Having an offshore company has lots of reasons other than tax avoidance, here are some examples:
- Political and economic stability;
- Global clientele;
- Geographical location;
- Lower overhead, accounting costs;
- Better or cheaper communications;
- Easier special licensing if needed.
As we already know, setting up offshore company is quiet straight forward and actually easy thing to do, BUT running the company in a safe, proper and smart manner is not that easy at all.
There are several aspects that one should consider when setting the company up, furthermore when running the company. Now, this is not something new, and I have mentioned this in few other blogs, however I want to point the importance out once again, deeper and this time shift to some even more, and lately proven to be important aspect - business address and account records place.
What is understood by corporate residence (aka Mind and Management):
The test was established in De Beers and the principles still apply today, “A foreign corporation may reside in this country for the purposes of income tax. The test of residence is not where it is registered, but where it really keeps house and does its real business. The real business is carried on where the central management and control actually abides.
Whether any particular case falls within that rule is a pure question of fact, to be determined not according to the construction of this or that regulation or by-law, but upon a scrutiny of the course of business and trading.”
Consider the below activities twice when incorporating company as well as when running it:
- Meetings of the board of directors;
- Execution of legal and business documents;
- Corporate banking;
- Address and phone numbers of the head office;
- Accounting records and bookkeeping maintenance as well as all records;
- Residency of the directors ;
- Residency of all other authorized signatories or Power of Attorney holders.
Thoughtful thoughts form past cases:
1. General test
In De Beers, the company registered and incorporated in South Africa, was held to be resident in UK. Trading operations, resale of diamonds, and head office was in SA, while the board of directors, firstly, most of them lived in UK, secondly, they were also exercising their powers in UK, most and main meetings were held in UK, while only decisions regarding mining operations were done in SA. Court concluded that the test for residency is not where the company is actually registered, but where it keeps house and conducts its real business.
2. Ruling confirmed
Same ruling as confirmed in a later case of Unit Construction. Here, the company was registered in Kenya, but different here was not the fact that board of directors would have held their meetings elsewhere, but that the decisions were made by the parent company in UK. Result was that the subsidiary companies were held to be resident in UK.
Both above cases confirm that place of residency is primarily a question of fact, and that highest business control is what counts, either board of directors, parent company, shareholder, if control over company is found.
3. Dual residence
UK courts have found that in some cases dual residence could in fact be applied as well. In Swedish Railway Company v Thompson case there was no active trading at, simply administrative control which was divided between UK and Sweden, and courts found that even though company may be resident abroad, it was also resident in UK for tax purposes. This was also considered in Unit Construction case, not applied, but very useful commentary on dual residence can be found on this subject.
4. Thinking outside the box
Interesting and recent case is News Datacom, where company registered in Hong Kong held a board meeting in UK. What makes this case interesting, is the fact that here it was recognized that not everything that is done by the directors constitutes management and control, and found that having that meeting in UK, did not make the company resident in UK, based on the findings that the functions exercised represented mere administration and not control. Nevertheless, this was a special case, and having board meetings outside, especially in high tax countries, is not a good idea at all.
Business Address role:
Above is some leading precedents form case law, nevertheless some countries don’t have common law system, but civil law system, hence there are laws, codes of conduct, corporate governance principles etc., moreover they all differ, each company’s specific corporate governance choices have to be considered depending of the corporate governance regime in that particular country. And further, codes of conduct and corporate governance principles are being taken into account in common law countries as well, when making decisions. When looking at some wider principles of corporate governance (OECD, FATF, IOSCO), some researches done on this subject, then it is clear that some of the duties are covered in several of these documents.
These mainly dominant duties of the board does include responsibilities, such as, managing, guiding and reviewing, overseeing all corporate strategies, reviewing account records and further to be able to access all needed information. So, my understanding is that it is somewhat important for the corporate accounting records to be kept also where the board is, to be able to oversee this as well as insuring that in case the information is needed it is accessible.
I don’t think one would like to risk it and have their company be declared in some high tax jurisdiction over something that was simply not thought through. When you operate company offshore in order to accumulate profit and grow your business, think about business address being elsewhere as well, especially with the requirement in some jurisdictions, for the accounting records declaration to be signed indicating where the accounts will be kept and with whom.
What is the solution to avoid this in advance?
Article 4, paragraph 3 of the OECD Model Tax Convention (July 2008) defines the place of effective management as: ‘the place where key management and commercial decisions that are necessary for the conduct of the entity’s business as a whole are in substance made. All relevant facts and circumstances must be examined to determine the place of effective management. An entity may have more than one place of management, but it can only have one place of effective management at any one time.’ First, make sure effective management takes place where the central management and control of your company is! Make sure the role of directors is not simply “nominal”, but it is real, Power of Attorney usage may not be the best solution for main contract executions and account management.
Very important, when establishing corporate residence, for the activities to be run through the company’s board at the boards meetings, for this to be evidenced through regular meetings, which also have to be supported by minutes and attended by all directors. Evidence for decisions should be prepared and kept with the minutes to support same.
As seen from past cases, main point to take here is that it is not the only importance to have directors to turn up in some meetings, receive their director fee, but what is more important is that they have to be more actively involved in the management of company’s business, so again, we see that this can be achieved only through a proper board meetings, otherwise company’s tax residence will not be the one where directors meet, but instead where those who influence company’s management are based .
Better safe than sorry
Thank you for reading my post! And you are welcome to leave comments, feedback, suggestions for other posts or contact me for more information.
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