Panama’s National Assembly began debating Bill 641 on May 11, following a push from President José Raúl Mulino, who called for extraordinary sessions to accelerate its approval. The bill, introduced by Economy Minister Felipe Chapman, aims to impose economic substance requirements on multinational entities benefiting from Panama’s tax system.

1. Scope of the Bill

The proposed law targets multinational group entities earning passive foreign-source income, including dividends, interest, royalties, capital gains, and real estate income. It introduces a new section in the Tax Code titled “Rules of Economic Substance for Passive Income.”

2. Substance Requirements

To maintain tax exemption on foreign passive income, entities must meet four key conditions:

• Employ qualified staff in Panama
• Maintain adequate physical premises
• Conduct strategic decision-making locally
• Incur operational expenses linked to income

All conditions must be satisfied to qualify.

3. Penalties for Non-Compliance

Entities that fail to meet these requirements will be classified as non-qualified and subject to a 15% tax on gross income, along with potential fines and penalties. Despite being lower than the standard 25% corporate tax rate, applying it to gross income may result in a higher effective tax burden.

4. Compliance & Reporting Obligations

The bill introduces stricter compliance measures, including:

• Annual economic substance declarations
• Local documentation requirements
• Tax filings on foreign income
• Audited financial statements

It also includes an anti-avoidance rule, allowing authorities to challenge artificial tax structures.

5. Impact on Corporate Structures

The limitation on shared resources across entities may force multinational groups to restructure operations. Companies currently operating multiple entities with shared staff or offices may need to consolidate or adjust their structure.

6. Territorial System Remains (With Conditions)

Panama will retain its territorial tax system. However, foreign passive income will now be conditionally exempt, requiring proof of real economic activity. The law does not affect:

• Domestic income taxation
• Foreign active income
• Individuals or standalone companies

7. International Precedents

Similar reforms have been implemented in jurisdictions like Singapore, Hong Kong, Costa Rica, and Uruguay, which successfully removed themselves from the EU blacklist by adopting substance requirements.

8. Local Concerns & Risks

There are concerns about capital flight, particularly in sectors like shipping, where entities traditionally operate with minimal local presence. The impact on Panama’s large ship registry is still under discussion.

Summary

The bill is still under review in its first debate stage. If approved, it must be enacted before the EU’s October review to influence Panama’s blacklist status. Overall, the reform represents a shift toward a conditional territorial tax regime aligned with global standards.