Dubai, UAE – The United Arab Emirates (UAE) implemented the Corporate Tax Law in December 2022, marking a significant milestone in the country’s fiscal landscape. With its implementation set for June 1, 2023, this new legislation will have far-reaching implications for businesses operating in the UAE. The Corporate Tax Law aims to diversify revenue sources, enhance economic stability, and foster a competitive business environment in the country.
Here’s everything you should know about the Corporate Tax in the UAE.
What is Corporate Tax?
It is a type of tax that companies and businesses have to pay on their profits. It is also known as Corporate Income Tax or Business Profits Tax in some countries.
Why UAE is levying it?
For years the UAE was considered as a tax free country but to follow the 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 at the rate 9 percent.
By having a competitive Corporate Tax system that follows international standards and a network of double tax treaties, the UAE aims to attract more businesses and investments.
The UAE’s Corporate Tax regime is based on global best practices and incorporates internationally accepted principles, making it easy to understand and apply.
Other GCC countries that levy Corporate Tax
Four of the GCC’s six member states have corporate tax systems, ranging from 10 percent in Qatar to 15 percent in Kuwait and Oman to 20 percent in Saudi Arabia.
Who is subject to Corporate Tax in UAE?
Corporate Tax applies to different types of entities or individuals in the UAE:
- UAE companies and other legal entities that are incorporated or effectively managed and controlled in the UAE.
- Individuals who conduct business activities in the UAE as specified by the government.
- Foreign legal entities that have a Permanent Establishment in the UAE.
- Juridical persons established in UAE Free Zones are also subject to Corporate Tax, but those that meet certain conditions can benefit from a 0% tax rate on their qualifying income.
- Non-resident individuals or entities without a Permanent Establishment in the UAE may be subject to Withholding Tax (collected at source) if they earn income from UAE sources that is not related to their Permanent Establishment. Withholding Tax is commonly applied to cross-border payments of dividends, interest, royalties, and other types of income.
Who is exempt?
Certain businesses or organizations are exempt from Corporate Tax in the UAE due to their significance and contributions to the country’s society and economy. These entities, known as Exempt Persons, include:
Government Entities: Various government bodies are exempt from Corporate Tax.
Government Controlled Entities: Entities controlled by the government and specified in a Cabinet Decision may also be exempt.
Extractive Businesses: Businesses involved in the extraction of natural resources, such as oil, gas, or minerals, may be exempt from Corporate Tax.
Non-Extractive Natural Resource Businesses: Businesses related to non-extractive natural resources, like agriculture or forestry, may also be exempt.
In addition to being exempt from Corporate Tax, these entities may also be relieved from certain registration, filing, and compliance obligations unless they engage in activities that fall under the scope of Corporate Tax.
How much income is taxable income and how it can be calculated?
In the United Arab Emirates (UAE), the corporate tax is calculated at a rate of 9 percent based on the net profit shown in the company’s financial statements. However, the 9 percent corporate tax is only levied if the taxable net profit exceeds AED 375,000 ($102,110). Any net profit up to AED 375,000 is taxed at 0%.
For example, let’s consider a company with a net profit of AED 475,000 ($129,339). To calculate the corporate tax, we first determine the taxable net profit by subtracting the taxable net profit threshold from the net profit. In this case, the taxable net profit would be AED 475,000 – AED 375,000 = AED 100,000.
Next, we apply the corporate tax rate of 9 percent to the taxable net profit. Thus, the corporate tax would be AED 9,000.
Therefore, with a net profit of AED 475,000, the company would be liable to pay AED 9,000 as corporate tax.
Determining a taxable person
When it comes to determining how a Taxable Person is subject to Corporate Tax, the UAE follows the common practice found in many countries. The Corporate Tax Law applies taxation based on both residence and source.
Resident Person: A Resident Person is taxed on income earned from both domestic and foreign sources. This means that if a business is classified as a Resident Person, it will be subject to Corporate Tax on its worldwide income.
