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All you need to know about United Arab Emirates (UAE) Corporate Income Tax (CT)
UAE is entering an era of direct taxation with the introduction of a corporate tax. The Ministry of Finance published a public consultation paper on the corporate tax regime in January 2022. The regime proposes a levy of corporate tax on the earnings of businesses and excludes individuals and foreign companies.
The regime proposes a tax rate of 9% on accounting profits, which is the profit reported in the financial statements. The proposed will result in a better competitive advantage for micro and small businesses whose accounting profits are up to AED 375,000 since the profits in excess of AED 375,000 will only be taxed. The tax will be effective for financial years starting on or after 01 June 2023.
The regime proposes a tax rate of 9% on accounting profits, which is the profit reported in the financial statements. The proposed will result in a better competitive advantage for micro and small businesses whose accounting profits are up to AED 375,000 since the profits in excess of AED 375,000 will only be taxed. The tax will be effective for financial years starting on or after 01 June 2023.
The article has below sections
- UAE Corporate Tax is a direct tax. What does it mean?
- Basis: Who will be taxed under the Corporate Tax?
- The tax year for computing the corporate tax liability and for compliance
- Calculation of taxable income
- Corporate Income Tax rates in the UAE
- Disallowances: Expenses not allowed as a deduction from taxable income
- Exemptions: Income exempt while computing corporate tax
- Tax credits, Carry forward, Set-off and Transfer of losses
- Forming tax groups in UAE
- Withholding tax or Tax Deduction at Source
- Transfer Pricing under UAE Corporate Tax
- Compliance under UAE Corporate Tax
- Corporate Income Tax on Free Zone companies
- Incentives to investment funds
- Tax on large multinational corporations
- Corporate Tax on citizen and expatriate resident individuals
- UAE Corporate Income Tax on Foreign Companies and individuals
- Administration
UAE Corporate Tax is a direct tax. What does it mean?
Taxes, in general, can be classified as direct taxes or indirect taxes. A direct tax is a form of tax that is paid by a person directly to the Government. In this case, the person paying the tax bears the tax expense.
On the other hand, an indirect tax is collected from another person, mostly from customers, in addition to the price charged. The end customer ultimately bears the tax. The person paying the taxes to the Government collects the charges from his customer and remits it to the Government. Value Added Tax is an example of Indirect Tax, wherein the customer pays the tax amount to the seller, who in turn remits it to the Government.
UAE’s Corporate Tax (CT) on income is a direct tax charged on the profit of businesses. Businesses have to compute their profits and pay taxes on the profit earned.
On the other hand, an indirect tax is collected from another person, mostly from customers, in addition to the price charged. The end customer ultimately bears the tax. The person paying the taxes to the Government collects the charges from his customer and remits it to the Government. Value Added Tax is an example of Indirect Tax, wherein the customer pays the tax amount to the seller, who in turn remits it to the Government.
UAE’s Corporate Tax (CT) on income is a direct tax charged on the profit of businesses. Businesses have to compute their profits and pay taxes on the profit earned.
Basis: Who will be taxed under the Corporate Tax?
In any tax system, residency is a key determinant of whether profits will be subject to CT in the UAE. A resident for the purpose of Corporate Tax (CT) includes
- A legal person incorporated in UAE;
- A legal person not incorporated in UAE but is effectively managed and controlled in UAE;
- A natural person who is engaged in a business in UAE
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Residents
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Non Residents
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Taxability on
Worldwide income |
Taxability on
Income from their Permanent Establishment (PE) in the UAE |
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Remarks
a) For a natural person, taxability will be limited to the income earned from their business activity carried out in the UAE b) Certain income earned from overseas will be exempt, including income from foreign branches and qualifying foreign shareholdings c) Where income earned from abroad is not exempt, income taxes paid in the foreign jurisdiction can be taken as a credit against the CT payable in the UAE |
Income which is sourced in the UAE.
