Is Your Offshore Entity Satisfying its BVI Economic Substance Requirement?

We previously covered the British Virgin Island’s (“BVI”) economic substance law when the BVI initially published its final version of the Code – the Economic Substance Law on October 10, 2019. Now that the economic substance law is wholly implemented and enforced, below is a tailored feature for the economic substance law requirement of a BVI holding company.

BVI Economic Substance Law

By virtue of an entity being a tax resident in the BVI and holding a business, the BVI entity is classified as conducting a “relevant activity” under the economic substance law. Accordingly, all BVI companies and limited partnerships conducting a “relevant activity” in the BVI must show that they have economic substance in the BVI. 

What activities classify as “holding a business?”

Holding a business and the term “pure equity holding entity” are similarly defined to mean a:

1.      legal entity which holds equity participations in other entities, and 

2.     only earns dividends and capital gains.

Equity participation consists of shares in a company and includes other kinds of investments in an entity which provide the investor the right to participate in the profits of the entity. An example would be the interest of a general partner in a limited partnership. The crux of the relevant activity of “holding a business” relies heavily on whether the entity is purely holding equity and nothing further.

What is the economic substance requirement for holding a business?

The answer to this question will depend on whether the BVI entity is passively holding a business or actively holding a business. Where the relevant activity of “holding a business” is entirely passive, the existing services provided by the entity’s registered agent may suffice as having economic substance in the BVI. Common examples of passive activity include: 1). a BVI entity’s ownership of an LLC which in turn has in interest in U.S. real property, and 2). a BVI entity’s ownership in an LLC which in turn owns an investment such as a brokerage account.   In contrast, where the entity actively manages its equity participations, the entity should have employees and an office in the BVI to satisfy its economic substance requirement. Common examples of an entity actively managing its equity participations include: 1). the active management of purchasing and selling real estate property and 2). the active management of investment portfolios.

If a BVI entity is engaged in any of the active activities listed above, we recommend re-evaluating your current structure to optimize your tax planning and alleviate your business from the economic substance implications. 

How does a BVI company remain compliant?

The BVI entity should file its annual return within six months of the end of its financial year, on a yearly basis. It should also provide its economic substance information to its registered agent who enters the information into the Beneficial Ownership Secure Search System (“BOSS”). Accordingly, an entity established on or after January 1, 2019 with its financial year ending on January 1, 2020, should have submitted its economic substance information to its registered agent by June 1st of this year to ensure a timely filing.  

What happens if the BVI company fails to report its compliance?

The penalties and fines for an entity’s failure to report its economic substance compliance are painfully steep. The penalties for failure to comply with the economic substance law range between $5,000 and $400,000, and the company could be stricken for non-compliance. Additionally, fines of $75,000 and imprisonment of up to five years may result for a failure to provide the information without reasonable excuse or intentionally reporting false information.