Non-Resident Person: A Non-Resident Person is only taxed on income derived from sources within the UAE. If a business is classified as a Non-Resident Person, it will be subject to Corporate Tax solely on its income generated within the UAE.
Residency for Corporate Tax purposes is determined based on specific criteria defined in the Corporate Tax Law. It is not determined by where a person or business is located or domiciled. If an entity does not meet the conditions for being classified as either a Resident or a Non-Resident Person, it will not be considered a Taxable Person and therefore will not be subject to Corporate Tax.
Resident Persons, Non-Resident Persons And Permanent Establishment
A resident person, in the context of corporate tax in the UAE, refers to companies and other legal entities that are incorporated or recognized under UAE laws. This includes juridical persons incorporated in the UAE under mainland legislation, applicable Free Zone regulations, or those created by a specific statute.
Foreign companies and other juridical persons can also be treated as resident persons for corporate tax purposes if they are effectively managed and controlled in the UAE. This determination is based on specific circumstances, considering factors such as where key management and commercial decisions are made.
For natural persons, they are considered resident persons for corporate tax if they derive income from a business or business activity conducted in the UAE. Any other income earned by natural persons is not within the scope of corporate tax.
On the other hand, non-resident persons are juridical persons who are not considered resident persons. They can be classified as non-resident if they have a permanent establishment in the UAE or if they derive state sourced income. Non-resident persons are subject to corporate tax on taxable income that is attributable to their permanent establishment in the UAE.
A permanent establishment in UAE
The concept of permanent establishment is an important principle in international tax law used in corporate tax regimes worldwide. In the UAE, the definition of permanent establishment is based on Article 5 of the OECD Model Tax Convention on Income and Capital, as well as the UAE’s position under the Multilateral Instrument to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting. Foreign persons can refer to the relevant Commentary of Article 5 of the OECD Model Tax Convention and consider any bilateral tax agreements between their country of residence and the UAE to determine if they have a permanent establishment in the UAE.
What expenses are deductible?
In general, legitimate business expenses that are incurred wholly and exclusively for the purpose of deriving Taxable Income are deductible for Corporate Tax purposes. However, the deductibility of certain expenses may vary, and some expenses that are deductible under general accounting rules may not be fully deductible for Corporate Tax purposes. These expenses need to be added back to the Accounting Income to determine the Taxable Income.
Here are some examples of expenses that may not be fully deductible:
Entertainment Expenses: Expenses incurred for entertainment, amusement, or recreation purposes may not be fully deductible or may have limitations on their deductibility. This includes expenses for employee entertainment, client meetings, or social events.
Personal Expenses: Expenditures that have a dual purpose, such as expenses incurred for both personal and business purposes, need to be apportioned. Only the portion of the expenditure that is incurred wholly and exclusively for the business purpose is deductible.
Penalties and Fines: Penalties and fines imposed by regulatory authorities or as a result of legal violations are generally not deductible for Corporate Tax purposes.
Political contributions: Contributions made to political parties or candidates are usually not deductible as business expenses.
Capital expenditures: While capital assets are generally subject to depreciation or amortization deductions over their economic life, the timing of deductions may vary. The full cost of acquiring capital assets is not typically deductible in the year of purchase.
Expenses of a capital nature: Expenses that are considered capital in nature, such as costs incurred for acquiring or improving a capital asset, are not immediately deductible. Instead, they are capitalized and deducted over time through depreciation or amortization.
It’s important for businesses to consult relevant tax regulations and seek professional advice to ensure proper treatment of expenses for Corporate Tax purposes.
Free Zone Persons
A Free Zone Person can become a Qualifying Free Zone Person if they fulfill certain criteria. Being a Qualifying Free Zone Person allows them to enjoy a preferential Corporate Tax rate of 0% on their “Qualifying Income” exclusively.
To be considered a Qualifying Free Zone Person, the individual or entity must:
Maintain adequate substance in the UAE: This means they should have a physical presence and conduct substantial business activities within the UAE.