Remarks a) The PE concept has been designed on the basis of the OECD Model Tax Convention b) Income earned by a non-resident from operating or leasing aircraft or ships in UAE is exempt with conditions. c) Income will generally be considered UAE sourced if;
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UAE CT will apply to all UAE businesses and commercial activities alike and across all Emirates unless specifically exempt. Below is a flowchart illustrating the basis of corporate taxation
The tax year for computing the corporate tax liability and for compliance
Taxes are levied on income earned during a period. Under UAE Corporate Taxes, a tax year shall be the financial year of the business as per the licensing documents.
The UAE CT will become effective for financial years starting on or after 1 June 2023. For example, if a company has a financial year starting on 01 January every year, the first year of corporate tax applicability for the business will be from 01 January 2024 to 31 December 2024.
The financial years are generally chosen at the time of incorporation and shall be mentioned in the incorporation documents such as Memorandum of Association (MOA) or Articles of Association (AOA). Financial years are generally 12 months. However, longer or shorter financial periods are permitted in the first year of operation or in order to give effect to a change in a financial year.
The financial years are generally chosen at the time of incorporation and shall be mentioned in the incorporation documents such as Memorandum of Association (MOA) or Articles of Association (AOA). Financial years are generally 12 months. However, longer or shorter financial periods are permitted in the first year of operation or in order to give effect to a change in a financial year.
In the absence of a financial year definition, the Gregorian calendar has to be followed for corporate tax purposes.
Calculation of taxable income
Accounting net profit (or loss) as stated in the financial statements of a business shall be the starting point for determining taxable income. While computing accounting net profit (or loss), Accounting Standards acceptable in UAE needs to be adopted. The tax authority has mentioned that alternate reporting standards will be considered to simplify compliance of small businesses and start-ups.
Currently, International Financial Reporting Standards (IFRS) have been widely adopted in the UAE.
While calculating taxable income, unrealised gains or losses from capital items will not be considered, whereas unrealised gains or losses from revenue items will be considered.
While calculating taxable income, unrealised gains or losses from capital items will not be considered, whereas unrealised gains or losses from revenue items will be considered.
Corporate Income Tax rates in the UAE
UAE tax regime proposes one of the lowest income tax rates in the world. The proposed tax rate on annual taxable income is as below.
- 0%, for taxable income not exceeding AED 375,000; and
- 9%, for taxable income exceeding AED 375,000;
- A different tax rate for large multinationals that meet specific criteria set with reference to ‘Pillar Two’ of the OECD Base Erosion and Profit Shifting project
For example, if a business earns a taxable income of AED 500,000 in a financial year, the CT liability will be calculated as below:
On taxable income of AED 0 – AED 375,000 at 0% = AED 0
On the portion of taxable income exceeding AED 375,000 (i.e. AED 500,000 – AED 375,000 = AED 125,000) at 9% = AED 11,250.
The UAE CT liability for the year will be AED 0 + AED 11,250 = AED 11,250
The final amount of UAE CT payable will be reduced by any foreign tax credits.
On taxable income of AED 0 – AED 375,000 at 0% = AED 0
On the portion of taxable income exceeding AED 375,000 (i.e. AED 500,000 – AED 375,000 = AED 125,000) at 9% = AED 11,250.
The UAE CT liability for the year will be AED 0 + AED 11,250 = AED 11,250
The final amount of UAE CT payable will be reduced by any foreign tax credits.
Disallowances: Expenses not allowed as a deduction from taxable income
Disallowances are expenses not allowed to claim as a reduction from the revenue. This results in higher taxable income and consequently hither tax payable.
Under UAE’s corporate tax, interest expenses for the year will be capped at 30% of EBITDA for the year. Interest up to a certain amount will be available as a deduction without capping to support small businesses and start-ups. The interest capping will not apply to banks, insurance companies and other regulated financial services industries. These interest capping rules will also not apply to businesses carried on by natural persons.
