A Detailed Analysis of UAE Corporate Tax

ANALYSIS OF UAE CORPORATE TAX

The Government of UAE announced on 31st January 2022 that UAE would be promulgating legislation for levying federal Corporate Tax (C T) on business profits and the same shall be effective for the tax period commencing on or after 1st June, 2023.

For years UAE has been considered as a tax free regime but in order to align itself with the recommendations of implementing global minimum effective tax rate under the OECD Pillar Two of the Base Erosion and Profit Shifting (BEPS) Project, the UAE announced levying of Corporate Tax on Business Profits @ 9%.

Federal Tax Authority (FTA) under the Ministry of Finance of the Government of UAE will be the nodal authority responsible for administering and implementing Corporate Tax.

Introduction of Corporate tax

The UAE being a member of the Organization for Economic Co-operation and Development (OECD) Inclusive framework is introducing the federal tax regime as a preliminary step towards global minimum effective tax and enhancing the overall budget revenue which is at the moment limited only to tax revenue from businesses engaged in extraction of natural resources. The proposed tax regimes assure of framing laws in line with international practices to ensure seamless integration with international framework.

In January 2022, Ministry of Finance announced that it will introduce Federal Corporate tax (CT) on the net profits of businesses, chargeability of tax will become applicable either on 1 July 2023 or on 1 January 2024. The proposed regulations are subject to finalization and further details are awaited on the same.

Applicability of Corporate Tax:

All businesses and individuals conducting business activities under a commercial license in the UAE.
The UAE CT regime will continue to honour the CT incentives currently being offered to organisations set up in free zones* (i.e no CT). Any Income sourced from the mainland UAE will be taxable (other than passive income like interest, royalties, dividends and capital gains from owning shares in mainland UAE companies).
Banking operations.
Businesses engaged in real estate management, construction, development, agency and brokerage activities.

Non-Applicability of Corporate Tax:

Income earned by an Individual (Except business Income).
A foreign investor’s passive income earning dividends, capital gains, interest, royalties and other investment returns.
Dividends and Capital gains earned by a UAE company from the sale of shares of Foreign and UAE Companies will be exempt provided certain conditions are met. The main condition being the UAE shareholder company must own at least 5% of the shares of the company.
Business engaged in extraction of natural resources as the same are subject to current emirate level corporate taxation

The Government of UAE announced on 31st January 2022 that UAE would be promulgating legislation for levying federal Corporate Tax (C T) on business profits and the same shall be effective for the tax period commencing on or after 1st June, 2023. For years UAE has been considered as a tax free regime but in order to align itself with the recommendations of implementing global minimum effective tax rate under the OECD Pillar Two of the Base Erosion and Profit Shifting (BEPS) Project, the UAE announced levying of Corporate Tax on Business Profits @ 9%.

Federal Tax Authority (FTA) under the Ministry of Finance of the Government of UAE will be the nodal authority responsible for administering and implementing Corporate Tax. As a part of the implementation process of the Corporate Tax, the UAE Government released Public Consultation Document on 28th April, 2022 containing information on the proposed Corporate Tax regime in UAE.

As per the Rationale stated in the Consultation Document, proposed federal Corporate Tax shall enshrine best practices globally and incorporate principles that are internationally known and accepted. This would ensure that the Corporates are well aware of such principles and will not be required to evaluate any new concept

TAXABLE PERSONS: The proposed UAE C T has categorized Taxable Persons into Eight Categories and outlines the treatment to be accorded to these persons as regards UAE CT. The same is briefly stated under:

1. Natural Person: Individuals have been categorized as natural persons and have been kept out of the scope of UAE C T unless the individual is carrying out business or commercial activities in the UAE whether as a sole proprietor or as a partner of unincorporated partnership in the UAE. Only business income is intended to be brought under the UAE C T Tax and personal income such as employment, interest, rental income and other investment income are kept outside the purview of the UAE C T.

2. Legal Person: All Companies and other legal persons incorporated in the UAE shall be taxable under the proposed UAE C T. Further, foreign entities having Permanent Establishment or UAE Sourced Income shall also be taxable under the proposed UAE C T. Also foreign incorporated entities whose effective control lies in the UAE will be considered to be taxable in the UAE. Limited Liability Partnership and similar Partnership firms whereby the liability of the Partner is not unlimited shall be treated as Company and will be prone to the UAE C T. However, other partnerships or unincorporated partnerships shall be accorded the treatment of “flow through” and only the partners shall be liable for the UAE C T on their share of Income from the partnership.

