Introduction

In the dynamic landscape of global investments, Sri Lanka has emerged as a compelling destination, offering a rich tapestry of economic opportunities across diverse sectors. As the country continues to position itself as a key player in the South Asian region, discerning investors are drawn to its potential for growth, stability, and strategic location. However, the allure of Sri Lanka's investment landscape is accompanied by a complex legal terrain that necessitates a nuanced understanding to mitigate risks and maximize returns.

This article aims to provide a general understanding of the legal considerations that investors must bear in mind when contemplating opportunities in Sri Lanka. From regulatory frameworks and foreign investment policies to dispute resolution mechanisms, we delve into the intricate web of legal aspects that can impact investment decisions in this resplendent island nation.

As we navigate through the legal intricacies, our goal is to equip investors with the knowledge and insights necessary to make informed choices. From the lush landscapes of Colombo to the bustling trade routes of Hambantota, Sri Lanka beckons with promise, and understanding its legal landscape is the key to unlocking the full potential of investment opportunities within its shores.

Legal Tradition of Sri Lanka

Sri Lanka's legal system is a distinctive blend of Roman-Dutch and English common law, a result of its colonial history. Roman-Dutch law, introduced during the Dutch colonial period, established the foundational legal principles, emphasizing equity and precedent.

Roman-Dutch law has a significant impact on civil matters, including contract law, property law, and aspects of family law. Laws pertaining to land ownership, leases, and transfers often draw on principles derived from this legal tradition. Further, the principles of delicts (which are wrongful acts causing harm to others), covering civil wrongs and liabilities, is another area of law where Roman-Dutch legal concepts apply.

The subsequent British colonial era brought in English common law, influencing areas like criminal justice. English common law principles apply in areas like banking, company and agency law, insurance, maritime law, and shipping. Further, the principles of administrative law, including judicial review of administrative decisions, are influenced by English common law.

In the post-colonial era, Sri Lanka retained and adapted elements from both legal traditions, creating a dynamic legal environment; today, the legal landscape of Sri Lanka remains a synthesis of Roman-Dutch and English common law principles. This blending of legal heritages has shaped a dynamic and evolving legal environment, where practitioners, judges, and scholars draw upon both traditions to address contemporary legal challenges while preserving the country's rich legal legacy.

Setting Up Business in Sri Lanka

Investors seeking to establish and conduct business operations in Sri Lanka are presented with a choice of legal structures, each catering to specific needs and objectives. An investor may set up its business and it can be carried on through one of the following legal forms:

1. Registered Overseas Company (i.e., Branch Office, Liaison Office, etc.): This enables investors to establish their presence in the country and engage in business activities without worrying about the business registration, etc. The simplified framework allows foreign entities to be registered as an overseas company in due course and provides a straightforward way for investors to operate in Sri Lanka. This choice is practical for entering the Sri Lankan market efficiently and immediately. It enables international businesses to leverage their global experience while navigating local regulations more easily, creating a conducive environment for their activities in Sri Lanka.

2. Limited Liability Company: This legal form offers distinct advantages such as limited liability, personal liability protection by safeguarding shareholders' personal assets, asset protection, etc. Compared to a registered overseas company, the limited liability company framework provides legal separation and a sense of autonomy from its parent entity / shareholders, allowing the business to tailor its operations to the local conditions, specific industry needs, and growth strategies. This structure empowers companies to respond swiftly to market changes and customize their operations to industry-specific needs.

3. Board of Investment (BOI) approved Limited Liability Company (BOI Company): In addition to the benefits of a limited liability company, this approach allows companies to benefit from tailored incentives, making it an attractive proposition for those keen on optimizing their operational environment in the vibrant Sri Lankan market. Serving as a centralized hub for streamlining investments in Sri Lanka, the BOI operates a one stop shop for facilitating investments and providing customized incentives to eligible investments that fulfill specific criteria. This one-stop shop approach enables registered companies to access a range of concessions, privileges including leasehold rights to valuable state land, and concessions within the regulatory framework of Sri Lanka, fostering an environment conducive to business growth and development.

Foreign Investment Requirements

The Foreign Exchange Act 2017 and regulations permit nonresident persons to carry on any commercial, trading, or industrial activity in Sri Lanka other than certain specified activities that are either prohibited or restricted. Therefore, the investor must ensure that foreign investment in permitted in the industry or activity in which they intend to embark on to avoid legal issues down the line. It's recommended that investors seek professional advice to ensure compliance with applicable foreign investment requirements.

Under the applicable foreign exchange Regulations, non-residents are generally permitted to invest in, acquire, or hold shares in companies incorporated in Sri Lanka, but certain sectors are excluded from this general permission. Prohibited activities include pawn broking, coastal fishing, and retail trade with capital contributed by non-residents totaling less than USD 5 Million.

There are also limitations on the percentage of fully paid voting shares that non-residents can hold in companies engaged in specific businesses. Typically capped at 40%, this limit can be exceeded if special approval is granted by the Board of Investment of Sri Lanka. These limitations apply to businesses such as the production of goods subject to international quota restrictions, growing and primary processing of agricultural products, mining and primary processing of non-renewable resources, timber-based industries using local timber, deep-sea fishing, mass communication, education, freight forwarding, travel agencies, and shipping agencies.

Additionally, special approval is required for owning securities in businesses like air transportation, coastal shipping, industrial activities specified in the Second Schedule of the Industrial Promotion Act of 1990 (including the manufacturing of military equipment, hazardous materials, and currency production), large-scale mechanized gem mining, and lotteries. The specified percentage of the stated capital for such businesses must be approved by the Government of Sri Lanka or relevant legal/administrative authorities overseeing foreign investments in these sectors.