In addition, related party interest will only be deductible if there is a valid commercial reason for obtaining the loan. A valid commercial reason will be considered to exist if the related party lender is subject to CT (or an equivalent tax) of at least 9% on the interest income earned.
Further, while calculating taxable income, only a 50% allowance will be available for entertainment expenses.
Under UAE’s corporate tax, interest expenses for the year will be capped at 30% of EBITDA for the year. Interest up to a certain amount will be available as a deduction without capping to support small businesses and start-ups. The interest capping will not apply to banks, insurance companies and other regulated financial services industries. These interest capping rules will also not apply to businesses carried on by natural persons.
In addition, related party interest will only be deductible if there is a valid commercial reason for obtaining the loan. A valid commercial reason will be considered to exist if the related party lender is subject to CT (or an equivalent tax) of at least 9% on the interest income earned.
Further, while calculating taxable income, only a 50% allowance will be available for entertainment expenses.
Exemptions: Income exempt while computing corporate tax
Exceptions are income that is earned but not chargeable to tax. Under tax practices, where an income is exempt from tax, the corresponding cost cannot be deducted as an expense from any other income.
As proposed, dividends received and capital gains earned from the sale of shares of a subsidiary company shall not be taxed under the corporate tax. All domestic dividends earned from UAE companies, including dividends from free zone companies(even if they are availing 0% tax), will also be exempt from taxable income.
However, dividends paid by foreign companies and capital gains from the sale of shares in both UAE and foreign companies will be exempt, with below participation conditions.
Qualifying intra-group transactions and reorganizations will not be subject to UAE CT, subject to meeting conditions prescribed.
Businesses engaged in the extraction of natural resources will be outside the scope of Federal Corporate Tax and will remain subject to Emirate-level corporate taxation. This is not an exemption, but it is fully outside the purview of the legislation.
In order to maintain clarity and to prove the nexus where exempt income is earned, businesses shall maintain documentary evidence.
However, dividends paid by foreign companies and capital gains from the sale of shares in both UAE and foreign companies will be exempt, with below participation conditions.
- UAE shareholder company must own at least 5% of the shares of the subsidiary company.
- The foreign subsidiary is subject to CT (or an equivalent tax) at a rate of at least 9%.
Qualifying intra-group transactions and reorganizations will not be subject to UAE CT, subject to meeting conditions prescribed.
Businesses engaged in the extraction of natural resources will be outside the scope of Federal Corporate Tax and will remain subject to Emirate-level corporate taxation. This is not an exemption, but it is fully outside the purview of the legislation.
In order to maintain clarity and to prove the nexus where exempt income is earned, businesses shall maintain documentary evidence.
Tax credits, Carry forward, Set-off and Transfer of losses
Tax credits are deductions allowed from tax amount payable (and not from taxable income). Tax credits are primarily made available to avoid instances of the same income getting taxed twice in two different geographies. UAE companies can either
Set-off of losses means offsetting losses made in one year against profits made in another year. A facility to set off losses across years is required to eliminate the impact due to the timing difference of profit generation. For example, a new business is expected to result in losses in its early years and subsequently, will earn profits.
To make the taxability uniform as above, UAE Corporate Tax allows set off of losses up to a maximum of 75% of the taxable income in the year. However, balance losses can be carried forward to be set off against future profits for an indefinite period.
To avail of the benefit, the shareholders who were holding shares at the beginning of the year of loss shall continue to hold at least 50% of shares in the year of set off. The above condition does not apply to listed businesses. Further, if there is a change in ownership of more than 50%, tax losses may still be carried forward, provided the new owners carry on the same or similar business.
- claim a foreign tax credit for taxes paid in the foreign branch country, or
- elect to claim an exemption for their foreign branch profits
Set-off of losses means offsetting losses made in one year against profits made in another year. A facility to set off losses across years is required to eliminate the impact due to the timing difference of profit generation. For example, a new business is expected to result in losses in its early years and subsequently, will earn profits.
