Bermuda has to guard against being “bullied into cutting its own throat” amid European Union demands over companies based here that are deemed to lack economic substance.

Bob Richards, the former finance minister, made the warning as it became clear that the island has committed to enact legislation by the end of this year to address EU concerns and stay off the bloc’s list of “non-co-operative jurisdictions”.

However, “lack of economic substance” has yet to be defined publicly by the EU, creating potential for an economic threat to the island, Mr Richards said.

“Offshore financial centres provide significant tax competition to EU member countries, as do the US, UK and many other countries,” Mr Richards said.

“But typically, offshore financial centres are small countries with very limited political clout on the world stage, unlike the US, and therefore can be bullied into cutting their own throats.

“And make no mistake, blacklisting and other such extrajudicial actions are indeed state-sponsored bullying.”

On its website this month, the EU published a letter of commitment from Bermuda. Dated last November and sent by David Burt, the Premier, to the European Council’s Code of Conduct Group, the letter detailed the actions the Government would take in order to avoid being blacklisted.

In the letter, Mr Burt states: “I commit the Government of Bermuda to address the Code of Conduct Group’s concerns relating to a de facto lack of substance for entities doing business in or through Bermuda ... We will pass legislation to implement any appropriate changes by December 31, 2018.”

The Government also committed to quarterly progress reports to the group.

Mr Burt told the House of Assembly on June 8: “Bermuda’s commitment letter was sufficiently clear and we therefore were not entered on the list of non-co-operative jurisdictions by the European Council.”

Bermuda is one of about 40 jurisdictions that have kept off the list by making such commitments.

The Ministry of Finance declined to comment in response to our questions, which included whether the Government had received a definition of economic substance from the Code of Conduct Group, when Bermuda representatives were next due to meet with EU officials, and whether work on drafting the promised legislation had yet started.

The EU’s intention is to clamp down on international companies that reduce their tax bills in Europe through the use of legal, multinational corporate structures, utilising low-tax domiciles.

As of the end of the third quarter last year, there were 16,283 companies registered on the island, of which 12,919 were classed as “international companies”, according to Department of Statistics data.

How many of these could get trapped in an EU “economic substance” net remains to be seen. But it seems likely that those companies who employ no one, whose physical presence is limited to a drawer in a law firm’s filing cabinet and which nevertheless book large amounts of profit will be the major targets.

Google, AbbVie, Forest Laboratories and Nike are among those that have made international headlines through the volume of tax-free earnings booked by such entities in Bermuda.

Mr Richards argues that holding of assets by a company, whether intellectual or physical, amounts to a legitimate and substantial economic purpose.

He added that the EU “would like to say that a Bermuda company that, say, was a holding company whose only assets are patents and other intellectual property, lacks ‘substance’ because it doesn’t employ anybody or trade locally.

“Of course, such assets could be worth billions of dollars, but if you define substance as employing people or trading locally, then that definition would be highly discriminatory and will cause great harm to Bermuda’s international business sector.”

Mr Richards added that while such entities did not directly employ people in Bermuda, the administration of this group did provide work for many Bermudians and, indirectly, millions of dollars in tax revenue for the Government. And he said any agreement should include the same rules being applied to holding companies in the EU as in offshore centres.

Among the other jurisdictions facing similar pressure from the EU is The Bahamas. Peter Turnquest, the Caribbean country’s deputy prime minister and finance minister, gave some clues as to what will constitute “economic substance” and suggested the end result could be positive for The Bahamas.

“This is an issue that is still under active consideration, but at the end of the day it will involve physical presence, employee count, mind of management, paying taxes locally and other characteristics of substance considered evidence of more than just an attempt to set up tax shelters,” Mr Turnquest told the Nassau Guardian in April.

“It will require legislation but it also presents an opportunity. If done right we may be able to take advantage of the ‘fair competition’ and ‘transparency’ aspects of this development to boost our home office initiatives and for other MNEs [multinational enterprises] to set up here with real substance, creating real jobs and real activity.”

• Click on Related Media for a copy Bermuda’s letter of commitment to the EU’s Code of Conduct Group

• To read an op-ed on this subject by Mr Richards, visit the Opinion section of this website