Offshore treasure

Even with sharp eyes, one can hardly notice some offshore jurisdictions – many are tiny islands – on a world map demonstrating China’s overseas investment routes and hotspots. However, their size does not match their importance in Chinese companies’ global business expansion.

Once, the lure of paying much less tax than at home was perhaps one of the key reasons attracting Chinese companies. Now, a fast-growing number of Chinese investors have realized the value of offshore jurisdictions as convenient platforms for overseas trade and investment, and as sophisticated providers of cutting-edge financial regulations. Although offshore financial centres have embraced more tax transparency, their attractiveness to Chinese companies does not seem to have declined, but rather, seems to grow stronger.

Offshore jurisdictions such as the Cayman Islands, British Virgin Islands (BVI), Jersey, Guernsey, Bermuda and the Isle of Man, have been seeing high volumes of Chinese investors who are interested in tapping into foreign markets.

Chinese investors are assured by well-developed offshore financial services industries led by service providers in such sectors as investment funds and asset management, banking, insurance, reinsurance, capital markets and trusts, according to Paul Christopher, the managing partner of the Hong Kong office of Mourant Ozannes.

Christopher says that while it is more common to see the use by Chinese companies of BVI and Cayman vehicles to structure their overseas investments, other offshore jurisdictions such as Jersey and Guernsey also have “world-class service providers providing a tax-neutral, efficient hub connector for capital and financing around the world”.

As China boosts its outbound investment, as embodied in its recent Belt and Road initiative, offshore jurisdictions are likely to carry more weight in Chinese companies’ global business plans. “We expect both the Cayman Islands and BVI will play valuable roles in structuring transactions that support One Belt, One Road,” says Christopher. Mourant Ozannes advised financiers on the US$1.39 billion facility to fund the Karot hydropower project in Pakistan, the first infrastructure project financed by the Silk Road Fund. That transaction involved the use of BVI structures.

BVI AND CAYMAN

Catherine Ross, a partner at Forbes Hare in London, says it is important to stress that the popularity and success of the BVI and Cayman Islands do not necessarily lie just in their favourable tax regimes − although that factor is important.

Christopher says that while it is more common to see the use by Chinese companies of BVI and Cayman vehicles to structure their overseas investments, other offshore jurisdictions such as Jersey and Guernsey also have “world-class service providers providing a tax-neutral, efficient hub connector for capital and financing around the world”.

As China boosts its outbound investment, as embodied in its recent Belt and Road initiative, offshore jurisdictions are likely to carry more weight in Chinese companies’ global business plans. “We expect both the Cayman Islands and BVI will play valuable roles in structuring transactions that support One Belt, One Road,” says Christopher. Mourant Ozannes advised financiers on the US$1.39 billion facility to fund the Karot hydropower project in Pakistan, the first infrastructure project financed by the Silk Road Fund. That transaction involved the use of BVI structures.

BVI AND CAYMAN

Catherine Ross, a partner at Forbes Hare in London, says it is important to stress that the popularity and success of the BVI and Cayman Islands do not necessarily lie just in their favourable tax regimes − although that factor is important.

Nathan Powell, a partner at Ogier in Hong Kong, observes that “the quick turnaround time, whether in terms of incorporation services or legal advice, during the Asian working day, plus the common law-based legal systems have all been contributing to the popularity of using a Cayman or BVI SPV in this context”.

The surge in bond transactions with a Cayman or BVI SPV issuer started at the time when the central government liberalized offshore bond issuances two years ago. Under China’s Belt and Road initiative, the policies have made direct issuance an easier and more attractive option for Chinese issuers.

Cayman has become a respected centre of excellence as a domicile of alternative investment funds, structured finance and financing transactions. “Institutional investors have done extensive due diligence on structures based in the Cayman Islands and have faith in Cayman as a legal jurisdiction for these transactions,” says Jude Scott, the chief executive officer of Cayman Finance. “They know Cayman is reliable, safe, transparent and trusted, and that his or her business counterparts think the same way about Cayman.”

NEW CORPORATE STRUCTURES

The Limited Liability Companies (LLC) Law, 2016, of the Cayman Islands came into force on 8 July 2016. “The LLC is a hybrid entity, merging certain characteristics of a Cayman Islands exempted company with those of a Cayman Islands exempted limited partnership,” says Judy Lee, a partner at Appleby in Hong Kong.

Lee says the affairs of an LLC are not governed by memoranda and articles of association, but by its operating agreement, which must be governed by Cayman Islands law. “As the law in many instances defers to the operating agreement, members of an LLC have great flexibility in deciding on their LLC’s structure and the provisions under which it is to be governed,” she says. “Members of an LLC may have capital accounts and make capital contributions, with profits and losses allocated among those members as provided in the operating agreement.”

David Lamb, a partner in the Hong Kong office and co-chairman of Conyers Dill & Pearman, says: “The introduction of LLCs, the 21st century version of the 19th century company, will grow in popularity, especially for joint ventures and private holding companies.”

Paul Cheuk, a counsel at Appleby in Hong Kong, says the LLC provides a significant alternative structuring option to complement the existing choice of vehicles in the Cayman Islands. “We believe many clients will embrace the LLC as the suitable form of business vehicle in appropriate circumstances, including the structuring of investment funds, where the LLCs are used as the general partner or the investment manager, corporate transactions requiring joint venture or special purpose vehicles and venture capital and private equity structures,” he says.