To make the taxability uniform as above, UAE Corporate Tax allows set off of losses up to a maximum of 75% of the taxable income in the year. However, balance losses can be carried forward to be set off against future profits for an indefinite period.
To avail of the benefit, the shareholders who were holding shares at the beginning of the year of loss shall continue to hold at least 50% of shares in the year of set off. The above condition does not apply to listed businesses. Further, if there is a change in ownership of more than 50%, tax losses may still be carried forward, provided the new owners carry on the same or similar business.
Forming tax groups in UAE
Tax grouping is a benefit of treating different licenses as one business, where the economic interest is closely held.
Under Corporate Income Tax, entities are permitted to form tax groups on the basis of a minimum 95% shareholding. Transfer of losses across group companies will be allowed subject to conditions. In addition, group-level relief will be permitted for the transfer of assets or for restructuring with conditions.
The advantages of forming a tax group will be a transfer of losses as above and reduced compliance. In addition, the group can file one return consolidating affairs of all businesses in the group. However, clarity on availing the benefit of the 0% tax slab limit of AED 375,000 each year may also get consolidated as a group.
A tax group formed for UAE corporate tax need not align with tax groups under Value Added Tax.
Under Corporate Income Tax, entities are permitted to form tax groups on the basis of a minimum 95% shareholding. Transfer of losses across group companies will be allowed subject to conditions. In addition, group-level relief will be permitted for the transfer of assets or for restructuring with conditions.
The advantages of forming a tax group will be a transfer of losses as above and reduced compliance. In addition, the group can file one return consolidating affairs of all businesses in the group. However, clarity on availing the benefit of the 0% tax slab limit of AED 375,000 each year may also get consolidated as a group.
A tax group formed for UAE corporate tax need not align with tax groups under Value Added Tax.
Withholding tax or Tax Deduction at Source
Withholding taxes are taxes deducted by the payee as a means for easy identification of income and early collection of taxes. Many tax systems worldwide mandate withholding, also known as “tax deduction” or “TDS”. The person deducting the tax needs to remit it to the Government by declaring the payee.
However, UAE proposes a 0% (zero percent) withholding tax on domestic and cross-border payments made by UAE businesses. This reduces the compliance burden on businesses.
However, UAE proposes a 0% (zero percent) withholding tax on domestic and cross-border payments made by UAE businesses. This reduces the compliance burden on businesses.
Transfer Pricing under UAE Corporate Tax
When applicable tax rates for two entities differ, businesses will find it attractive to transfer the profits of a higher tax-paying zone to a lower tax-paying zone. This is done by way of transferring income or expenses at a rate higher or lower than the market rate. This will shift profits from the high tax rate country to the low tax rate country. Transfer pricing provisions are relevant as a means to discourage such unhealthy practices.
In transfer pricing, guidelines are set to ensure that the transactions between related entities are conducted at “Arms’ Length Price” (ALP), meaning similar to prices between two unconnected parties.
Under UAE corporate tax laws, all Related Party transactions and transactions with Connected Persons will need to comply with transfer pricing rules and the arm’s length principle as set out in the OECD Transfer Pricing Guidelines.
A related party, as per the guidelines, is an individual or an entity with a pre-existing relationship with a business that is within the scope of the UAE CT regime through ownership, control or kinship. This covers below in brief.
In transfer pricing, guidelines are set to ensure that the transactions between related entities are conducted at “Arms’ Length Price” (ALP), meaning similar to prices between two unconnected parties.
Under UAE corporate tax laws, all Related Party transactions and transactions with Connected Persons will need to comply with transfer pricing rules and the arm’s length principle as set out in the OECD Transfer Pricing Guidelines.
A related party, as per the guidelines, is an individual or an entity with a pre-existing relationship with a business that is within the scope of the UAE CT regime through ownership, control or kinship. This covers below in brief.
