Why the landscape for Monegasque residents holding investments through EU holding companies may significantly change?

In a nutshell

On May 12th, 2022, the Committee on Economic and Monetary Affairs of the European Parliament produced a draft report on the proposal for a Council Directive on shell entities. 

If adopted, this directive shall prevent the misuse of EU shell entities (entities that do not have minimal substance in their country of incorporation) for tax purposes.

According to this draft, any EU company accruing passive income, engaged in cross-border activities and outsourcing its own administration, may be considered as a shell company provided it does not meet certain minimum substance indicators: 

• having premises for exclusive use in the country, 
• having at least one bank account of its own and active in the EU,
• having a director residing in the country of incorporation of the company or having a sufficient

number of employees engaged in its main income generating activities.

A deemed shell company will be no longer able to obtain a certificate of tax residence from its EU country of incorporation.

Monegasque residents who hold companies deemed as shell companies under these new rules, could be subject, in the country where their investments are based, to withholding taxes that were not previously applied. 

If the date of entry into force of this draft directive seems far away (1 January 2025), the kind of cross-border restructuring that may be required to mitigate the adverse tax consequences of these new rules could be time consuming, thus we recommend our Clients to swiftly assess the impact that these rules could have on their current investment structures, and if needs be, take necessary measures to mitigate such impacts.

Why the landscape for Monegasque residents holding investments through EU holding companies may significantly change?

Considering the very limited network of double tax treaties signed by Monaco and the fact that the activity of holding company is forbidden in the Principality, it is a common practice for Monegasque residents to vehicle investments through holding companies incorporated in European Union (“EU”) countries (Luxembourg, Cyprus and Malta, being some of the mainly chosen jurisdictions). However, the landscape for this kind of holding structures could significantly change in the coming years if ATAD 3, and namely the EU draft Directive on shell companies, come into force. 

ATAD 3 and the EU draft Direct on shell companies

On May 12th, 2022, the Committee on Economic and Monetary Affairs of the European Parliament produced a draft report on the proposal for a Council Directive on shell entities, published on December 22nd, 2021.

The purpose of the draft directive is to lay down rules to prevent the misuse for tax purposes of shell entities, i.e.: entities that do not have minimal substance in their country of incorporation. 

Such Directive, if enacted, shall be transposed into EU countries’ national law by June 30th, 2023 and would come into force as of January 2025.

Here below you will find, in a nutshell, the content of the Directive, and mainly, how the implementation of such Directive may impact individuals and companies residing/established in Monaco.

Which companies are at risk?

Any company or entity, tax resident of an EU country, which:

• accrues passive income (such as interests, dividends, royalties, incomes from immovable property, or movable property held for private purposes, services outsourced to associated enterprises…) 
• is engaged in cross-border activities and 
• outsources its own administration, in particular to professional third-party service providers or equivalents (exemptions are however provided).

Entities considered at risk will have to declare each year at the time of submission of their annual CIT return, certain key information in order to prove that they meet all the indicators of minimum substance (see question below).

When will such companies be presumed to be shell companies?

A company or an entity at risk will be presumed to be a “shell” company to the extent the latter cannot prove that it fulfils all of the following requirements (indicators of minimum substance):

• having premises for an exclusive use in such country,
• having at least one owned and active bank account in the EU,
• having one director residing in the country of incorporation of the company (or close to it) and dedicated to its activities or, alternatively, a sufficient number of employees that are engaged with its core income generating activities.

A company presumed to be a shell company should still be able to:

• rebut this presumption under certain conditions, or
• enjoy of a safe harbour rule, in the case the company can prove that its existence does not reduce the tax liability of its beneficial owner or of the group.

What would be the tax consequences for such shell company?

The directive intends to neutralize or disallow any tax advantages which have been obtained, or could be obtained, by the misuse of the presumed shell company.  

Therefore, should an EU company be deemed as a “shell” company, the country of incorporation of the shell company will not issue a tax residence certificate to such company.

As a consequence:

– countries of the source of revenues/investments may apply withholding taxes on such revenues, according to domestic law, disregarding any double tax treaty signed with the country of incorporation of the shell company (or EU Directive) and as if such revenues were directly accrued by the shareholder/s of the company;

– the country of the shareholder/s (individuals or companies) of the shell company (notably an EU country) could disregard the shell company and tax the revenues accrued by it as if they were directly accrued by the shareholder.

What are the consequences in Monaco?

While Monaco has an economic development model that follows the international requirements advocated by the OECD, the relevant directive is driven by the European Union. Monaco is therefore under no obligation to transpose this directive into domestic law.

However, Monegasque residents who directly or indirectly hold holding companies incorporated in EU countries could be affected by these measures.

Indeed, in the case such companies cannot obtain a certificate of tax residence, countries where the investments are based may apply withholding taxes that were not priorly applied.

Depending on the kind of income (capital gain, dividends, interest, royalties, etc.) and the country, such withholding taxes may usually reach rates between 10% and 30%, or even higher for specific cases and jurisdictions.

What do we recommend?

While the date of entry into force of the Directive seems far, in our experience, cross-border reorganizations may take longer than expected and may also draw tax administrations’ attention. 

We would therefore recommend to Monegasque residents who hold holding companies incorporated in the EU to:

– assess whether such companies fulfil the conditions to be considered at risk;

– assess whether such companies pass the shell company’s test (review of indicators of minimum substance)

– in case such EU were to be deemed as shell companies, assess and implement tailor-made remedies ensuring that the minimum substance requirements are fulfilled.

We will be happy to further discuss this matter with you.

By Gordon S.Blair Law Firm, Monaco, a Transatlantic Law International Affiliated Firm. 

For further information or for any assistance please contact monaco@transatlanticlaw.com

Disclaimer: Transatlantic Law International Limited is a UK registered limited liability company providing international business and legal solutions through its own resources and the expertise of over 105 affiliated independent law firms in over 95 countries worldwide. This article is for background information only and provided in the context of the applicable law when published and does not constitute legal advice and cannot be relied on as such for any matter. Legal advice may be provided subject to the retention of Transatlantic Law International Limited’s services and its governing terms and conditions of service. Transatlantic Law International Limited, based at 42 Brook Street, London W1K 5DB, United Kingdom, is registered with Companies House, Reg Nr. 361484, with its registered address at 83 Cambridge Street, London SW1V 4PS, United Kingdom.