The economic substance exemption: escaping the claws of the Cayman tax
cayman (ˈkeɪ mən) n., pl. -mans, any of several tropical American crocodilians of the genus Caiman and allied genera
- tax: a type of tax, esp. one perceived by those subject to it as highly complex, unduly intrusive and/or difficult to avoid.
With about 800 codes, a Belgian income tax return is not for the faint-hearted. When the Cayman tax is involved, even more attention is needed. Read all about it here and avoid the Cayman tax pitfalls in your income tax planning.
This week, we analyse the anatomy of foreign entities with economic substance!
Snacks that stick in the cayman’s throat
Earlier in this documentary we already figured out some of the cayman’s favourite food. This week, we learn that the cayman must not get too greedy, as some of the snacks might stick in its throat.
As with some of the cayman’s snacks, foreign entities that are in fact targeted under the Cayman tax can nevertheless escape some of its obligations.
Before continuing the dissection of the preys of this predator in the following episodes, we first analyse the anatomy of these adverse animals.
Analysing the anatomy of adverse animals
Targeted foreign entities can avoid certain obligations under the Cayman tax when the following two conditions are cumulatively met:
- The entity is established in a jurisdiction with which Belgium concluded an agreement on the exchange of information in tax matters; and
- The entity has sufficient economic substance.
A foreign entity will only have sufficient economic substance for Cayman tax purposes when its income is mainly derived from one or more actual economic activities. The management of the wealth of the founder(s) is an excluded activity.
Also, the entity must have premises, employees and equipment at its availability that are proportionate to its actual economic activities.
Whether or not a targeted entity meets the requirements must be assessed on an annual basis.
Privileges of ponderous preys
In principle, the Cayman tax consists of a reporting obligation, a transparency measure (“look-through-tax”) and a tax on (deemed) distributions.
Belgian residents who are the founders of foreign entities that meet the economic substance requirements can however benefit from a light-version of the Cayman tax.
In the light-version of the Cayman tax the look-through-tax is not applicable, meaning that the founder is not taxable on the income received by the targeted entity.
Moreover, the founder cannot be taxed on a deemed distribution when the targeted entity’s assets, shares or economic rights are contributed or when the targeted entity is transferred to a state with which Belgium does not have an agreement on the exchange of information in tax matters.
Such Belgian residents must however still comply with the reporting obligation. In addition to the regular reporting obligations, the appropriate box must be ticked in the income tax return to confirm that the reported entity qualifies for the economic substance exemption.
Also, the tax on distributions must still be considered when such an entity makes an actual distribution.
Book a hotel in the Seychelles
When Julia travelled to the Seychelles for the first time, she fell head over heels in love with the islands. Completely smitten with the deep blue waters and white sandy beaches, Julia decided to stay and started working in a hotel.
While enjoying the island life, Julia worked her way up and took over the flourishing hotel with infinity pool when the former owners retired. Julia owns the hotel via a company in the Seychelles and employs a couple of dozen employees.
Many years later, Julia became homesick. She found a manager who could run the hotel for her and moved back to Belgium.
As the corporate income tax paid in the Seychelles by Julia’s company amounts to less than 15% of the (fictitious) Belgian taxable basis, the company is targeted by the Cayman tax.
However, since Belgium concluded a double tax treaty with the Seychelles and the conditions for the economic substance exemption are met, Julia will not have to report the profits of the hotel in her annual income tax return as the look-through-tax is not applicable.
Evidently, Julia must still report the existence of the company in her annual income tax return and must check the box to confirm that the company meets the economic substance exemption requirements.
The winner does not take it all
Although the cayman is king of the quagmire, caution is required with certain co-inhabitants as the cayman cannot bite off more than it can chew.
As with such adverse animals, foreign entities with sufficient economic substance float on more friendly waters as the look-through-tax and the tax on deemed distributions will not be applicable.
Be prepared for next week, when we go on a hunt for hybrids!
Barbara AlbrechtSenior associate Attorney at Law
Barbara Albrecht, attorney at law, is a member of the Loyens & Loeff Family Owned Business & Private Wealth Practice Group in Belgium and an associate in our Brussels office. She focuses on wealth and estate planning.T: +32 2 773 23 71 E: email@example.com