- Two or more individuals related to the fourth degree of kinship or affiliation, including by birth, marriage, adoption or guardianship
- An individual and a legal entity where alone, or together with a related party, the individual directly or indirectly owns a 50% or greater share in, or controls, the legal entity
- Two or more legal entities where one legal entity or a taxpayer alone, or together with a related party, directly or indirectly owns a 50% or greater share in, or controls, the other legal entity
- A taxpayer and its branch or permanent establishment
- Partners in the same unincorporated partnership
- Exempt and non-exempt business activities of the same person
- An individual who directly or indirectly has an ownership interest in, or controls, the taxable person
- A director or officer of the taxable person
- An individual related to the owner, director or officer of the taxable person to the fourth degree of kinship or affiliation, including by birth, marriage, adoption or guardianship
- Where the taxable person is a partner in an unincorporated partnership, any other partner in the same partnership
- A Related Party of any of the above
- corresponds with the market value of the service provided; and
- is incurred wholly and exclusively for the purposes of the taxpayer’s business.
Compliance under UAE Corporate Tax
The Ministry of Finance has informed that the burden on businesses in terms of compliance will be minimal. However, businesses will be required to register for UAE CT purposes. More information on the registration process and ongoing compliance obligations for businesses are yet to be released.
The frequency of compliance by way of returns will be annual for each financial period.
As per the information published by MOF on their portal, the CT annual return will need to be filed electronically. Further guidance on the matter is expected.
UAE businesses will not be required to make advance UAE CT payments. Consequently, there are no corresponding compliance requirements such as provisional or advance corporate tax filings.
Like other taxes in the UAE, such as VAT, non-compliance will attract penalties. However, more information on this is yet to be published.
The frequency of compliance by way of returns will be annual for each financial period.
As per the information published by MOF on their portal, the CT annual return will need to be filed electronically. Further guidance on the matter is expected.
UAE businesses will not be required to make advance UAE CT payments. Consequently, there are no corresponding compliance requirements such as provisional or advance corporate tax filings.
Like other taxes in the UAE, such as VAT, non-compliance will attract penalties. However, more information on this is yet to be published.
Corporate Income Tax on Free Zone companies
Free Zone persons can benefit from a 0% CT rate on income earned from transactions with businesses located outside the UAE and from trading with businesses located in the same or any other Free Zones.
A branch of a Free Zone in mainland UAE will be taxed at the regular CT rate on its mainland sourced income. On other income, the free zone can continue to benefit from the 0% CT. Free Zone persons transacting with mainland entities, otherwise than through a branch, can continue to avail 0% CT if it is earning only Passive income (interest, royalty and capital gains from shares)
The 0% CT regime will also apply to transactions between Free Zone Persons and their group companies in mainland UAE. However, the payment shall not be allowed as an expense to the mainland company. In effect, mainland companies will bear tax on this income.
Any other mainland sourced income will disqualify a Free Zone Person from the 0% CT regime in respect of ALL their income.
Even though Free Zone persons can benefit from 0% tax, compliance is mandatory. This means annual tax return filing is compulsory for all Free Zone Persons.
For corporate tax purposes, all businesses in all Free Zones will be treated alike. There is no differential treatment like Designated Free Zones in the Value Added Tax Context.
A branch of a Free Zone in mainland UAE will be taxed at the regular CT rate on its mainland sourced income. On other income, the free zone can continue to benefit from the 0% CT. Free Zone persons transacting with mainland entities, otherwise than through a branch, can continue to avail 0% CT if it is earning only Passive income (interest, royalty and capital gains from shares)
The 0% CT regime will also apply to transactions between Free Zone Persons and their group companies in mainland UAE. However, the payment shall not be allowed as an expense to the mainland company. In effect, mainland companies will bear tax on this income.
