Panama has introduced economic substance requirements for entities that are part of multinational groups and that earn designated types of foreign-source passive income. Following extensive debate, Law No. 526 was enacted on 28 May 2026—marking a significant shift from Panama’s long-standing territorial tax system, under which income generated from activities carried out within Panama, or from assets used in Panama, is generally taxable while income generated outside Panama (e.g., income from foreign investments, overseas businesses or services performed outside Panama) is generally exempt.
Beginning 1 January 2027, foreign-source passive income will remain exempt from taxation only if the Panamanian entity demonstrates adequate economic substance in Panama, i.e., that it has actual physical operations and genuine activities in Panama. Entities that fail to do so will be classified as “non-qualified entities” and subject to a 15% tax.
Law No. 526 maintains Panama’s territoriality principle but creates an exception for certain foreign-source passive income earned by entities that do not demonstrate sufficient economic substance. A covered entity will have to show that:
The economic substance requirements will apply only when both of the following conditions are fulfilled:
Covered entities will include:
The law excludes certain entities from the application of the new regime because they are already subject to regulatory oversight that provides visibility into personnel, assets, risks, resources and expenses. These entities are:
It should be noted that the exclusions from the economic substance regime may also face scrutiny during the EU’s reassessment of Panama’s status as a noncooperative jurisdiction (Panama has been on the EU blacklist of noncooperative jurisdictions since 2020). Removal from the blacklist would require that Panama’s tax administration have access to information necessary to review the taxation of passive income. This may necessitate uniform reporting standards across all regulated sectors.
Covered entities will be required to file an annual sworn affidavit, regardless of whether the income is taxable in Panama, along with documentation supporting economic substance. The deadline for submitting the affidavit will be included in upcoming regulations (expected in the fall of 2026).
Outsourcing of relevant functions within Panama will be permitted to demonstrate economic substance subject to limitations:
As noted above, foreign-source passive income earned by a non-qualified entity will be subject to a 15% final tax on net taxable income for the relevant fiscal period. Net taxable income will be calculated by deducting from gross income documented expenses directly related to the generation of the foreign-source passive income.
Law No. 526 represents a major shift in Panama’s tax landscape, signalling the end of shell entities lacking real economic activity. The law also aims to demonstrate to the EU Panama’s commitment to transparency, potentially supporting removal from the EU blacklist of noncooperative jurisdictions.
Entities that comply with the economic substance requirements will continue to benefit from Panama’s territorial tax system and exemption for foreign-source passive income. Those that do not comply will be subject to the 15% tax.
Multinational groups should proactively review:
Rafael Rivera Castillo
BDO in Panama
Beginning 1 January 2027, foreign-source passive income will remain exempt from taxation only if the Panamanian entity demonstrates adequate economic substance in Panama, i.e., that it has actual physical operations and genuine activities in Panama. Entities that fail to do so will be classified as “non-qualified entities” and subject to a 15% tax.
Economic Substance Requirements
Law No. 526 maintains Panama’s territoriality principle but creates an exception for certain foreign-source passive income earned by entities that do not demonstrate sufficient economic substance. A covered entity will have to show that:
- It has qualified personnel properly remunerated in Panama;
- It maintains adequate facilities in Panama to carry out its main activities;
- It incurs operating expenses linked to income-generating assets; and
- Strategic decision-making and risk assumption and risk management occur in Panama.
Scope of the Regime
The economic substance requirements will apply only when both of the following conditions are fulfilled:
- The entity belongs to a multinational group; and
- The entity receives foreign-source passive income in the form of dividends, interest, royalties, capital gains, real estate income or other capital income.
Covered entities will include:
- Corporations, limited liability companies and private interest foundations where the Panamanian entity is the parent, subsidiary or PE;
- Entities operating under a special regime in Panama; and
- Offshore entities generating only foreign-source passive income and holding companies.
