Publication on the Income Tax Amendments & the Economic Substance Act
Legislative Changes to Establish a System of Territorial Taxation on Corporate Income Tax and the Imposition of Economic Substance Requirements on Companies
In December 2018, legislative amendments were made to the International Business Companies (Amendment and Consolidation) Act and the International Trusts Act to remove tax exemptions historically granted to international business companies and international trusts. These amendments were undertaken in order to comply with the requirements of the European Union’s Code of Conduct for Business Taxation, which prohibit advantages being accorded to non-residents or in respect of transactions carried out with non-residents. Such legislative amendments enabled St. Vincent and the Grenadines to pass the European Union’s intensive screening exercise and the country to be placed on its “White List” in March 2019. These amendments also allowed the country to successfully pass an assessment conducted by the Organization for Economic Cooperation and Development (‘OECD’) Base Erosion and Profit Shifting (‘BEPS’) Inclusive Framework on Harmful Tax Practices, in January 2019.
However, the Government’s longer-term policy goal was to introduce a territorial based system of corporate income tax, such that tax is charged only on income that accrues to companies and trusts directly or indirectly from sources in St. Vincent and the Grenadines, in order to preserve the country as an international financial services centre. The intention was to enable the international financial services sector to remain competitive in the international market, by restoring a position of zero taxation on global income, given that this is the kind of tax benefit enjoyed in other international financial centres. The new territorial taxation regime would also benefit local companies.
This goal was accomplished on December 28, 2020, by legislative changes which established a system of territorial taxation on corporate income tax via the Income Tax (Amendment) Act 2020. According to this amendment, specified companies, namely, companies incorporated or registered under the Companies Act or registered under the Business Companies (Amendment and Consolidation) Act and trusts registered under the Trusts Act would benefit from tax exemptions or zero rated taxation on global income. It is anticipated that this legislative change may lead to the stabilization, survival and possible growth of St. Vincent and the Grenadines’ international financial services sector, the economic international climate permitting. Taxation on worldwide income for all other tax payers, including individuals and non-residents, has been retained.
By transitioning to this system of territorial taxation, St. Vincent and the Grenadines has moved to being classified as a ‘Foreign Source Income Exemption’(‘FSIE’) taxation regime by the European Union Code of Conduct Group (Business Taxation) (‘EU Code of Conduct Group’) and the OECD. Such regimes are required to have appropriate economic substance legislation to govern certain types of geographically mobile activities which the EU Code of Conduct Group has identified as having typically taken advantage of preferential tax regimes. Economic substance refers to a judicial doctrine of tax law under which a transaction must have both a substantial purpose and an economic effect in order for tax advantages to be granted. Accordingly, to justify tax benefits, there must be ‘substantial economic presence’ imposed, which can demonstrate ‘real economic activity’ in a country.
The International Tax Cooperation (Economic Substance) Act was thus simultaneously enacted to introduce the necessary economic substance requirements on geographically mobile activities, referred to as ‘relevant activities,’ to ensure compliance with international tax criteria. Companies carrying out nine (9) categories of relevant activities, namely, banking business, insurance business, fund management business, finance and leasing business, holding entity business, distribution and service centre business, headquarters business, intellectual property holding business, holding entity business and shipping business, will be obliged to fulfil economic substance requirements, unless excluded under the provisions of the Act.
Accordingly, the important prerequisites for having to satisfy economic substance obligations are – the company must be engaged in one or more relevant activity and it is not an excluded company. Many local or domestic companies would invariably be excluded from the scope of economic substance requirements by reason of the provisions of the Bill dealing with excluded entities. The economic substance requirements indicated in the Act essentially include, being managed and directed in St. Vincent and the Grenadines, having adequate premises or assets in the country, having an adequate number of employees and expenditure commensurate with the level of business activity in the country, and conducting core income generating activities (as defined) locally.
Regulations and Guidelines would be issued to complement the Economic Substance Act, to introduce forms and notices referenced in the primary law and to elaborate on certain words and expressions used therein. The Inland Revenue Department is also finalizing guidance on the implementation and administration of territorial taxation to ensure uniformity and consistency in the practical application of territorial taxation.
The combined legislative changes serve to level the playing field for St. Vincent and the Grenadines with the other International financial centres in the region and the international arena, in relation to its product offerings at an equivalent rate on global income, while at the same time, seeking to ensure that the international tax requirements of the European Union and the OECD are met. It is worthy of note that St. Vincent and the Grenadines is presently deemed a cooperative tax jurisdiction internationally, as a result of the work carried out over the years. Despite tremendous international challenges, the country has managed to preserve its international financial services sector, while safeguarding the integrity and reputation of the entire financial services sector, and indeed, that of the jurisdiction’s, in the important matters of tax cooperation, transparency and accountability at the global level.
Financial Services Authority
December 29, 2020