Christopher, from Mourant Ozannes, says that the use of LLCs will enable a closer matching of the legal framework applicable between onshore and offshore investors in an investment fund or other corporate structure. “As a fund vehicle, the LLC will also allow for simplified fund administration, with its increased flexibility facilitating easier tracking or calculating of a member’s investment in the LLC,” he says.

The BVI has introduced a Limited Partnership Bill in the past year. Elise Donovan, a Hong Kong-based director at BVI House Asia, says that the bill provides “modern, bespoke” legislation for the formation and operation of limited partnerships. “It has been designed with the requirements of private equity and venture capital in mind,” she says.

The BVI has also established the BVI International Arbitration Centre (BVI IAC), which will administer arbitrations under its own rules. Donovan says that the IAC will also offer premises and support services to ad hoc arbitrations or arbitrations administered by other institutions. “BVI arbitrations can be administered anywhere in the world, providing the facilities are conducive to arbitration proceedings,” she says.

AEOI COMPLIANCE

Many regulatory changes in BVI and Cayman Islands concern the move towards global tax transparency, in keeping with various OECD initiatives.

Jonathan Culshaw, the Hong Kong-based Asia managing partner at Harneys, says the most important change to the regulatory landscape is the introduction of the Automatic Exchange of Information (AEOI) – in the form of the implementation of:

  1. Model 1B inter-governmental agreement (IGA) with the US, which effectively provides the framework for the implementation of the US Foreign Account Tax Compliance Act (FATCA) in the BVI and the Cayman Islands; and
  2. The OECD’s sponsored Multilateral Competent Authority Agreement, which was extended to the BVI and Cayman
    Islands by the UK, and various bilateral agreements (termed tax information exchange agreements) on the AEOI. They form the framework for the Common Reporting Standard (CRS).

BVI and the Cayman Islands have ratified the IGA and the CRS into municipal law. In BVI, the International Tax Authority (ITA) is the relevant government department responsible for administering the effective operation of the IGA / FATCA and the CRS. In the Cayman Islands, the responsibility is on the Department for International Tax Co-operation (DITC) and the department’s Tax Information Authority (TIA).

“To the extent that Chinese companies are transacting business, and as part of the structure, there are elements touching and concerning BVI and Cayman Islands law and practice, the parties to the transaction will need to bear the above regimes in mind as there will be obligations that need to be complied with under the local law,” says Culshaw. “Failure to comply with the regimes could lead to possible enforcement action being taken.

Both the BVI and Cayman Islands have introduced legislation that facilitates the establishment and maintenance of a centralized electronic platform of beneficial ownership information. Information in the registers can be uploaded and made available through the centralised platform to the competent authority.

“The introduction of these central beneficial ownership registers is viewed as an appropriate and effective way to improve transparency in support of internationally adopted and practised standards, while continuing to protect the privacy of legitimate commercial interests in both jurisdictions,” says Ross, from Forbes Hare.

Like many of the 100 or more committed jurisdictions, BVI and Cayman Islands are early adopters of the CRS. Donovan, from BVI House Asia, says the jurisdiction agreed to exchange information with the first group of participating jurisdictions by September 2017, and there are some reporting obligations for financial institutions.

Under the framework of Cayman Islands CRS, each Cayman Islands reporting financial institution must have written policies and procedures, stating how the entity will address its obligations on issues such as due diligence, record keeping, notification of the required information and reporting to the Cayman Islands Tax Information Authority via the Cayman AEOI portal. These written policies must also state whether or not there will be appointment of any third parties, and co-operation with the TIA’s compliance measures.

To assist reporting financial institutions with complying with these obligations, the DITC has prepared CRS guidance notes. “The CRS guidance notes make clear that the Cayman Islands reporting financial institution will need to have its own written CRS policies and procedures in place, even where the investment entity is delegating the CRS obligations to a third-party service provider such as an administrator,” says Denise Wong, a partner at Walkers in Hong Kong.

She adds that where the entity is delegating the CRS obligations to a third-party service provider, the investment entity’s written policies and procedures should describe what functions have been delegated, the management/oversight of the delegation, and the performance of any CRS obligations that have not been delegated.

According to Wong, the DITC has issued an industry advisory regarding CRS, US FATCA and the UK’s Crown Dependencies and Overseas Territories International Tax Compliance Regulations (UK CDOT). Chinese companies should note the following key deadlines:

  • 30 June 2017: Deadline to notify the Cayman Islands Tax Information authority if an entity is a reporting financial institution or non-reporting financial institution under CRS (in future years, the deadline to notify the TIA will be 30 April);
  • 31 July 2017: Deadline to submit AEOI reports for the 2016 reporting period in respect of any reportable accounts and to file a nil return in respect of those reportable jurisdictions for which it has no reportable accounts (in future years, the deadline to submit AEOI reports will be 31 May); and
  • 31 December 2017: Deadline to complete due diligence on pre-existing “lower value” individual accounts and pre-existing entity accounts under CRS.

CROWN DEPENDENCIES

The Isle of Man is becoming increasingly popular for Chinese business start-ups and investment due to its low personal taxes, zero corporate tax, direct incentives such as grants up to 40% of investment, and other sources of enterprise funding.

“The Isle of Man is like Singapore, providing a real international business base for operations, but which are best suited to the UK and EU markets,” says Steven Beevers, the head of special projects at the Department of Economic Development on the Isle of Man.

News source: China Business Law Journal

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