Excluded Entities
The law excludes certain entities from the application of the new regime because they are already subject to regulatory oversight that provides visibility into personnel, assets, risks, resources and expenses. These entities are:
- Financial entities supervised by Panama’s banking, securities, insurance or other regulators; and
- Entities engaged in the commercial operation of ships or vessels under Panamanian registry and governed by the special merchant marine legislation (including ship owners, operators and administrators).
It should be noted that the exclusions from the economic substance regime may also face scrutiny during the EU’s reassessment of Panama’s status as a noncooperative jurisdiction (Panama has been on the EU blacklist of noncooperative jurisdictions since 2020). Removal from the blacklist would require that Panama’s tax administration have access to information necessary to review the taxation of passive income. This may necessitate uniform reporting standards across all regulated sectors.
Demonstrating Economic Substance
Covered entities will be required to file an annual sworn affidavit, regardless of whether the income is taxable in Panama, along with documentation supporting economic substance. The deadline for submitting the affidavit will be included in upcoming regulations (expected in the fall of 2026).Outsourcing of relevant functions within Panama will be permitted to demonstrate economic substance subject to limitations:
- Only certain functions (e.g., HR, operational expenses) may be outsourced.
- Services will have to be provided within Panama.
- Resources used by the service provider to demonstrate adequate substance for an entity may not be double counted across multiple clients.
- The contracting entity must maintain effective supervision and control over the outsourced activities, supported by contractual, operational and accounting documentation.
Additional Features of Law No. 526
- Income from intangible assets: For income derived from the transfer or exploitation of intangible assets (e.g., patents, trademarks, copyrights or similar rights) registered under Panamanian law but exploited abroad, a portion of the net income may be classified as nontaxable or extraterritorial. This partial exclusion will require compliance with registration, documentation and accounting traceability rules. Noncompliance will result in automatic non-qualified status, triggering the application of the exceptional tax regime for all relevant passive income.
- Foreign tax credits: Covered entities may foreign credit income tax or similar taxes against the 15% Panamanian tax, limited to the Panamanian tax that would have applied. Credits are nonrefundable and nontransferable.
- General anti-abuse rule (GAAR): Law No. 526 includes a GAAR that authorises the Ministry of Economy and Finance to disregard structures, arrangements or legal forms whose principal purpose, or one of its principal purposes, is to obtain a tax advantage contrary to the intent of the economic substance regime. If the GAAR applies, the 15% tax may be imposed retroactively, along with penalties, surcharges and interest.
- Intersection with special regimes: Entities operating under preferential tax regimes will be required to report all passive foreign income in their annual income tax returns, demonstrate qualified status and show economic substance for each income-generating asset.
- PE updates: Law No. 526 aligns Panama’s PE rules with the most recent amendments to the OECD Model Tax Convention. Certain activities—such services, execution of work, exploitation of resources, equipment use or professional activities—may give rise to a PE when carried out in Panama through an agent or a representative authorised to contract in the name of, or on behalf of, a foreign entity. Situations that previously did not create a PE due to “independent agent” status may now constitute a PE if the agent plays the principal role in the conclusion of contracts and economic substance indicators and operational elements (e.g., assets, functions and risks) show these functions/risks are effectively assumed abroad.
Consequences of Non-Qualified Status
As noted above, foreign-source passive income earned by a non-qualified entity will be subject to a 15% final tax on net taxable income for the relevant fiscal period. Net taxable income will be calculated by deducting from gross income documented expenses directly related to the generation of the foreign-source passive income.
BDO Perspective
Law No. 526 represents a major shift in Panama’s tax landscape, signalling the end of shell entities lacking real economic activity. The law also aims to demonstrate to the EU Panama’s commitment to transparency, potentially supporting removal from the EU blacklist of noncooperative jurisdictions.Entities that comply with the economic substance requirements will continue to benefit from Panama’s territorial tax system and exemption for foreign-source passive income. Those that do not comply will be subject to the 15% tax.
Multinational groups should proactively review:
- Corporate structures;
- Types of income generated;
- Outsourcing arrangements;
- Intangible asset strategies; and
- Compliance and documentation frameworks.
Rafael Rivera Castillo
BDO in Panama