The Cayman Islands government has issued a law that requires certain country-based companies that carry out specific activities to have "adequate substance" in the Cayman Islands. Any entity that may be impacted by this legislation must monitor this obligation closely.

Background

Cayman Islands are the first to adopt the Common Reporting Standard, comply with FATCA, and are recognized as a jurisdiction committed to tax transparency. The anti-money laundering and terrorist financing legislative regime meets and, in some cases, exceeds international standards. The Cayman Islands' commitment to compliance is unwavering.

The Cayman Islands government and the financial services industry together have a long history of working closely and cooperatively with key intergovernmental organizations to ensure the regulatory framework remains solid. One such intergovernmental group, the EU Code of Conduct Group (Code Group), assessed the tax policies of a number of countries, including the Cayman Islands, in 2017.

After the Code Group's assessment, Cayman was placed on a list of jurisdictions that are required to address 'economic substance' concerns. As in BVI, Bermuda, Guernsey, Jersey and the Isle of Man, the Cayman Islands government has been working closely with the Code Group to ensure these concerns are adequately addressed.

The law applies only to "relevant entities". A relevant entity is any of the following (except for investment funds, which are specifically divided):

(The)  a company, which is not a national company, that is: (i) incorporated in accordance with the Brazilian Corporate Law; or (ii) a limited liability company registered under the Limited Liability Companies Act, unless its business is centrally managed and controlled outside the Cayman Islands and is tax resident outside the Islands;

(b) a limited liability company registered under the Limited Liability Partnership Act 2017, unless its business is centrally managed and controlled outside the Cayman Islands and is tax resident outside the Islands;

(c) a company incorporated outside the Islands, registered under the Brazilian Corporate Law and centrally managed and controlled in the Cayman Islands (unless it is a tax resident outside the Islands).

A relevant entity is only within the scope of the economic substance requirements if it carries out any “relevant activity”.

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The relevant activities are:

Banking business;

Distribution business and service center;

financial and leasing affairs;

fund management;

Holding Companies of operating companies;

Equity Holding Companies;

Insurance companies;

Companies holding intellectual property;

Transport business.

Each of the above activities is defined by law and we are always following additional guidance to help determine whether an entity is carrying out a relevant activity. E&G is actively involved in consultation and guidance, providing the necessary support for each sector mentioned above.

The economic substance test:

A company carrying out relevant activities must satisfy a three-step economic substance test:

(1) conduct the principal income-generating activity in the Cayman Islands in relation to that relevant activity ("Principal income-generating activity in the Cayman Islands" being any activity of central importance to a company in terms of generating income that takes place in or from the Islands);

(2) be directed and administered in an appropriate manner within or from the Islands in connection with such activity;

(3) taking into account the level of income derived from the relevant activity carried out in or from the Islands -

(i) have adequate operating expenses incurred on or within the islands;

(ii) have adequate physical assets or physical presence (including maintaining a place of business) on the Islands; and

(iii) have adequate employees on the Islands.

Holding companies are required to meet a reduced economic substance test, while at the other end of the scale high-risk intellectual property holdings will face more onerous requirements. There is no single approach.

Outsourcing of core revenue-generating activities within the jurisdiction is permitted and accounts for the satisfaction of the substance's requirements, provided the company is able to monitor and control the performance of that activity by that other person.

Archives

Relevant entities will be required to provide a notification to the designated authority stating whether or not they are carrying out relevant activities. Those carrying out relevant activities will be required to submit a basic statement setting out details regarding income, expenses, assets, management, employees, physical presence and other matters. These records will be reviewed by the designated authority to ensure that such entities have adequate economic substance on the islands. Those who do not have the proper substance will receive guidance on how to comply with the test and could face a fine of up to $10,000. Continued failure to meet the test in the following year could result in higher fines and could lead to the entity being terminated.

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How can E&G help?

All entities will need to conduct an internal review to determine what steps, if any, they may need to take in order to achieve compliance. In most cases, we believe compliance will be a direct issue.

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If you have any questions, please contact your E&G contact.

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