Marshall Islands Economic Substance Requirements Guide

Legislative background

The Marshall Islands is a nil-tax jurisdiction, which puts it within the scope of the substantial activities standard developed by the OECD under BEPS Action 5 and by the EU Code of Conduct Group. Its response was the Economic Substance Regulations, 2018 (hereinafter “the ESRs”), which came into force on 1 January 2019 and were amended twice that year, most recently on 29 August.

The ESRs are not an act of parliament. The Registrar of Corporations made them under delegated authority in § 129.5(2) of the Business Corporations Act, and can alter or repeal any part of them under the same power. The Registrar also publishes a Guidance and Frequently Asked Questions on Economic Substance, first issued in October 2019, which is where most of the practical detail lives.

The regime’s enforcement history matters commercially. In February 2023 the EU added the Marshall Islands to its list of non-cooperative jurisdictions, specifically because it was not enforcing its own substance rules. The listing was reversed in October 2023 once the Code of Conduct Group was satisfied that enforcement had improved. The islands are off the list today, but the practical lesson is that the light-touch administration of 2020 to 2022 no longer applies.

Step one: are you a relevant entity?

The substance test is primarely focused on a “relevant entity”. For a non-resident domestic entity such as a company, partnership, LP or LLC formed under the Business Corporations Act or other statutes the economic substance requirements are not applicable only if both of the following are true: the business is centrally managed and controlled outside the Marshall Islands, and the entity is tax resident somewhere else.

For a foreign maritime entity or other foreign entity registered in the islands, the test runs the other way. The entity is only subject to the economic substance requirements if it is centrally managed and controlled from within the Marshall Islands, and even then not if it is tax resident elsewhere.

Foreign tax residence has to be documented and evidenced. The Registrar accepts a tax identification number, a certificate of tax residence, or evidence that tax has been assessed or paid elsewhere. Entities disregarded for US tax purposes can instead provide a signed statement, under penalty of perjury, from an external tax adviser or a C-level officer confirming that all the entity’s income was reported on the parent’s return.

One point that surprises people: claiming foreign tax residence is not a quiet exit. Under § 8(4) of the ESRs the Registrar must pass that evidence to the tax authority of the EU member state where the parent or ultimate beneficial owner sits, and to the authority of the jurisdiction where residence is claimed. Expect the claim to be tested at the other end.

Step two: do you carry on a relevant activity?

There are nine, and an entity only needs substance for the parts of its business that qualify, and only in a period where it actually earns income from them.

• Distribution and service centre business
• Financing and leasing business
• Fund management business
• Headquarters business
• Holding company business
• Intellectual property business
• Shipping business
• Banking business
• Insurance business

The last two are listed but unavailable in practice. Non-resident entities are flatly prohibited from carrying on banking, or from writing insurance or assuming insurance risk, by § 3(5) of the Business Corporations Act and the equivalent provisions in the Revised Partnership Act, Limited Partnership Act and Limited Liability Company Act. No Marshall Islands non-resident entity will ever report under those two heads.

Note also that “financial period” means the company’s accounting period, i.e. the period for which financial statements are prepared. That is not the same as the registry anniversary date, which is what governs the filing deadline.

Step three: the substance test

An entity that earns income from a relevant activity must, in relation to that activity:

1. Be managed in the islands. The governing body meets in the Marshall Islands often enough for the level of decision-making involved, with a quorum physically present, and the minutes record strategic decisions actually being made at those meetings. The board must collectively have the knowledge and expertise to do the job, and minutes and records must be kept in the islands — which the Registrar accepts can be done by lodging them with the registered agent. The Guidance also confirms it is the relevant activity that must be directed and managed locally, not necessarily the whole entity.

2. Have adequate employees, premises and expenditure. The Regulations set no numbers. Adequacy is judged against the level of relevant activity actually carried on in the islands. Employees need not be on the entity’s own payroll, and may be on short-term contracts.

3. Carry out core income-generating activity (hereinafter “CIGA”) in the Marshall Islands. CIGA are the activities of central importance to earning the income, and § 5 of the ESRs specifies them activity by activity:

CIGA can be outsourced to the registered agent, a group company or a third party. This is possible only if the work is genuinely carried out in the Marshall Islands, the entity can monitor and control it from there, and the provider’s resources are not being counted twice across several clients.

Holding companies: the reduced test

Most passive Marshall Islands structures land here, and this is the provision that decides whether the regime is a real burden or an administrative one.

A pure equity holding company is one that only holds equity participations, only earns dividends and capital gains, and carries on no commercial activity. It faces a reduced test: comply with its statutory obligations under the relevant formation statute, and have adequate human resources and premises in the islands for holding and managing those participations.

The Guidance goes further than the text. A pure equity holding company does not have to be directed and managed in the Marshall Islands, the statutory obligations limb includes paying all fees, and the reduced requirement can be met simply by maintaining a registered agent in the islands.

The definition is narrow, though, and easy to fall out of. A single interest-bearing intercompany loan, a management fee or a royalty receipt will generally take the entity outside it and into the full test. Re-test the position each year rather than assuming it holds.

Note too that the reduced substance test does not remove the annual filing obligation.

