of incorporation.
4. There is an office where business activities are conducted locally in the country of incorporation.
5. In the case of businesses handling intellectual property, etc., relevant equipment must be present locally in the country of incorporation.

Economic Substance Requirements (Classification Results) Report Submission Deadline

BVI:

For BVI companies established before January 1, 2019, the start of the "Accounting Period (1 year)" is June 30, 2019. The submission deadline for economic substance requirements reports is 6 months after June 30 of the following year, 2020.

For BVI companies established on or after January 1, 2019, the submission deadline is 6 months after the anniversary date of reaching the first year of establishment.

Reports occur annually.

Belize:

For companies established in Belize before January 1, 2020, the start of the "Accounting Period (1 year)" is April 30, 2020. The submission deadline for economic substance requirements reports is 9 months after April 30 of the following year, 2021.

For companies established in Belize on or after January 1, 2020, the submission deadline is 9 months after the anniversary date of reaching the first year of establishment.

Reports occur annually.

What Happens if a Company Does Not Conduct Business Activities Subject to Economic Substance Requirements?

Regardless of business content, all companies registered in countries implementing economic substance requirements are obligated to report their economic substance requirement classification results to their local agent annually.

Matters to Note Regarding Belize

In Belize, with the commencement of economic substance requirement reporting, obtaining a new TIN (Tax Identification Numbers) has been mandated for all Belize companies. However, obtaining a TIN does not necessarily mean the company will be taxed in Belize. The purpose of obtaining a TIN is for administrative convenience by the Belize tax authorities to manage companies.

(*) TIN: Corporate Tax ID Number

Also this time, Belize's tax laws underwent significant review and changes. Offshore companies established in Belize (Belize IBC), which were previously treated as non-taxable in Belize, will now have such tax preferential measures abolished. Starting from January 1, 2020, corporate tax on source income both within and outside Belize has begun for all sole proprietors, professionals, companies, and partnerships.

This change means that companies established in Belize will be deemed "Deemed Tax Residents" in Belize unless they register as tax residents in other countries. If a "Deemed Tax Resident" does not conduct business activities falling under economic substance requirements, or if the company income is USD 37,500 or less per year, it will be non-taxable, and the corporate income tax return will be submitted as "Nil". Companies with company income above USD 37,500 that do not conduct business activities falling under economic substance requirements (Non-Included entities) may also apply for tax exemption, but proof of registration as a tax resident in another country is required.

The submission deadline for the tax return is at the end of March every year. Belize companies established before October 17, 2017 will start from the 2020 fiscal year (tax return submission deadline is March 2022), and companies established thereafter will start from the 2021 fiscal year (tax return submission deadline is September 2021).

Zetland is based in Hong Kong and handles the establishment and management of Belize, BVI, and other offshore companies. For consultations regarding the newly started economic substance requirement reporting, tax returns, and tax payments in Belize, please feel free to contact us.