In the rapidly changing legal environment of the GCC, the introduction of Value Added Tax (VAT) is the hottest of hot topics. In this briefing, we highlight what we know and, as importantly, what we do not yet know about the imposition of VAT for GCC businesses. We also suggest some simple steps businesses might think about now, in preparation for the implementation of VAT.
What is VAT?
VAT is a tax on the supply of goods and services. VAT is paid by the buyer of the goods or services at each step of the supply chain. Collection of VAT is facilitated by businesses, through the supply chain, on behalf of the government.
If you are in the middle of the supply chain, you can offset the VAT you pay to your suppliers (known as input VAT) from the VAT you collect from the buyers of your goods or services (known as output VAT). You are required to account to the government for the difference between the output VAT and input VAT, if the output VAT is the higher amount. In other words, in the situation where you have collected more VAT than you have paid. If you have paid more input VAT than you have received as output VAT, you may reclaim the difference from the government. The end consumer is ultimately liable for the full amount of VAT.
What do we know about GCC VAT?
The national governments of the GCC states have been co-operating on the imposition of VAT simultaneously across the GCC. A GCC Unified Agreement for VAT (also known as the VAT Framework Agreement) exists in final form, but has not been made public yet.
The VAT Framework Agreement will need to be approved and brought into effect by each of the GCC states, individually. It is likely that each GCC State also will publish its own legislation to practically apply VAT in its jurisdiction. To date, the government of the Kingdom of Saudi Arabia has approved the VAT Framework Agreement, as announced in the KSA Official Gazette (but without publishing the Agreement). No other GCC state has published any form of approval yet.
There is a lot of market speculation about the contents of the VAT Framework Agreement. The following are the key facts which have been made public for UAE businesses by the UAE Ministry of Finance:
- The UAE government has stated that it is likely that VAT will be implemented in the UAE on 1 January 2018.The timeframe for other GCC states may not be the same.
- The standard rate of VAT is likely to be 5%.
- Businesses will need to be VAT registered.The UAE Ministry of Finance has stated that registration is expected to be available three months before the launch of VAT in the UAE.Businesses will be able to complete their VAT registration online.
- Businesses will need to complete and submit VAT returns to the government on a regular basis.The UAE Ministry of Finance has stated that it is expected that the default VAT return filing period will be three months.In other words, there will be a quarterly filing and payment/reclaim process for most businesses.
What information is not yet known?
- VAT exempt business – some businesses will be exempt from registration for VAT. The UAE Ministry of Finance has confirmed that the exemptions will be based on an annual turnover test. However, the threshold for this exemption has not yet been published. The intention is that small businesses will not be required to register and report on VAT in order to prevent additional costs disproportionate to their business size. This will put small businesses into the same position as an end consumer. Businesses with a certain level of turnover may be able to voluntarily register for VAT. Such businesses will need to consider the cost of compliance with VAT regulations versus the benefit of being VAT registered, being the amount that could potentially be reclaimed from purchases made by the business.
- Free zones – one of the key unknown facts is whether VAT registration will apply to free zones companies and branches, and whether entities in the financial free zones (the DIFC and ADGM) will be treated differently to companies in the "classic" free zones (such as JAFZ and Creative Clusters). It is important to recognise that the tax reliefs granted to free zone entities are contained in Emirate level laws. For example, the DIFC tax relief of zero rate tax for a period of 50 years is set out in Dubai Law No. 9 of 2004. There are specific provisions of the UAE Constitution on federal taxation. Article 133 of the Constitution states that no person may be exempted from the payment of a federal tax except as provided specifically in a federal Law. Therefore, if the free zones and entities established within them will not be subjected to VAT, the VAT legislation will need to expressly carve them out.
- Exempt or zero rated goods and services – the UAE Ministry of Finance has made clear that some limited goods and services will be subject to relief. The types of goods and services affected by these reliefs have not been officially confirmed in the UAE. However, press reports suggest that medicines, basic food products, and education may be included. It is also unknown whether these reliefs will be offered as exemptions or by "zero rating". Whilst, for the end consumer, the effect is the same, there is a key difference for businesses between the two in other VAT systems. Suppliers of "zero rated" goods and services must register for VAT. They charge output VAT at 0% on the "zero rated" goods and services, and usually may recover the input VAT they pay to enable those supplies. VAT exempt goods and services means that no output VAT is recorded at all, but also the supplier is generally not permitted to recover the associated input VAT either. Companies which supply only VAT exempted goods and services may not be required to register for VAT at all and therefore are in the same position as an end consumer.
- VAT groups – in other VAT systems, it is possible to form VAT groups within company groups so that intra-group supplies do not attract VAT between the group members. There is usually one company which acts as the VAT representative of the entire group. It is not clear whether this group approach will be adopted in the UAE or the wider GCC. Historically, UAE legislation has not provided detailed provisions on company groups and their composition.
What should we be doing now?
In the countdown to VAT implementation, companies should consider taking some simple steps now to keep abreast of their obligations:
- Plan ahead in commercial contracts – consider whether there are any provisions in your new commercial contracts which should reflect the imposition of VAT, especially if they will run past 1 January 2018. In particular, clauses related to pricing should contemplate whether those prices are quoted exclusive or inclusive of VAT, and the basic mechanism for VAT recovery.
- Existing contracts and terms of business – perform some due diligence on your existing contracts. Which contracts may be ongoing on 1 January 2018? Do you need to consider an amendment to any provisions in these contracts, and to any standard terms of business?
- M&A/JV transactions - consideration should be given as to whether relevant agreements should now include specific obligations, warranties and indemnities, in relation to VAT.
- Take professional advice – for example, if you are a supplier of potentially exempt or zero rated products or services, or in a sector likely to be affected the most by VAT (such as retail and real estate), take advice on how to mitigate the impact of VAT on your business.
- Think about your invoicing systems – do they enable the addition of VAT to the invoice price to form a valid record of the payment of VAT?
- Resourcing – do you need to hire additional staff to maintain VAT records and to take responsibility for VAT filings? As most parts of a business will be impacted by VAT, consider whether a committee or task force should be constituted, with representatives from each relevant part of the business, to focus on how best to manage the change in systems, processes and procedures.
- Keep in touch with official announcements – the UAE Ministry of Finance's website is updated when new official information becomes available. It states that detailed information on VAT implementation will be available in the near future - https://www.mof.gov.ae/En/budget/Pages/VATQuestions.aspx#faq4
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.