High-risk IP: guilty until proven otherwise

Where an entity holds IP it did not create, acquired from a group company or in exchange for funding someone else’s R&D, and licenses it within the group, it is carrying on “high risk IP business”. For those entities the CIGA limb is presumed not to be met.

The presumption can be rebutted, but the bar is deliberately high. The entity must show that a high degree of control over the development, exploitation, maintenance and protection of the asset is and historically has been exercised by full-time, highly skilled employees who permanently reside in the Marshall Islands, supported by detailed business plans establishing the commercial rationale for holding the IP there, full employee information, and concrete evidence that decisions are made locally.

Separately, and regardless of whether the Registrar makes any adverse finding, high-risk IP entities have their reported information exchanged automatically with EU tax authorities every year.

Shipping and yachts

Given the size of the Marshall Islands maritime register, shipping gets special treatment. The Registrar openly acknowledges that most of the value-generating work in shipping happens in transit, outside the islands, and that a fixed-location test makes less sense here than elsewhere. A shipping entity can therefore satisfy the test through the operation of the vessel in international traffic, such as crew management aboard, maintenance, and overseeing voyages. The Registrar will also look at whether the entity meets its obligations under the Associations Law and the Maritime Act 1990, including IMO and ILO compliance, customs and manning requirements, and whether its financial obligations to the islands are up to date.

Private yachts are outside the regime altogether. A private yacht under § 112 of the Maritime Act is on a private voyage and not engaged in trade, so owning, operating or chartering one is not shipping business and attracts no substance test. The same goes for a bareboat charter for the charterer’s own recreational use.

If you are weighing registries more broadly, our guide to flags of convenience and ship registration compares the Marshall Islands with the alternatives.

Filing: what and when

All non-resident domestic entities and foreign maritime entities must submit an annual Economic Substance Declaration through the Registrar’s online portal, including entities that are not relevant entities and entities with no relevant income. The company may not need to have substance, but it still needs to report.

The deadline runs from the anniversary date. The reporting window opens on the entity’s annual anniversary and the declaration is due within twelve months. The Registry sends notice of the period and deadline with each annual invoice, and filings are made using the entity number and a PIN issued by the Registry.

Entities with relevant income report their business type, gross income by category, expenses and assets, premises, employee numbers including full-time staff, and evidence that CIGA was carried out in the islands. The Registrar can also serve notice requiring any further documents it reasonably needs.

On submission you get a confirmation number, followed by a Certificate of Economic Substance Reporting Compliance, usually within 72 hours.

If you need financial statements prepared to support the income and expenditure figures, see our accounting and audit services for offshore companies.

Penalties

Before penalising a substance failure the Registrar must issue a notice setting out the reasons and the penalties proposed, and there is a right of appeal both against liability and against the amount.

Missing the filing deadline is treated separately, as a good-standing problem: services are suspended and the entity can ultimately be annulled.

Where an entity fails the test, its reported information is sent to the tax authority of the EU member state where its parent or ultimate beneficial owner resides, and to the authority of its jurisdiction of organisation if it was formed outside the islands.

Does complying make you resident?

No, and the Guidance says so explicitly. A non-resident entity does not become a resident domestic entity merely by complying with the ESRs.

The Associations Law definition of “doing business in the Republic” expressly excludes maintaining an office in the islands, having resident officers or directors, holding bank accounts, using local professional services, keeping books and registers locally, holding board or shareholder meetings there, maintaining a registered agent, and registering a vessel. The Guidance adds that nothing will convert a non-resident entity into a resident one, including claiming tax residence or obtaining a local employer identification number,.

How Astra Trust helps

We administer Marshall Islands structures across the full compliance cycle: assessing scope activity by activity, documenting foreign tax residence claims, providing registered agent and record-keeping arrangements that support the reduced holding company test, supporting governance for entities meeting the full test, and preparing and filing the annual declaration.

Where the substance burden outweighs the benefit of the jurisdiction, we also handle redomiciliation elsewhere or orderly dissolution.

If you are still choosing a jurisdiction, see Marshall Islands company incorporation for entity types, timelines and costs, or use our comparison tool to weigh the islands against the alternatives.

Get in touch for a review of where your entity stands.

Sources

• Economic Substance Regulations, 2018, as amended through 29 August 2019
• Guidance and Frequently Asked Questions on Economic Substance, Registrar of Corporations, 17 October 2019, as amended
• Economic Substance Reporting and Guidance, International Registries, Inc.
• Economic Substance Reporting Portal User Guide
• Business Corporations Act, Part I of Title 52, Marshall Islands Revised Code
• Associations Law, Title 52, Marshall Islands Revised Code
• Revised Partnership Act, Limited Partnership Act and Limited Liability Company Act
• Maritime Act 1990, Title 47, Marshall Islands Revised Code
• Banking Act 1987, Title 17, Marshall Islands Revised Code
• OECD (2018), Resumption of Application of Substantial Activities Factor to No or Only Nominal Tax Jurisdictions, BEPS Action 5
• Council of the EU, press release of 14 February 2023 and press release of 17 October 2023

Disclaimer

This guide is general information, not legal or tax advice, and reflects the Economic Substance Regulations, 2018 (as amended) and the Registrar’s published Guidance as at the date of publication. Substance obligations turn on each entity’s own facts, the Regulations can be altered by the Registrar at any time, and no liability is accepted for action taken in reliance on this guide.