Income Tax Considerations

The Inland Revenue Act 2017, as amended, is a tax law in Sri Lanka that aims to simplify the tax system, broaden the tax base, and improve revenue collection. This introduces a corporate tax rate of 30% for all companies, regardless of their size or sector, subject to certain specific exceptions. On the other hand, if the business is not incorporated as a company, the profits acquired by the business shall be subject to specified rates under withholding or remittance taxes.

The tax law further regulates transfer pricing, residency requirements, and provides for a simplified capital allowances system. It also imposes penalties and interest on taxpayers who fail to comply with the provisions of the Act or who file incorrect tax returns. It represents a significant reform of the Sri Lankan tax system and is designed to improve the efficiency and fairness of the tax regime.

The tax treatment of a business in Sri Lanka may depend on the specific structure of the business and the nature of its activities. For example, a business may be subject to corporate income tax in Sri Lanka on its profits if it is considered a taxable entity under Sri Lankan tax laws. However, if the business is not considered a separate legal entity, like a partnership, the profits will be taxed in the hands of the partners.

It's important to note that tax laws and regulations are subject to change, and taxpayers in Sri Lanka are required to comply with all relevant tax laws and regulations. Taxpayers may be subject to penalties and interest if they fail to comply with tax laws or if they make errors or omissions in their tax filings. It's recommended that taxpayers seek professional advice to ensure compliance with tax laws and regulations.

Power to acquire property

Foreigners or companies in which the majority of shares are held by foreigners are prohibited from owning land in Sri Lanka.

Under the Land (Restrictions on Alienation) Act 2014, foreigners are prohibited from owning land outright, but can acquire apartments or condominium units that are registered under the Apartment Ownership Law. Further, foreigners can also acquire leasehold rights for up to 99 years for land or property. However, the Land (Restrictions on Alienation) (Amendment) Act, No. 21 of 2018, has removed this restriction for companies listed on the Colombo Stock Exchange (CSE) in respect of land acquisitions after the 1st of April 2018.

It is important to note that the process of acquiring property in Sri Lanka can be complex, and foreign buyers should seek the assistance of qualified professionals such as lawyers to navigate the process and ensure compliance with all legal requirements.

Litigation and Dispute Resolution

Commercial dispute resolution in Sri Lanka is facilitated through a multi-faceted approach, involving various legal avenues. The country offers a mix of traditional litigation and alternative dispute resolution mechanisms, such as arbitration and mediation, providing businesses with flexible avenues for resolving disputes.

The District Courts play a foundational role in handling commercial disputes, providing a forum for initial litigation. For more specialized matters, the Commercial High Court offers a dedicated platform with judges well-versed in commercial law, emphasizing efficiency in resolving complex disputes.

Additionally, arbitration has become an increasingly popular alternative to traditional litigation. Sri Lanka, as a signatory to international conventions, recognizes and enforces both local and foreign arbitral awards. This allows businesses to opt for a more private and expeditious resolution process, often tailored to their specific needs. The availability of these diverse mechanisms ensures that commercial entities in Sri Lanka have flexible and effective options for resolving disputes, promoting a business-friendly environment.

Choice of Law and Forum

For investors, the selection of appropriate choice of law and forum holds paramount significance, serving as a critical determinant in the resolution of disputes and the enforcement of contractual obligations. The choice of law establishes the governing legal principles that will be applied to interpret and enforce the terms of contracts, ensuring a predictable and consistent legal framework. Concurrently, the selection of a forum dictates the jurisdiction where disputes arising from foreign investments will be adjudicated.

Sri Lanka recognizes and accommodates the principle of party autonomy in contractual matters, providing a favorable environment for investors through the allowance of choice of law and forum. The legal framework in Sri Lanka recognizing the right of parties to select the governing law of their contracts, affording them the flexibility to opt for a legal system that best aligns with their commercial objectives and expectations. Additionally, the freedom of parties to designate the forum for dispute resolution, whether through litigation or alternative methods such as arbitration, is also recognized. This flexibility in choice of law and forum not only reflects Sri Lanka's commitment to facilitating international business transactions but also serves as a boon for investors by offering them a predictable and transparent legal environment, enhancing the ease of doing business in the country.

Conclusion

In conclusion, investing in Sri Lanka offers a mosaic of possibilities, with its economic growth, strategic location, and diverse sectors beckoning to the global investor. However, success in this venture hinges on a profound understanding of the legal landscape that governs business operations within the country.

As we've explored in this article, navigating the regulatory frameworks, comprehending foreign investment policies, and appreciating the local legal nuances are imperative for any investor seeking sustainable and fruitful engagement in Sri Lanka. The legal considerations discussed, ranging from land acquisition and foreign investment laws to dispute resolution mechanisms, underscore the importance of due diligence and meticulous planning.

While challenges exist, so do opportunities. Sri Lanka's commitment to fostering a conducive environment for foreign investment is evident in its ongoing efforts to streamline procedures and enhance investor confidence. As this nation continues to evolve, so too does its legal framework, and staying abreast of these developments is an integral part of successful investment strategy.

Armed with a thorough understanding of the legal considerations outlined in this article, investors can confidently embark on their journey, capitalizing on the opportunities that this resilient nation presents. As the sun rises over the Indian Ocean, it casts a glow of optimism on those who venture into the realm of Sri Lankan investment, where the fusion of legal acumen and entrepreneurial spirit can yield rewards for years to come.