The addition of the Cayman Islands to the EU blacklist has not come as a shock and is a significant development, but ultimately it is not expected to give rise to any immediate adverse tax consequences. Any long-term implications will depend both on two factors;
(1) If the listing temporary or more permanent status and;
(2) the perceptions of stakeholders and investors, particularly for EU based investors. We have considered some of the key questions arising below, particularly those relating to the funds industry.
The EU Blacklist
The purpose of the EU blacklist is to assist European Member States in taking a more robust approach towards jurisdictions which are perceived to be encouraging abusive tax practices. The objective is said to be to encourage cooperation from the listed jurisdictions rather than to name and shame them. However, the association of a blacklisting with the EU blacklist does bring reputational damage.
Abusive tax practices are tax regimes which provide for a low or zero rate of tax without requiring a sufficient degree of connection to, or substance in, the relevant jurisdiction, or which do not provide for an adequate degree of transparency, or which do not correspond to internationally accepted principles of profit determination.
The Cayman Islands Blacklisting
The Cayman Islands was originally on an EU grey list due to the existence of “tax regimes that facilitate offshore structures which attract profits without real economic activity”.
The government of the Cayman Islands then passed new legislation on 4 February 2020 to further enhance its regime for private funds. However, it was not enacted before the EU’s Code of Conduct Group met and the EU has stated that the “Cayman Islands does not have appropriate measures in place relating to economic substance in the area of collective investment vehicles”.
While the Cayman Islands did introduce economic substance requirements for certain Cayman entities, the EU believed that these requirements were insufficient, specifically in the area of collective investment schemes. As a result, the Cayman Islands was ultimately blacklisted as a result of a failure to introduce new laws relating to private funds within the necessary timescale. Almost immediately after the announcement of the listing the Cayman Islands government contacted EU officials to begin the delisting process from the EU blacklist, which is expected to be no sooner than October 2020.
The impact, whilst unknown at this time, is expected to be minimal but this depends on the longevity of the blacklisting. Immediate implications are not expected. However, the EU Council issued (non-binding) guidance in December 2019 inviting all EU member states to apply legislative ‘defensive measures’ against jurisdictions on the EU blacklist from 1 January 2021 or earlier, to encourage blacklisted jurisdictions’ compliance with EU requirements on fair taxation and transparency.
Under that 2019 guidance, defensive measures could include administrative measures such as:
- Reinforced monitoring of transactions;
- Increased audit risks for taxpayers benefiting from or with structures or arrangements in the Cayman Islands.
And legislative measures on:
- Non-deductibility of costs;
- Application of CFC rules;
- Imposition of withholding tax; and/or
- Limitation of any participation exemption on profit-distribution.
While it remains to be seen whether defensive measures will be adopted by individual EU member states by January 2021, the Netherlands and France have already taken the lead and introduced some measures against jurisdictions on the EU blacklist, including the Netherlands applying new controlled foreign company (‘CFC’) rules to entities in blacklisted jurisdictions and France imposing a 75% withholding tax on various payments to certain entities resident in blacklisted jurisdictions. If the Cayman Islands is removed from the EU blacklist by October 2020, any defensive measures introduced by individual EU member states will not then apply.
Marketing Cayman Funds
Cayman Islands addition to the EU blacklist does not impact how Cayman Islands investment funds are marketed in the EU under the Alternative Investment Fund Marketing Directive (‘AIFMD’). It also does not affect the conclusion of the OECD’s Forum on Harmful Tax Practices in July 2019 that the Cayman Islands’ domestic legal framework is in line with the OECD’s standard and not “harmful” to the global economy. Neither does the EU consider the Cayman Islands to be a “tax haven”.
DAC 6 reporting
Additional reporting of cross-border tax arrangements and payments by an EU entity to an associated entity in the Cayman Islands may also be required under the EU Mandatory Disclosure Rules (“DAC 6”) from 31 August 2020, following the addition of the Cayman Islands to the EU blacklist. However, clarification is required on this point.
While the addition of the Cayman Islands to the EU Blacklist is a defining moment in the reshaping of tax laws across the EU it is also one that may be subsequently reversed when the annual review takes place in October 2020. As noted, the Cayman Islands had introduced legislative changes aimed at meeting substance requirements earlier this month and from the immediate response provided by the Cayman Island government it would appear they are determined to implement the necessary policies and legislation to ensure their timely removal from the EU blacklist.