Any other mainland sourced income will disqualify a Free Zone Person from the 0% CT regime in respect of ALL their income.
Even though Free Zone persons can benefit from 0% tax, compliance is mandatory. This means annual tax return filing is compulsory for all Free Zone Persons.
For corporate tax purposes, all businesses in all Free Zones will be treated alike. There is no differential treatment like Designated Free Zones in the Value Added Tax Context.
Incentives to investment funds
UAE and foreign investment funds that are structured as unincorporated partnerships will be treated as fiscally transparent, which puts investors in the fund in a similar tax position as if they had invested directly in the underlying assets of the fund. Further, regulated investment funds and Real Estate Investment Trusts can apply to be exempt from UAE CT subject to meeting specified conditions.
Tax on large multinational corporations
A multinational corporation is a corporation that operates in its home country, as well as in other countries through a foreign subsidiary, branch or other forms of presence or registration. An entity will not be treated as a multinational corporation merely because the business earns income from outside the country. However, if the country has a foreign presence or registration, there are chances that the entity will be treated as a permanent establishment (PE).
“Large” in the context of the global minimum effective tax rate as proposed under ‘Pillar Two’ of the OECD Base Erosion and Profit Shifting project would mean corporations that have revenues in excess of AED 3.15 billion annually.
In effect, a large multinational corporation would mean a corporation that has an economic presence in multiple countries and having aggregate revenue in excess of AED 3.15 billion.
“Large” in the context of the global minimum effective tax rate as proposed under ‘Pillar Two’ of the OECD Base Erosion and Profit Shifting project would mean corporations that have revenues in excess of AED 3.15 billion annually.
In effect, a large multinational corporation would mean a corporation that has an economic presence in multiple countries and having aggregate revenue in excess of AED 3.15 billion.
Corporate Tax on citizen and expatriate resident individuals
The UAE does not tax the earnings of individuals unless it constitutes a business. This means the earnings from salaries, bank deposits, dividends, capital gains, and other income earned from owning shares or other securities in a personal capacity will not be subject to UAE Corporate Income Tax. Further, the investment in real estate by individuals in their personal capacity will not be subject to tax, provided the individual is not required to obtain a commercial license or permit to carry out such activity in the UAE.
However, individuals working with a freelance license, permit or visa will be subject to corporate income tax. Even then, the income earned up to AED 375,000 is taxed at 0%.
However, individuals working with a freelance license, permit or visa will be subject to corporate income tax. Even then, the income earned up to AED 375,000 is taxed at 0%.
UAE Corporate Income Tax on Foreign Companies and individuals
If a foreign entity or an individual is conducting a trade or business in UAE in a regular manner, the corresponding earnings from the country will be taxed under UAE Corporate Tax. However, transactions with no regularity will not be taxed.
Further, corporate income tax will generally not be levied on a foreign investor’s income from dividends, capital gains, interest, royalties and other investment returns.
Further, corporate income tax will generally not be levied on a foreign investor’s income from dividends, capital gains, interest, royalties and other investment returns.
Administration
The CT will be administered by the Federal Tax Authority (FTA). The FTA will be responsible for collection and enforcement. The Ministry of Finance will act as the ‘competent authority for bilateral agreements and the international exchange of information.
Get in touch with us to know more about the corporate tax developments in UAE.
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A word of caution!
This article has been written on the basis of the United Arab Emirates (UAE) Corporate Tax (CT) public consultation paper and the Frequently Asked Questions (FAQs) published by the UAE Ministry of Finance (MoF) on their website following an announcement of the consultation paper in January 2022.
Get in touch with us to know more about the corporate tax developments in UAE.
Contact us
A word of caution!
This article has been written on the basis of the United Arab Emirates (UAE) Corporate Tax (CT) public consultation paper and the Frequently Asked Questions (FAQs) published by the UAE Ministry of Finance (MoF) on their website following an announcement of the consultation paper in January 2022.