3. Exempt Persons: The following persons are proposed to be made exempt from the UAE C T either automatically or through application mode:

1. The Federal and Emirate Governments and their departments, authorities and other public institutions;

2. Wholly Government-owned UAE companies that carry out a sovereign or mandated activity;

3. Businesses engaged in the extraction and exploitation of UAE natural resources that are subject to Emirate-level taxation;

4. Charities and other public benefit organisations;

5. Public and regulated private social security and retirement pension fund;

4. Natural Resources: It is proposed under the UAE Corporate Tax that all income earned by the Government from extraction and exploration of natural resources shall be kept outside the purview of the UAE C T. Further, income earned by Private Companies under the concession agreement granted by the Government shall be exempt from the UAE Corporate Tax which are subject to emirate level taxation.

5. Charities and Public Benefit Organisations: The proposed UAE Corporate Taxexempts Charities and Public Benefit Organisation only if such organisations are so approved by the Ministry of Finance against the application made by such organisations

UAE Sourced Income:

It is proposed that specific rules and guidance will be laid to determine whether the Income has a source in the UAE. Generally, income received from a UAE resident will be treated as a UAE Sourced Income and shall be subject to zero rate withholding tax for Non-Resident if it does not have PE in the UAE. Other criteria for determining UAE Sourced Income may be if such income is attributed to PE in the UAE or is derived from activities or contracts performed in the UAE or rights used for economic purposes in the UAE or from assets located in the UAE.

TAXABLE INCOME:

The UAE CT regime proposes to use the accounting net profit (or loss) as stated in the financial statements of a business, as the starting point for determining their taxable income. It is proposed that the financial statements should generally adhere to International Financial reporting Standards, but start-ups and small enterprises may be allowed in adopting alternate Accounting Standards. The businesses will be allowed to follow their own accounting period. The Profit or Loss as per the Financial Statements shall be adjusted for certain items that have been specifically allowed or disallowed under the UAE C T to arrive at the Taxable Income. The adjustments proposed are as under:

1. Unrealised gain or loss on Capital Assets: Although financial statements may have recognised unrealised gain or loss on Capital Assets due to change in Value as on the last day of the financial period in accordance with the Accounting Standard but it is proposed that such unrealised gain or loss will be reduced or added back to the Net Profit as per the Financial Statement.

2. Exempt Income: It is proposed that certain Income will be exempt from the UAE C T such as Income from Investments in Other Companies and Income from operations carried outside the UAE through branches or foreign subsidiaries and accordingly such exempt income will be reduced from the Net Profit as per the Financial Statement.

3. Income from Dividends and Capital Gains: It is proposed to exempt dividends paid by the UAE Companies including FZP enjoying zero rate C T. Further it is proposed to exempt dividends from foreign Companies and capital gains on sale of the shares of UAE and foreign companies subject to the participation condition that the shareholding of the UAE Company must be at least 5% in the dividend paying Company and further the foreign Company must be subject to Corporate Tax or equivalent tax at a rate of at least 9%. Also capital gains on disposal of shares in FZP shall be exempt if FZP happens to be a holding Company and it derives substantially whole of its income from such holdings and also complies with the participation condition as above.

4. Foreign Branch Profit Exemption: It is proposed that the UAE Companies can either elect irrevocable to be exempt on the profits of the foreign branches subject to the condition that the foreign branch is sufficiently taxed in the overseas jurisdiction or may elect to subject the profits of the foreign branch to the UAE C T and claim credit for taxes paid in the foreign branch country.

5. Other Exempt Income: The UAE CT regime will exempt income earned by a non-resident from operating or leasing aircraft or ships (and associated equipment) used in international transportation, provided the same tax treatment is granted to a UAE business in the relevant foreign jurisdiction under the reciprocity principle.

6. Interest Expense: The UAE CT will limit the deduction of the interest expense to 30% of the Earnings Before Interest, Tax, Depreciation & Amortisation (EBITDA). However, businesses may be allowed to deduct up to a certain amount of net interest expenditure (safe harbour or de minimis amount) irrespective of the interest deductibility limit based on the EBITDA rule. Further, this limit will not apply to businesses carried on by individuals and also to certain types of businesses like banks or insurance.

7. Related Party Payment to FZP: No deduction will be allowed to Related Party for payment made to FZP enjoying Zero rate CT.

8. Entertainment Expense: The UAE CT will allow only 50% of the expense incurred on entertainment of the customer, supplier etc.

9. Other Deductions: The UAE CT will not only any deduction for penalties paid, UAE VAT recoverable or donations paid to unapproved charities.