From July 1, 2023, the UAE will introduce its first-ever Federal Corporate Income Tax (IRS), effective across all seven individual Emirates. Most businesses in the UAE have little experience with corporate income taxation, but time is running out. What should they expect and how can they prepare?
Most non-energy companies in the UAE have no experience of paying income tax. This will change on July 1, 2023, when a single, unified corporate income tax (IRS) system comes into effect across the UAE.
The new approach is driven by powerful global trends:
- the United Arab Emirates supports the efforts of the OECD to create an overall minimum corporate tax rate. We need a system capable of complying with the new international tax standard
- global attitudes towards the use of hydrocarbons are changing. The government must diversify its revenue base to make public finances much less dependent on fossil fuel revenues.
The UAE Ministry of Finance (MoF) first announced its new Federal CIT in January 2022. A list of FAQs introduced taxpayers to what they can expect.
More recently, MOF provided more details and launched a three-week online public consultation. Professionals, business advisors and stakeholders were invited to submit their comments. The consultation closed on May 19, 2022.
The consultation document does not contain the final provisions of the new Federal CIT nor does it provide a comprehensive picture of this significant change in the business environment in the UAE. But it does provide a lot of important new details about the when, what and how of the new diet.
The new regime will enter into force on July 1, 2023 for full fiscal years beginning on or after that date. For the many companies in the United Arab Emirates whose tax year begins on January 1, this means that the new system will first apply to income received in the calendar year 2024.
Companies subject to the CIT will need to register with the Federal Tax Authority (FCA) and obtain a tax registration number. Otherwise, they will be saved automatically. Tax returns must be submitted within nine months of the end of the tax period and accompanied by all supporting schedules and payments.
A three-rate structure will protect small businesses while allowing a higher rate for large multinational companies, in line with the OECD’s minimum rate proposals under the BEPS (Base Erosion and Transfer profit).
- 0% on taxable income below 375,000 AED (about 90,000?).
- 9% on taxable income over AED 375,000.
- A higher rate – not yet finalized – will apply to large multinationals that meet the BEPS classification of consolidated worldwide revenues above €750 million (approximately AED3.15 billion).
The Ministry of Finance has provided limited information on how the OECD second pillar rules will be integrated into the corporate tax system. New guidelines are expected soon.
All businesses operating in the UAE will be subject to the new 9% federal CIT unless they are exempt for some reason (we look at exemptions below).
People already required to hold an official license or permit to do business or practice professionally will also be subject to the new tax.
Foreign companies operating at a fixed location, or through a dependent agent in the UAE, will also be subject to CIT on income generated from their permanent establishment (PE).
Due to the risk to a foreign party carrying out activities that could be “deemed” to have a PE in the UAE, the CIT regime allows regulated UAE investment managers to provide discretionary investment management services to foreign clients without trigger a UAE ES for the foreigner. the investor or the foreign investment fund.
Companies engaged in the extraction and exploitation of natural resources under long-term concession agreements with the government of any of the individual emirates will remain subject to taxation at the emirate level.
The public consultation identifies as exempt from the new CIT:
- the UAE government itself, including its wholly owned entities engaged in non-commercial, sovereign or mandated activities
- charities and other public interest organizations can apply to the Ministry of Finance for an exemption as long as they do not undertake any commercial activity
- regulated investment funds and real estate investment trusts may also be exempt as long as they meet certain requirements
- Free zone entities are not fully exempt, but the 0% rate will apply to income derived from transactions with businesses located outside the UAE or inside any UAE free zone, including theirs. However, they may not be eligible for the 0% rate if the income is from a continental source and is not passive in nature.
What is considered taxable income?
Taxable income will be based on accounting net income calculated under International Financial Reporting Standards (IFRS) and will be grouped into the following areas.
- Interest expense deductions are limited to 30% of EBITDA and interest expense must be charged to an arm’s length party with a valid business purpose. If the related lender is itself exempt or subject to the 0% IRS rate, the interest expense is not deductible.
- Payments to free zone entities are deductible only if they originate from a UAE branch at its head office in the free zone.
- Representation expenses are deductible up to 50%.
- Penalties, recoverable VAT and donations to organizations other than approved charities or public utility organizations are not deductible.
- Unrealized capital gains or losses related to capital items should not be taken into account in the calculation of taxable income, but those related to income items may be.
- Foreign dividends and realized capital gains are exempt provided that the shareholder company owns at least 5% of the subsidiary and that the subsidiary is itself subject to corporate tax of at least 9% in its country of origin. ‘origin.
- Domestic dividends are exempt, including those distributed by free zone entities.
- Capital gains on shares sold by a holding company in the free zone will be exempt as long as all of its income derives from participations in subsidiary companies that qualify for the participation exemption.
- A UAE company can claim an exemption for the profits of its foreign branch or claim a tax credit for taxes paid in the foreign country, provided that the branch itself is subject to corporation tax of at least 9% in the foreign jurisdiction.
Carry forward or transfer losses
Losses may be deducted from future taxable income up to a maximum of 75% of taxable income in each future tax period. This is allowed even if more than 50% of ownership has changed hands, provided the new owners are running the same or similar business. This condition of continuity of ownership does not apply to companies listed on the stock exchange.
Tax losses can also be transferred to another UAE company within a group (up to 75% of the taxable income of the beneficiary company) provided that all companies in the group have at least 75% of their ownership in common . This option is not available for companies exempt from corporate tax or already benefiting from 0% corporate tax treatment in a Free Zone.
Foreign tax credits can be used to offset a UAE CIT liability against foreign source income, unless such income is already exempt. Unused credits cannot be carried forward or downgraded, or refunded.
A group of resident companies can choose to form a tax group and thus be treated as a single taxable person. The parent company must hold (directly or indirectly) at least 95% of the share capital and voting rights of all subsidiaries. Branches of UAE companies within the tax group may also be included.
The UAE CIT regime is expected to introduce transfer pricing rules consistent with international practice. This means that related party transactions and agreements must be “arm’s length” to ensure that pricing is not influenced by their relationship.
If the value of related party transactions exceeds a certain threshold in a given tax period, companies will need to prepare a local file and a master file, and submit a TP disclosure form for intercompany transactions. We are waiting to hear if TP disclosure forms will need to be submitted at the same time as tax returns.
All taxable businesses and free zone entities will be required to register with the Federal Revenue Authority (FCA) and obtain a tax registration number within a set period of time. Tax returns, supporting schedules and payment of necessary taxes must all be submitted to the FTA within nine months of the end of the relevant tax period.
To benefit from the free zone of the corporate tax rate at 0%, entities must have audited financial statements.
What you need to do to prepare and how TMF Group can help
Preparing for and complying with the new federal corporate income tax will take many businesses in the UAE on a difficult journey through uncharted waters.
The CIT will have important consequences on business plans, strategies and legal agreements, but a lot of ambiguity remains and the time is very short.
TMF Group’s local experts are already able to provide you with a solid understanding of what to expect from the final law and what it will mean for the operation and administration of your entire business.
With TMF Group on your side, there is no longer any need to wait for legislation to be finalised. Our in-depth knowledge of accounting, tax and free zone operations in the UAE enables us to provide clients with probable scenarios which can then form a solid basis for early planning and preparation.
The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.