Guide to Economic Substance in the BVI

Overview

In the context of business companies, “economic substance” means that companies must have adequate presence and/or carry on economic activities in the jurisdiction in which they are tax resident. Numerous jurisdictions worldwide have now introduced broadly similar economic substance requirements in response to European Union and OECD initiatives to prevent harmful tax practices and profit shifting.

In the case of the BVI, the BVI government passed the Economic Substance (Companies and Limited Partnerships) Act, 2018 (ESA) on 28 December 2018 and it entered into force on 1 January 2019.

Like other substance laws, the ESA aims to capture entities (whether formed in the BVI, or foreign entities registered in the BVI) that carry on one or more specific types of business (called “relevant activities”). Any entity carrying on a relevant activity that is potentially within the scope of the legislation has three options:

1. Ensure that the substance of the relevant activity is carried on within the BVI
2. Discontinue the activity, or modify it so it no longer falls within the scope of a relevant activity
3. Demonstrate tax residence in a jurisdiction outside the BVI
4. Further please note that in some states such as Maharashtra and Orissa the minimum requirement is of 20 or more persons.

An entity that does not take steps either to take its relevant activity outside the scope of the legislation, or to bring it into compliance with the legislation, can expect to be the subject of enforcement proceedings by the BVI International Tax Authority (ITA), which is responsible for administering and enforcing the ESA.

The ITA’s Economic Substance Rules (“ESA Rules”) set out the manner in which the ITA will implement the ESA. Regulations regarding the filing and submission periods (and likely any applicable fees) are to yet to be drafted.

Scope of the ESA

The ESA potentially affects new and existing BVI companies (companies incorporated or re-registered under the BVI Business Companies Act, 2004 [the BCA]) and limited partnerships, as well as foreign companies and foreign limited partnerships that are registered in the BVI (together, “legal entities”). The ESA does not apply to nonresident companies, non-resident limited partnerships or limited partnerships that do not have legal personality.

Exempt Entities

The following companies and limited partnerships (“legal entities”) are exempt from the economic substance requirements under the ESA:

Limited partnerships that do not have legal personality

Legal entities that are not carrying on one of the nine relevant activities

Legal entities that can demonstrate that they are tax resident in another jurisdiction

However, all legal entities (even those that are exempt from the substance requirements) must comply with the self-assessment reporting requirements required under the Beneficial Ownership Secure Search System Act, 2017 (the “BOSS Act”). These requirements are outlined later in this guide.

Financial Period

General

The financial period for a company or limited partnership incorporated or formed on or after 1 January 2019 (“new legal entity”) begins on the date of its incorporation or formation and ends 12 months thereafter, unless it elects for a shorter initial financial period. For new legal entities, the economic substance requirements will apply for only that part of the financial period during which the relevant activity is being conducted.

The financial period for a company or limited partnership incorporated or formed prior to 1 January 2019 (“existing legal entity”) will commence on a date on or after 30 June 2019, except where the entity notifies the ITA that its financial period commences on an earlier date. Whatever the date of commencement, an existing legal entity must comply with the economic substance requirements from that date.

Amending the Entity’s Financial Period

If the legal entity needs to shorten or lengthen its financial period, it may do so by notifying the ITA.

Entities formed or incorporated on or after 1 January 2019 must notify the ITA of their election to shorten their first financial period within three (3) months of their date of incorporation. An entity cannot elect to terminate its first financial period prior to the date of the notice to the ITA.

Entities incorporated or formed prior to 1 January 2019 must notify the ITA of their election to start their first financial period on an earlier commencement date by or before 31 December 2019. An entity cannot elect to terminate its first financial period prior to the date of the notice to the ITA.

An entity can apply to the ITA at any time to alter its successive financial periods, so long as the effect of the alteration is not to extend its financial period beyond 12 months

Tax Residency

The ESA does not define the term “resident for tax purposes”. However, it defines non-resident companies and non-resident limited partnerships as those that are resident for tax purposes in a jurisdiction that is outside the British Virgin Islands and not on Annex I to the EU list of non-cooperative jurisdictions for tax purposes. If an entity’s only income is derived from relevant activities that are subject to tax in a foreign jurisdiction, that entity will be regarded as being resident for tax purposes in that foreign jurisdiction (Rule 5, ESA Rules).

