On 28th April 2022, the United Arab Emirates (‘UAE’) issued a public consultation document on the introduction of corporate tax.
On 31 January 2022, the UAE’s Ministry of Finance announced that effective for financial years starting 1 June 2023, the UAE will introduce a federal corporate tax on business profits.
While the authorities of the UAE are finalising the final corporate tax legislation, the public consultation document covers as a whole the various aspects of the upcoming corporate tax legislation. Accordingly, the UAE’s Ministry of Finance has invited the business community and other interested stakeholders to provide their comments online by 19 May 2022.
The UAE’s Ministry of Finance also highlighted that the public consultation document is not the final document and does not exhaustively cover all the upcoming corporate tax legislation elements.
We have summarised the essential points below.
1. Taxable persons
Companies, Individuals and Exempt persons
The corporate tax will apply to UAE companies and other legal entities incorporated in the UAE or foreign entities with a permanent establishment.
The corporate tax will not apply to the income of natural persons, i.e. individuals.
The corporate tax will apply to individuals only if they are engaged in commercial activity in the UAE and that commercial activity requires a commercial license or permit.
The following persons will be exempted either automatically or by way of application:
- Federal and Emirate Governments and their authorities and other public institution.
- Wholly-owned, Government-owned UAE companies that carry out the sovereign or mandated activity and that are listed in a cabinet decision.
- Businesses engaged in the extraction and exploitation of UAE natural resources that are subject to Emirate level taxation.
- Charities and other public benefit organizations listed in a Cabinet Decision.
- Public and regulated private social security and retirement pension funds.
- Investment funds, subject to meeting certain conditions.
In general, the activities of the government are non-commercial. However, any business activity carried out directly by the government under a trade licence will be within the scope of the UAE corporate tax regime.
Companies and branches registered in a free zone will be within the scope of the corporate tax regime and subject to tax return filing requirements.
The new corporate tax regime will honour incentives currently being offered to free zone entities that maintain adequate substance and comply with regulatory requirements.
Accordingly, a free zone entity can benefit from a 0% corporate tax rate on income earned from transactions with businesses located outside of the UAE, or from trading with businesses located in a free zone.
Where a free zone entity transacts with mainland UAE, 0% corporate tax will apply if its income from mainland UAE is limited to passive income. This would include interest, royalties, dividends and capital gains from owning shares in mainland UAE companies.
As a preventive measure to prevent free zone businesses from gaining an unfair competitive advantage compared to businesses established in mainland UAE, any other mainland sourced income will disqualify a free zone entity from the 0% corporate tax regime in respect of all their income.
A free zone person has the right to make an irrevocable election to be subject to regular corporate tax. This election can be made at any point in time.
2. General rules relating to Taxation
The UAE intends to adopt a residence-based system for corporate tax.
A UAE resident will be taxed on their worldwide income and where income earned from abroad is not exempt, income taxes paid in the foreign jurisdiction would be allowed as a credit against the corporate tax payable in the UAE.
A foreign company may be treated as a resident person if it is effectively managed and controlled in the UAE. Determination of effectively managed and controlled will be a question of fact but the authorities would typically look at where the directors or other decision-makers of the company make ket management and commercial decisions.
A non-resident will be subject to UAE corporate tax on either the income which is sourced in the UAE or on their income from their permanent establishment in the UAE.
The activity threshold that will trigger a permanent establishment for a foreign company will be determined by the application of the fixed place of business test and the dependent agent test.
Calculation of taxable income
Accounting net profit or loss as stated in the financial statement is the starting point to determine taxable income.
Financial statements should be prepared using accounting standards and principles that are acceptable in the UAE and businesses will use their financial accounting period as their annual tax period.
Interest deductibility will be capped at 30% of earnings before interest, tax, depreciation and amortisation.
Interest deductibility rules will not apply to banks, insurance businesses and certain other regulated financial services entities. It will also not apply to businesses carried on by individuals/natural persons.
Losses will set off against future profits up to a maximum of 75% of taxable income in each of those future periods.
Tax losses can be carried forward indefinitely provided that the same shareholder hold at least 50% of the share capital. If there is a change in ownership of more than 50%, tax losses may still be carried forward provided that a similar business is carried on by the new owners.
This principle of continuity of shareholder or business does not apply to businesses that are listed on a recognised stock exchange.
No tax loss relief will be available for:
- Losses incurred before the effective date of corporate tax.
- Losses incurred before a person becomes a taxpayer for UAE corporate tax purposes
- Losses incurred from activities or assets which generate income that us exempt from UAE corporate tax
- Losses incurred by a free zone entity that is not attributable to a permanent establishment on the UAE mainland.
3. Tax rates
Corporate tax rates will be charged on the annual taxable income of a business.
0% will apply for taxable income not exceeding AED 375,000; and
9% will apply for taxable income exceeding AED 375,000.
In order to support start-ups and small businesses in the UAE, the corporate tax legislation will also provide for relief for small businesses in the form of simplified financial and tax reporting obligations.
4. Group companies
A UAE resident group of companies can elect to form a tax group and be treated as a single taxable person.
The parent entity needs to hold directly or indirectly at least 95% of the share capital of the subsidiary.
For a tax group to be formed, neither the parent company nor the subsidiaries can be an exempt person or a free zone person claiming the 0% exemption.
Group re-organisation shall not be taxable under the UAE corporate tax regime subject to certain conditions.
5. Transfer Pricing
The UAE shall establish transfer pricing regulations that will be applicable for transactions between domestic as well as foreign-related parties.
Transactions will need to be at arm’s length.
The transfer pricing regulations will be in line with the OECD transfer pricing guidelines.
Where relevant, businesses will be required to submit a disclosure document containing information regarding their transactions with related parties
A transfer pricing documentation will be required and shall include:
- The disclosure document set by the UAE authorities
- A master and local file where the arm’s length value of transactions with the related party exceeds a certain threshold.