Economic substance
Economic substance
- What it is
- A requirement for a company to actually carry on business where it is registered
- What is checked
- Employees, an office, expenses, the place where decisions are taken, alignment of activity
- Why it was introduced
- So that companies are not registered in a jurisdiction solely for its tax regime
- Consequences
- Penalties, loss of benefits, refusal by banks, questions from another country’s tax authority
- The practical conclusion
- An empty company in a convenient jurisdiction no longer works
In plain words
Economic substance is the requirement for a company to actually carry on business in the jurisdiction where it is registered rather than exist there only on paper. The concept has become central to international taxation in recent years and has changed the approach to structuring.
Very specific things are checked: whether there are employees with the right qualifications, whether there are premises, whether the company incurs real expenses, where management decisions are actually taken, and whether the declared activity matches the real one. The requirements usually depend on the type of activity: they are lighter for a holding company and stricter for a trading or financial company.
The consequences of non-compliance are multi-layered. The jurisdiction of registration may impose penalties and withdraw the preferential regime. A bank may refuse to open an account or close an existing one. The tax authority of the country where decisions are actually taken may treat the company as its tax resident, with everything that follows. That is why the question of substance is settled before registration, not after.
When it is critical
What is assessed
- Employees in the jurisdiction
- Qualifications for the activity
- Genuine employment relationships
- Office or premises
- Operating expenses
- Infrastructure
- Where decisions are taken
- Board meetings
- Directors’ residence
- Alignment with what is declared
- Income from real operations
- Reporting
How to ensure substance
- 01Establish the requirements for the activity
- 02Provide people and premises
- 03Take decisions locally
- 04Document the activity
- 05Complete the reporting
What you need to know
- Requirements depend on the type of company activity
- A registered address does not equal economic substance
- The place where decisions are taken may determine tax residence
- Banks check substance when opening an account
- Non-compliance leads to penalties and loss of benefits
Common mistakes
- Treating a nominee director as sufficient substance
- Taking all decisions from another country
- Registering a company without a plan for substance
- Not keeping records of the activity
- Leaving old structures unreviewed
What this means for a BRIDGES client
We review the client’s structure before filing: where the companies are registered, whether they have real substance and how this will look after your change of residence. Empty companies raise questions both at the bank and in the check.
Frequently asked questions
01 /What is economic substance?
The requirement to actually carry on business in the jurisdiction of registration: to have employees, premises and expenses and to take decisions locally.
02 /Is a registered address enough?
No. An address is a formality. Substance is assessed by people, expenses, activity and the place where decisions are taken.
03 /Are the requirements the same for everyone?
No, they depend on the type of activity: usually lighter for holding companies and stricter for trading and financial ones.
04 /What happens in the event of non-compliance?
Penalties, loss of the preferential regime, refusal of banking services and sometimes the company being treated as tax resident in another country.
05 /Does a nominee director help?
As a rule, no. What is checked is where decisions are actually taken, not who is formally listed in the register.
06 /When should this question be settled?
Before the company is registered. Ensuring substance means real costs that need to be built into the structure’s budget.
See also
Read next
This material has undergone editorial review by BRIDGES.
Have companies in preferential jurisdictions?
We will check them against substance requirements — before the regulator does.