Proof of Foreign Tax Residency

The ITA will accept the following documents as evidence of tax residency in a foreign jurisdiction:

A certificate issued by the competent authority for the foreign jurisdiction stating that the legal entity is considered to be resident there for tax purposes

An assessment of tax on the legal entity

A legal entity’s confirmation of self-assessment tax return

A tax demand

Evidence of payment of tax

Any other document issued by the competent authority for the foreign jurisdiction

A legal entity may apply to the ITA to be treated as provisionally tax resident in a foreign jurisdiction pending submission of the required evidence. The ITA may grant this request if the following conditions are met:

1. The entity has established its tax residence in the foreign jurisdiction for the previous financial period to the ITA’s satisfaction and has certified that its tax residence has not changed since then
2. The entity supplies the most recent available evidence of tax residence in that jurisdiction and has certified that its tax residence has not changed since then
3. The entity evidences either that it has been too recently formed; or that it has too recently assumed tax residence in the foreign jurisdiction for there to be documentary evidence of its tax residence, and produces other evidence to show that it met the criteria for tax residence in that jurisdiction during the relevant financial period

Evidence in support of the above conditions must be supplied within the filing period.

If the ITA accedes to the request, it must specify a period within which the necessary evidence is to be submitted. The provisional extension period is not likely to exceed two (2) financial periods (including the financial period for which the provisional treatment has been requested).

This option may be particularly useful for legal entities that are unable to obtain the required evidence for their financial period by the stipulated deadline for submitting their return.

Relevant Activities

The substance requirements are imposed on those legal entities that are engaged in one or more of nine activities that the ESA defines as relevant activities. These relevant activities are:

Banking business

Insurance business

Fund management business

Finance and leasing business

Headquarters business

Holding business (pure equity holding entities)

Intellectual property (IP) business

Distribution and service centre business

A legal entity will be treated as carrying on a relevant activity during any financial period in which it received income from that relevant activity (Rule 1, ESA Rules). A legal entity that claims to be resident in the BVI for tax purposes and is engaged in any of the above relevant activities must carry out certain core income-generating activities (CIGA) in the BVI. The definitions of these relevant activities and their CIGA are outlined below

It is possible that a legal entity will only start engaging in a relevant activity part way through its financial period. In such case, the economic substance requirements will only apply for the portion of the financial period during which the entity has engaged in the relevant activity.

The CIGA that are listed below are not exhaustive. What constitutes the CIGA of a particular activity is factsensitive and can be peculiar to a particular business.

Banking Business

Definition

“Banking business” means accepting deposits of money that may be withdrawn or repaid on demand or after either a fixed period or notice, by cheque or otherwise, and the employment of such deposits, either in whole or in part:

In making or giving loans, advances, overdrafts, guarantees or similar facilities, or

In the making of investments for the account and at the risk of the person accepting such deposits. Core Income Generating Activities

Raising funds, managing risk including credit, currency and interest risk

Taking hedging positions

Providing loans, credit or other financial services to customers

Managing regulatory capital

Preparing regulatory reports and returns

Insurance Business

Definition

“Banking business” means accepting deposits of money that may be withdrawn or repaid on demand or after either a fixed period or notice, by cheque or otherwise, and the employment of such deposits, either in whole or in part:

In making or giving loans, advances, overdrafts, guarantees or similar facilities, or

In the making of investments for the account and at the risk of the person accepting such deposits. Core Income Generating Activities

Raising funds, managing risk including credit, currency and interest risk

Taking hedging positions

Providing loans, credit or other financial services to customers

Managing regulatory capital

Preparing regulatory reports and returns

Finance and Leasing Business

Definition

“Finance and leasing business” means providing credit facilities of any kind for consideration, where consideration includes interest or the provision of credit by way of instalments for which a separate charge is made and disclosed to the customer in connection with any of the following:

The supply of goods by hire purchase

Leasing other than any lease granting an exclusive right to occupy land

Conditional sale or credit sale

Core Income Generating Activities

Agreeing on funding terms

Identifying and acquiring assets to be leased (in the case of leasing)

Setting the terms and duration of any financing or leasing

Monitoring and revising any agreements

Headquarters Business

Definition

“Headquarters business” means providing any of the following services to an entity in the same group:

The provision of senior management

The assumption or control of material risk for activities carried out by any of those entities in the same group

The provision of substantive advice in connection with the assumption or control of material risk for activities carried out by any of those entities in the same group, but does not include banking business, financing and leasing business, fund management business, intellectual property business, holding business or insurance business Core Income Generating Activities

Incurring expenditures on behalf of affiliates

Co-ordinating group activities

Shipping Business

Definition

“Shipping business” means any of the following activities involving the operation of a ship anywhere in the world other than solely within the British Virgin Islands:

Transporting by sea, persons, animals, goods or mail

Renting or chartering ships for the business of transporting by sea, persons, animals, goods or mail

Sales of travel tickets or equivalent, and ancillary services connected with the operation of a ship

Use, maintenance or rental of containers, including trailers and other vehicles or equipment for the transport of containers, used for the transport of anything by sea Managing the crew of a ship