Panama’s Law 526 of 2022 introduces a new compliance standard into the country’s legal framework for entities that generate foreign-source income: the economic substance requirement. Its central premise is that entities benefiting from Panama’s territorial principle — that is, entities receiving foreign-source income that is not subject to tax in Panama — must demonstrate that they actually operate substantively in the country.

The law sets out three cumulative requirements in Article 707-E of the Tax Code. What the law says is relatively clear. What has not yet been defined is the regulatory interpretation — how compliance will be measured, what levels of evidence will be sufficient, and what “adequate” means precisely in each case. The implementing regulation has not been issued, and its content will be decisive in understanding the real scope of these obligations.

What is available today — and what we analyze in this article — is the text of the law itself and the analytical framework that flows from it.

Who does it apply to?

The law applies to entities that obtain income derived from assets generating foreign-source income — income that, under Panama’s territorial principle, is not taxable in Panama. The most common categories include:

• Holding companies receiving dividends from foreign subsidiaries
• Entities with real estate or financial assets outside Panama
• Structures holding intellectual property rights or exploitation rights
• Intra-group financing entities and international treasury vehicles
• Entities with foreign-source capital gains or passive income

Not every entity with a presence in Panama is automatically within the law’s scope. The assessment must be made case by case, considering the nature of the income and the structure of the entity.

The three requirements

This requirement combines two elements: the human component (qualified, compensated persons with defined functions) and the physical component (adequate space in Panama). The key word is “adequate” — a standard that points to proportionality with the nature and scale of the asset’s activities, not to a formal minimum.

A question many companies are now asking is whether services provided by registered agents, nominal directors, or registered offices satisfy this requirement. The answer will depend significantly on the implementing regulation and the DGI’s interpretation, but the logic of the law — which requires personnel dedicated to the asset’s activities with real functions — suggests that purely formal or registral services will have a difficult case to make for qualifying as substance. That said, the final determination rests with the implementing regulation, which remains pending.

This requirement targets the real governance of the entity — not formal governance (who appears in the documents), but where the decisions that actually matter are effectively made: investments, divestments, approval of material contracts, risk management.

In practice, this translates into concrete questions: where does the board of directors meet? From where is a material transaction approved? Who makes the substantive decisions and from what territory? The answers must be documentable. A structure with board minutes drafted in Panama but where real decisions are effectively made from abroad faces substantial compliance risks, even though the regulation has not yet precisely defined how this element will be evaluated.

The legislature requires that operations carry a real cost in the country, separate from payroll: rent, local professional services, asset maintenance, administrative expenses. The explicit exclusion of personnel compensation signals that the three requirements are complementary layers, not redundant ones.

Proportionality is again the central criterion. How much is “adequate”? We do not know precisely until the regulation is issued. But the comparative logic of other jurisdictions that have implemented similar standards suggests that expenditures must be reasonable in relation to the volume and nature of the assets being managed — not a symbolic minimum.

What is clear and what is not

The law is structurally clear on three points. The requirements are cumulative: there is no partial compliance. Documentary evidence is the instrument of proof. And proportionality is the standard of evaluation.

What is not yet clear — and where the implementing regulation will be decisive — is the granularity of each requirement: what specific documentation will be required, how services rendered by third parties on behalf of the entity will be evaluated, and what thresholds of personnel and expenditure will be considered sufficient for different types of structures.

In that context, the recommendation is not to wait for the regulation before beginning the analysis. It is precisely the opposite: use the period before regulation is issued to review the current structure, identify evident gaps, and implement the improvements that the logic of the law already signals clearly.

Recommended next steps

• Review your portfolio of entities with foreign-source income to identify which fall within the law’s scope
• Map the current status of personnel, facilities, and operating expenditures against the three requirements
• Audit the real governance of your entities: where decisions are made and what documentation supports that
• Assess whether services contracted from third parties — agents, directors, registered offices — satisfy or complement the requirements under the law’s logic
• Monitor the issuance of the implementing regulation, which will define the application criteria with greater precision