Back off black

The Cayman Islands is a popular jurisdiction among Asian investors, especially Chinese companies, looking to structure their overseas businesses and cross-border transactions for tax efficiency. The regulatory regime there, and the presence of many of the world’s leading financial services, have established Cayman as a top jurisdiction for international investment funds.

In recent years, the EU has taken action to scrutinize non-cooperative jurisdictions based on a criteria of tax transparency, fair taxation, and compliance with the Base Erosion and Profits Shifting (BEPS) requirements initiated by the Organisation for Economic Cooperation and Development (OECD).

A number of offshore jurisdictions have responded by reforming their economic substance requirements to comply with the EU’s fair taxation principle that “a jurisdiction should not facilitate offshore structures or arrangements, aimed at attracting profits, which do not reflect real economic activity in the jurisdiction”.

The EU blacklist, which is called Annex I, comprises non-EU countries that encourage abusive tax practices that could erode member states’ corporate tax revenues. This list, compiled by the Economic and Financial Affairs Council (ECOFIN), was earlier updated annually, but since 2020 the list is being updated twice a year, with 6 October being the latest update.

“Investors had been surprised by that news and have been supportive of Cayman as they understand the benefits of Cayman in connecting parties around the world to do business with each other,” says Jude Scott, chief executive officer (CEO) of Cayman Finance.

“Cayman was only added to the list of non-cooperative jurisdictions in February 2020 and it had been widely recognized at the time that this was more an issue of process, and not a broader concern about Cayman’s substantive commitment to co-operation with the EU on tax,” he says.

Fiona Chan, a corporate partner at Appleby’s Hong Kong office, says that the surprise was reasonable, as Cayman had just passed new regulations on 7 February 2020 to enhance its oversight of investment funds. The Private Funds Law, 2020, requires closed-ended funds formed to register with the Cayman Islands Monetary Authority (CIMA) and the Mutual Funds (Amendment) Law, 2020, removed the small fund exemption, for those with fewer than 15 investors. Cayman later registered more than 12,300 private funds with its monetary authority by August 2020.

“The October meeting was the first opportunity for the finance ministers of the EU member-states to revisit Cayman’s status on the EU List,” says Chan. “At that meeting, they endorsed the assessment of the EU’s code of conduct group on business taxation, that Cayman had addressed all the outstanding concerns.”

Paul Christopher, a managing partner at the Hong Kong office at Mourant, agrees. “This new legislation only came into force after the EU’s deadline on determination of compliance,” he says. “So the listing was an issue on timing, rather than substantive non-compliance.”

The removal of the Cayman Islands leaves 12 jurisdictions on the blacklist, namely: American Samoa, Anguilla, Barbados, Fiji, Guam, Palau, Panama, Samoa, Trinidad and Tobago, US Virgin Islands, Vanuatu, and the Seychelles.

Impact on businesses

Despite the reasons behind the blacklisting, the EU’s decision to recognize the Cayman Islands as a cooperative jurisdiction was praised as a positive development. Managing total assets of about US$6.9 trillion, according to the CIMA’s 2018 Investments Statistical Digest, the Islands’ financial services industry provides great benefits for its European clients.

“We spoke with many managers in the period after the blacklisting,” says Niall O’ Dowd, an executive director of DMS Governance’ s Cayman Islands office. “A few managers postponed fund launches, which is of course not helpful for Cayman.”

“Since the removal [from the blacklist] we have seen increased enquiries, with managers looking to launch their structures by the end of the fourth quarter. So we don’t expect to see an effect on the popularity of the jurisdiction.”

The removal from the list also reinstated Cayman as one of the leading offshore domiciles for investment fund formation. “As a firm, we have seen an increase in the number of establishments of Cayman Island fund structures even since the EU announcement was made,” says Scott.

“The EU’s recognition of the Cayman Islands as cooperative on both transparency and fair taxation is an important validation of Cayman’s commitment to a responsible policy of tax neutrality that offers exceptional benefits to investors while posing no harm to other countries,” he says.

However, Christopher says the blacklist does not have a significant impact for the Asian legal market, and he sees little concern in the region about the Cayman removal from the blacklist, as any discussions related to this development were limited with institutions linked to the EU.

“It has had no obvious impact that we are aware of,” he says. “The significant challenges that have been raised recently relate to the wider geopolitical environment and the global impact of covid-19.”

Appleby’s Chan believes that Cayman will remain committed to adopting the highest international standards as it evolves and introduces regulatory changes as appropriate. “Our experience suggests that placing the Cayman Islands on the EU list has not, in practice, had a significant impact on the market or our business in this region,” she says.

Beyond blacklisting

With regard to future regulatory changes and tightening of rules, the EU had requested Cayman to enhance economic substance for funds beyond the global OECD requirements.

“Cayman has worked closely with the EU to respond and clarify all outstanding issues raised during the ECOFIN assessment process in a transparent and cooperative way, based on international best practice, international law, and respecting the independent sovereignty of Cayman, and that co-operation and engagement will continue going forward,” says Scott.

O’Dowd expects to see further developments in the anti-money laundering/combating the financing of terrorism (AML/CFT) standards, and regulation related to the BEPS inclusive framework.

“There is a significant focus on tax avoidance across all countries, as we can see with the anti-tax avoidance directive within the EU, in alignment with BEPS principles,” he says. “Cayman’s economic substance regime has also been implemented in accordance with these principles.

“Periodic evaluations by international standard setters such as the FATF [the Financial Action Task Force] and the OECD are expected to focus on regulatory effectiveness, especially with respect to the existence and use of enforcement functions such as monetary penalties.”

Chan warns that businesses structuring via the Cayman Islands should be aware, and stay appraised, of any developments in Cayman’s regimes relating to beneficial ownership registration, economic substance, anti-money laundering, counter-terrorism financing and proliferation financing, and securities investment business, as well as international sanctions extended to the Cayman Islands by the UK.

For the Asian market, Christopher says strengthened regulation will make the island more appealing due to the structural and operational benefits. “These include a well-established infrastructure to support fund formation, recognition of that by investors and managers, all supported by a well-respected legal and judicial system based on English common law, tax neutrality and benefits from economic and political stability,” he says.

Cayman is expected to remain a premier global tax-neutral financial hub. The neutral platform enables parties from around the world with differing laws, regulations, tax structures and customs to benefit from doing business with each other.

“A key consideration for investors in the Cayman Islands is our tax-neutral regime, which does not add an extra layer of taxes to transactions,” says Scott. “Our tax-neutral regime alleviates any risk to investors of double taxation on cross-border transactions by automatically allocating its taxing rights to the other country, which is free to fully apply its domestic tax policy on the cross-border transactions.”

(Via Press Release)

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