Derive “Qualifying Income”: The income generated by the Qualifying Free Zone Person must meet the criteria defined as “Qualifying Income” under the tax laws. The specific definition of Qualifying Income may vary and is determined by the relevant tax authorities.
Not elect to be subject to Corporate Tax at the standard rates: The Qualifying Free Zone Person should not choose to be taxed at the regular Corporate Tax rates applicable to non-Free Zone entities.
Comply with transfer pricing requirements: The Qualifying Free Zone Person must adhere to the regulations related to transfer pricing as outlined in the Corporate Tax Law. Transfer pricing refers to the pricing of transactions between related parties, and compliance ensures that transactions are conducted at arm’s length and not artificially manipulated for tax purposes.
Additionally, the Minister has the authority to impose any additional conditions that a Qualifying Free Zone Person must meet.
If a Qualifying Free Zone Person fails to fulfill any of these conditions or chooses to be subject to the standard Corporate Tax regime, they will be subject to the regular Corporate Tax rates starting from the Tax Period in which they no longer meet the conditions.
A Tax Group
To calculate the Taxable Income of a Tax Group, the parent company must prepare consolidated financial accounts that include all subsidiaries within the group for the relevant Tax Period. Transactions between the parent company and its subsidiaries, as well as transactions between the subsidiaries themselves, are eliminated for the purpose of determining the Taxable Income of the Tax Group.
In simpler terms, when a Tax Group is formed, all the financial activities and transactions within the group are consolidated and treated as if they were carried out by a single entity. This means that any profits or losses generated by the subsidiaries are combined with those of the parent company, and any transactions between the parent company and subsidiaries, or between the subsidiaries themselves, are disregarded.
By eliminating these internal transactions, the Taxable Income of the Tax Group is determined based on the overall financial performance of the group as a whole, rather than treating each entity separately. This consolidation allows for a more accurate assessment of the group’s overall tax liability, ensuring that tax is calculated based on the group’s combined profitability.
It’s important to note that the formation of a Tax Group and the consolidation of financial accounts for tax purposes are subject to certain conditions, such as all members being resident juridical persons, having the same Financial Year, and preparing financial statements using the same accounting standards.
The parent company must also meet specific ownership and entitlement criteria, such as owning at least 95 percent of the share capital and voting rights in the subsidiaries, as well as being entitled to at least 95 percent of their profits and net assets.
How to register, file and pay Corporate Tax
All Taxable Persons (including Free Zone Persons) will be required to register for Corporate Tax and obtain a Corporate Tax Registration Number. The Federal Tax Authority may also request certain Exempt Persons to register for Corporate Tax.
Taxable Persons are required to file a Corporate Tax return for each Tax Period within 9 months from the end of the relevant period. The same deadline would generally apply for the payment of any Corporate Tax due in respect of the Tax Period for which a return is filed.
Will entities in the UAE that are owned by GCC or UAE citizens pay tax?
The tax applies to entities that fall within the income threshold of AED 375,000. The law does not differentiate between nationality or residence, so it applies to any entity irrespective of the citizenship or residence of the founders or owners.
Will entities pay other taxes as well?
According to the Ministry of Finance, some businesses may still be subject to both the corporate tax and “Emirate level taxation”. Emirate level taxes paid will not be credited against or otherwise reduce the amount of corporate tax payable.
However, businesses that are engaged in certain activities like the extraction of natural resources in the UAE, which are subject to “Emirate level taxation”, will be outside the scope of the corporate tax. But these businesses are still required to meet “certain conditions”.
Will the corporate tax replace VAT?
The value-added tax (VAT) is a different type of tax. It will continue to be collected in the UAE. If an entity is mandated to pay VAT and corporate tax, it will have to pay the taxes separately. Those that are not VAT registered may still be subject to pay corporate tax.
What about excise tax, will it be replaced by corporate tax?
This is another form of tax. Excise tax will continue to be collected in the UAE.