The British Virgin Islands (“the BVI”), together with other major offshore jurisdictions, introduced economic substance laws. The BVI Economic Substance (Companies and Limited Partnerships) Act, 2018 (“the Act”) became effective from 1 January 2019. Companies incorporated on or after 1 January 2019 have to comply with the Act immediately, while a transition period to 30 June 2019 was provided for entities established before 1 January 2019. This is in response to the European Union (“EU”) and the Organisationfor Economic Cooperation and Developments’ (“OECD”) various efforts to enhance tax transparency.
In simple terms, a relevant BVI entity (including locally incorporated companies, foreign entities registered in the BVI and limited partnerships having legal personality (see Table 1 in Figure 1)) that engages in one or more of the Relevant Activities (see Table 2 in Figure 1) would be required to comply with the Act by maintaining an appropriate level of economic substance (see Table 3 in Figure 1) in the BVI, unless exceptions apply. Please refer to our previous Hong Kong Tax Alert Issue 4 for details.
Table 1 –Relevant Entities
Table 2 –Relevant Activities
Table 3 –Required substance
Figure 1 Conceptual illustration of Offshore Economic Substance Laws
The Act was drafted broadly, setting out the framework of the economic substance requirements of the BVI. To provide the necessary implementational guidance, the BVI authorities released a set of draft codes in April 2019 containing detailed explanations and some examples to help interpret the Act. The draft codes, whichhad generated widespread discussions amongst practitioners and the business sector, were finalisedon 9 October 2019 as “Rules on Economic Substance in the Virgin Islands” (“the Rules”). The Rules were not significantly different from those previously released, and the general understanding is that EU and OECD have reviewed the Rules. It is worth noting that other offshore jurisdictions including the Cayman Islands and the Channel Islands have revised or released similar rules in recent months, although some of these rules are still in the process of updating.
BVI entities are commonly used by Hong Kong businesses for various purposes and therefore the Act has wide implications in Hong Kong. There are potentially three ways to respond to the Act if a BVI entity falls into the scope of the Act, namely:
The Act is intended to have a wide coverage for the Relevant Entities but there are a few important carve outs and exceptions:
Relevant Entities will be required to report certain information on their activities annually to registered agents.This includes information on the entity’s tax residence status, turnover, number of employees, amount of expenditure, address, etc. The information collated by the registered agents, together with supporting documentary evidence where relevant, will be reported to the BVI authorities through the existing Beneficial Ownership Secured Search (BOSS) system within six months after the reporting period. For BVI entities incorporated before 1 January 2019, the first reporting period runs from 30 June 2019 to 29 June 2020, or an earlier/shorter period of time on election. Therefore the immediate reporting deadline will be 29 December 2020 if no such election is made.
There are potentially severe penalties which can be imposed for non-compliance, including monetary penalties, exchange of information with the tax authorities where the beneficial owners are located, and striking off the entities in extreme situations.
The introduction of the Rules assists in the interpretation of the Act. While the Rules provide some helpful clarifications, uncertainties remain. Objectively, the BVI authorities are not able to clarify all situations and therefore a certain level of ambiguity of the Act is inevitably expected. The BVI entities should continue to monitor the development of the Act and the Rules, especially in light of the on-going discussions with the EU and OECD in this matter and the evolving BEPS initiatives. The level of the BVI authorities’ enforcement is also worth observing that may impact how Hong Kong businesses will respond to the Act.
The BVI entities should accordingly go through the following 3-step review process:
Such a review should not only focus on the BVI entities (or those in the relevant offshore jurisdictions), a holistic review of the group’s entire legal structure and operational capability should be undertaken to optimisean appropriate structure enabling future growth. In addition, the re-organisationshould be forward looking, considering the rapidly changing global tax landscape. Based on our experience, this kind of re-organisationtypically involves multiple functions within an organisation(e.g. finance, legal and compliance, company secretarial and tax, etc.), and therefore aligning a common goal and defining ownership, accountability among stakeholders are key to success.
1 European Union’s list of non-cooperative jurisdictions for tax purposes.