Economic substance describes the economic (operational) reality of a corporate structure that has been put in place because of international tax optimization reasons.
In an ever more globalized economy, and especially taking into account the European Union context, it is not the freedom of the establishment, guaranteed under EU law and Treaties, that is being questioned nowadays by Tax Authorities. What is being put into question is whether such structures do reflect the economic/operational reality of day-to-day business.
Taking into account the above-mentioned and, in line with international and European best practices and orientations, the Madeira International Business Center (MIBC or IBCM) was the leading jurisdiction to set up enhanced economic substance requirements for the international services, trading and shipping companies operating within its scope.
In fact, the International Business Center of Madeira, always a subject of Portuguese and European law, paved the way for the European Union Code of Conduct Group assessment of non-EU jurisdictions.
Companies benefiting from the 5% tax, made available to those operating within the Madeira International Business Center, must begin their activities in a period of six months in the case of international services and one year in the case of industrial activities or shipping, counting from the date of licensing and they must observe one of the following enhanced economic substance requirements:
- Create 1 to 5 jobs, within the first 6 months of activity, and make a minimum investment of €75,000 in the acquisition of tangible or intangible fixed assets within the 2 first years of activity;
- Create 6 or more jobs, within the first 6 months of economic activity.
Furthermore, the jobs to be created need to be on a full-time basis and to be performed by residents, for tax purposes, in the Autonomous Region of Madeira, regardless of their nationality. Company directors can obviously count as jobs posts, but need to fulfil the requirements above-mentioned.
In relation to the “investment”, this economic substance requirement foreseen within the rules applicable to the MIBC must involve control of a resource and generate future economic benefits for the company (financial investments/portfolios are excluded from the investment definition). In the case of real estate and IT servers, the investment must occur within the Autonomous Region of Madeira.
The above economic substance requirements needed to obtain the lowest corporate income tax rate in the EU, through the MIBC, make it comply with the OECD and EU guidelines economic substance. This is because:
- It demonstrates that the core income-generating activities have been undertaken in the jurisdiction (i.e.: coordinating group activities; managing stock and taking orders; providing consulting/administrative services; R&D activities; agreeing funding terms; monitoring and revising any agreements, managing risks; taking relevant management decisions, etc…)
- It assures adequate expenditure in the MIBC proportionate to the level of activity and has an adequate physical presence in the MIBC (e.g. office space, facilities and employees).
- It can be used to show that the company is directed and managed in the jurisdiction with regards to the relevant activity (e.g. having board meetings with an adequate frequency, quorum of directors physically present at such meetings, the directors having the necessary knowledge and expertise to discharge their duties as directors, meeting minutes kept in the jurisdiction, etc.).
It goes without saying that investors looking into relocation or incorporation within the Madeira International Business Center are also capable of providing the economic motivation for the operation based on several factors, among which we highlight the following: profit motive, improvement of business position (market share); growth, risk reduction, better control over the operations, leverage and even in some cases the beneficial owner is also relocating to Madeira to live.
Taking into consideration the above, the Madeira International Business Center is one of the leading jurisdictions, within the European Union, to provide the best of both worlds: low corporate taxation and the characteristics needed to assure that internationally recognized substance requirements are met.
Substance levels for a company in the MIBC (or in Portugal) must always be set on a case by case basis. Our team at MCS, with more than 20 years of experience in the sector, is able to assist you in setting up and managing a company within the MIBC or Portugal. For more information click here.
Miguel Pinto-Correia holds a Master Degree in International Economics and European Studies from ISEG – Lisbon School of Economics & Management and a Bachelor Degree in Economics from Nova School of Business and Economics. He is a permanent member of the Order of the Economists (Ordem dos Economistas)… Read more