The year 2018 came to a close just like the previous year ended: with Cayman attempting to stave off a blacklisting by the European Union.

In late December, lawmakers passed three bills designed to require Cayman-registered companies to demonstrate they have sufficient economic activity on island in terms of management presence, office space and qualified employees to justify the profits they make.

The new legislation was part of a commitment made by the government in December 2017 that it would address EU concerns over Cayman’s tax system by the end of 2018.

These concerns relate mainly to companies using tax structures that attract taxable profits to low- or no-tax jurisdictions, even though they have little or no economic presence there.

The new legislation imposes a substance test on banking, insurance, fund management and shipping companies, as well as entities functioning as headquarters or distribution and service centers, and businesses engaged in financing and leasing or holding intellectual property.

Under the proposed legislation, companies active in the relevant fields will pass the economic substance test if they conduct core income-generating activities on island; incur an adequate amount of operating expenditure in Cayman; have a physical presence locally; and have an adequate number of full-time staff locally.

In addition, the company must be directed and managed from Cayman with regular board meetings held and minutes of strategic decisions kept on island.

Relevant companies must file a report with the Tax Information Authority each year. If the authority deems that the company has not passed the substance test, it will notify the company of its reasoning and has the power to issue a penalty of $10,000.

If the substance test is failed in the subsequent year again, the penalty increases to $100,000 and the company can be struck off.

The economic impact of the measure is not clear, with speculation ranging from an influx of workers hired by companies forced to demonstrate substance to an exodus of companies that are unable to.

According to Premier Alden McLaughlin, exact data is not available but rough estimates suggest up to 20,000 companies could be subject to the law.

Meanwhile, several offshore law firms advised that they expect few of their clients to be impacted in Cayman or any of the other territories that had to enact similar legislation.

The passage of the substance legislation, however, was not enough to keep the Cayman Islands off a new blacklist of 21 low-tax jurisdictions issued by the Netherlands on Dec. 28.

Beneficial ownership

The debate over public beneficial ownership registers saw another turn in May 2018, when the House of Commons passed the Sanctions and Anti-Money Laundering Act.

The law included a controversial opposition amendment that forces the U.K. government to issue an order in council to British Overseas Territories to establish public registers detailing the true owners of companies and other entities registered there.

The transparency drive, motivated by the belief that it would aid the fight against money laundering, tax evasion and financial fraud, received significant pushback in the territories.

Premier McLaughlin called the move by British lawmakers “a potential constitutional overreach” given that financial services is a policy area that is devolved to the territories.

Orders in council are a power that dates back to the colonial times, he noted, and should only be employed in exceptional circumstances.

The “colonial” notion of the measure was emphasized by the curious fact that it was applied only to the distant overseas territories but not the much closer Crown Dependencies in the English Channel and the Irish Sea – Guernsey, Jersey and the Isle of Man.

The Cayman Islands government subsequently obtained legal advice suggesting that it would be futile to fight the British legislation itself. Instead, the government announced that it would legally challenge the order in council if it were ever issued.

In addition, Cayman has requested constitutional safeguards in discussions with the Foreign and Commonwealth Office that will confirm that its government has autonomous capacity in respect to domestic affairs, and that the U.K. will not seek to legislate, directly or indirectly, for the Cayman Islands without consultation.

Lord Tariq Ahmad, the minister responsible for the British Overseas Territories, said at the Joint Ministerial Council in December that once an order in council was issued, the territories would have until 2023 to establish operational public beneficial ownership registers.