The introduction of a corporate tax in the United Arab Emirates (UAE) was unavoidable as the country prepared to transition away from an oil-dominated economy.
In contrast to the 23.5 per cent global average corporate tax rate, the proposed new standard rate of corporate tax (CT) in UAE is one of the lowest in the world at 9%. Nonetheless, the execution of the UAE’s first federal corporate income tax regime represents a significant shift for businesses operating in the UAE.
Corporate tax has been set by Tax Decrees issued by the governments of each of the seven Emirates. While CT is payable under these Decrees at a progressive rate, only foreign upstream oil and gas companies and branches of foreign banks have paid the corporate tax, while companies operating in more than 40 free zones across the Emirates have reaped significant tax ease, including corporate tax exemptions.
The new corporate tax regime will be implemented for fiscal years beginning on or after June 1, 2023. With few exceptions and adjustments, taxable income will be calculated using accounting net profit from the financial statements. Tax losses incurred after the new regime’s effective date can be carried forward to future fiscal periods, up to a maximum of 75 per cent of taxable income in each future period.
The CT rate is 0% on taxable income between AED 0 and AED 375,000, and 9% on taxable income above AED 375,000. UAE entities within a large multinational group subject to BEPS pillar two i.e., those with consolidated global revenues of more than €750 million, or approximately AED 3.15 billion) will be subject to a different rate, which has yet to be announced (but which is likely to be 15 per cent, given the global minimum effective tax rate proposed by the OECD).
The following entities will be exempt from UAE CT
Entities engaged in the extraction of UAE natural resources (primarily upstream oil and gas companies, which will continue to be subject to Emirate level corporate taxation); charities and other public benefit organizations, provided that an exemption application is made to the ministry of finance and approved by Cabinet decision; the federal UAE government, Emirate governments and their departments and agencies; and the United Arab Emirates government and its agencies.
UAE CT will not apply to the following entities:
Companies operating in free zones in the UAE will be subject to the new federal tax regime and will be required to register and file a CT return.
They will, however, remain eligible for the free zone CT ‘holiday’ or 0% CT rate as long as they continue to comply with all regulatory requirements within the zone and do not conduct business with the mainland (passive income such as interest, royalties, dividends, and capital gains from mainland company shares are excluded).
Free zone entities with a branch on the mainland will pay CT at the standard rate on mainland income but will continue to benefit from the 0% rate on free zone income.
Transactions between free zone entities and mainland group companies will be taxed at 0%, but payments made by a mainland group to one of its free zone entities will not be tax deductible.
The consultation document specifies the types of income that will be exempt from CT, ‘recognizing the UAE’s position as an international business hub and leading holding company location.’ The income from foreign branches is the most significant.
To avoid double taxation, UAE resident companies with foreign branches will have the option of claiming a foreign tax credit for taxes paid by foreign branches in their foreign jurisdiction, or claiming an irrevocable exemption for all foreign branch profits. If the overseas branch is not subject to enough tax in the foreign country, the exemption could not be accessible, and any unused tax credits cannot be carried forward or back.
The consultation document also suggests that a participation exemption for income from dividends received and for capital gains earned from the sale of a subsidiary’s shares will apply as long as the UAE shareholder company owns at least 5% of the subsidiary company’s shares and the foreign subsidiary is subject to a corporate tax rate of at least 9% in its home country.
If the overseas branch is not subject to enough tax in the foreign country, the exemption could not be accessible, and any unused tax credits cannot be carried forward or back. The consultation document also suggests that a participation exemption for income from dividends received and for capital gains earned from the sale of a subsidiary’s shares will apply as long as the UAE shareholder company owns at least 5% of the subsidiary company’s shares and the foreign subsidiary is subject to a corporate tax rate of at least 9% in its home country.
Domestic dividend income from UAE-based enterprises, including that received from organizations operating in free zones, will likewise be excluded. As long as UAE enterprises are given the same tax treatment in their home jurisdiction, non-residents that operate or lease ships or planes utilized for international transportation are exempt from CT.
Additionally, the consultation document suggests the following restrictions on expenditure deductions:
Under the new regime, transfer pricing regulations and documentation needs will be applicable and will resemble the current OECD Transfer Pricing Guidelines. This is a significant shift for UAE businesses as it mandates that all domestic and international related party transactions be carried out on an arm’s length basis. A master file, local file, and report per nation are probably required documents (CbCR requirements were introduced in the UAE in 2019). Information in detail is anticipated soon.
Losses may be transferred between group companies for tax purposes even if the parent does not possess at least 75% of the share capital and voting rights of the subsidiaries in the group of firms that do not exceed the 95% ownership level.
Under certain circumstances, “qualifying” intra-group transactions and reorganizations won’t be subject to UAE CT.
Providing the firms are at least 75% jointly held and the assets or liabilities to be transferred have been owned by the group for at least three years, transfers of assets and liabilities between UAE-resident companies will qualify for intra-group transfer relief. Some restructuring transactions can also be done in a tax-neutral manner, although if assets are being transferred to a third party, the three-year ownership restriction still applies.
Under the new regime, businesses will have to register with the Federal Tax Authority (FTA) within a predetermined timeframe; specifics of the registration process and ongoing compliance duties have not yet been released.
For each tax period, only one CT return needs to be electronically submitted, and any CT that is owed needs to be paid within nine months of when the tax period ends. Failure to comply will result in penalties.
A single consolidated return can be submitted by UAE group firms for the whole tax group. For small and medium-sized firms, reporting will likely be simplified. While the current Ministry of Finance will continue to be the “competent authority” in terms of international tax agreements and the exchange of information for tax reasons, the FTA will be in charge of administering, collecting, and enforcing UAE CT.
Most of the suggestions made in the consultation paper are in line with the pledge made that the new UAE CT regime will:
Build on best practices globally and incorporate principles that are internationally known and accepted. Ensuring that the regime will be readily understood rather than introducing new concepts that would need to be evaluated by investors. However, there are still a lot of unanswered questions. For instance:
The proposed legislation’s final draught is expected to be published this summer. Whether or not UAE companies will face significant CT liability under the new regime, the implementation of UAE CT will have an impact on planning, operations, and reporting systems, so it is prudent to plan.
Will CT apply to all types of business in the UAE?
Except for natural resource extraction, which is subject to Emirate-level corporate taxation, UAE Corporate Tax will apply to all UAE Businesses and commercial activities.
Is the CT in the UAE applicable to individuals doing business as sole proprietors or only to corporations?
Any individual who conducts a trade or business in the UAE on a regular or ongoing basis is subject to UAE Corporate Tax. As a result, while an individual’s salary or other employment benefit is not subject to Corporate Tax, income earned by an individual who has a commercial license to conduct business in the UAE is subject to UAE Corporate Tax.