Taxation Of Free Zone Companies Under The UAE Corporate Tax Regime

Introduction

The United Arab Emirates (“UAE”) has historically positioned itself as a tax-neutral and investor-friendly jurisdiction, enabling businesses to thrive through liberal ownership structures, world-class infrastructure, and simplified regulation. At the center of this strategy is the UAE's extensive network of over 40 Free Zones, including the Jebel Ali Free Zone Authority (“JAFZA”), Dubai Multi Commodities Centre (“DMCC”), Dubai International Financial Centre (“DIFC”), and Abu Dhabi Global Market (“ADGM”).

Traditionally, these Free Zones offered unmatched incentives: 100% foreign ownership, exemption from customs duties, unrestricted repatriation of profits, and—crucially—complete relief from corporate taxation. Until very recently, the only entities taxed directly were oil and gas companies (subject to Emirate-specific rates of 55%–85%) and branches of foreign banks (taxed at 20%).

This environment changed with the enactment of Federal Decree–Law No. 47 of 2022 on the Taxation of Corporations and Businesses (as amended by Decree–Law No. 60 of 2023). Effective for financial years beginning on or after 1 June 2023, the law introduced a federal corporate tax regime that applies across the UAE, including in Free Zones. Importantly, while the new framework preserves preferential treatment for Free Zone companies, these benefits are now conditional and tied to strict compliance.

The Corporate Tax Framework

The UAE Corporate Tax regime applies a tiered rate structure:

• 0% on taxable income up to AED 375,000,
• 9% on taxable income above this threshold, and
• an anticipated 15% effective tax rate for multinational enterprise (“MNE”) groups with consolidated global revenues of at least EUR 750 million, in line with the (“OECD”) Pillar Two global minimum tax framework.

For Free Zone companies, the regime establishes the concept of a Qualifying Free Zone Person (“QFZP”), which allows continued access to a 0% tax rate on qualifying income, provided the entity meets a defined set of conditions.

Free Zones under the Corporate Tax Law

Free Zones are specially designated geographic areas with their own licensing and regulatory authorities. They play a central role in the UAE's economic diversification strategy, serving as hubs for international trade, logistics, financial services, manufacturing, technology, and investment holding structures.

The policy rationale for maintaining preferential tax treatment for Free Zone companies is to:

1. Preserve the UAE's competitive position as a regional trade and investment hub.
2. Encourage cross-border and capital-light activities, such as fund management, distribution through Designated Zones, and reinsurance.
3. Maintain the attractiveness of Free Zones as platforms for foreign direct investment (“FDI”) while ensuring alignment with global tax standards.

Policy Rationale and Global Alignment

The UAE's corporate tax regime must be understood in the context of global tax reform. The UAE has long balanced its role as an investment hub with the need to maintain credibility in the international tax community. By aligning with Organisation for Economic Co-operation and Development (“OECD”) and Base Erosion and Profit Shifting (“BEPS”) standards and conditioning Free Zone incentives on genuine substance, the UAE ensures that benefits are reserved for real economic activity, not artificial arrangements. This approach protects treaty access, avoids “tax haven” stigma, and demonstrates the UAE's commitment to transparency while still offering one of the most competitive environments globally.

Qualifying Free Zone Person (QFZP) Status

Article 18 of the Corporate Tax Law, together with Cabinet Decision No. 100 of 2023 and Ministerial Decision No. 229 of 2025, sets out the framework for QFZPs.

To benefit from the 0% corporate tax rate, a Free Zone company must satisfy the following conditions:

1. Substance in the Free Zone – Carrying on core income-generating activities (CIGAs) with adequate employees, premises, and expenditure. Outsourcing is permitted only if the company supervises and controls the outsourced work.
2. Engagement in Qualifying Activities – Earning income from listed activities such as manufacturing, trading of commodities, fund management, reinsurance, holding shares, headquarters and treasury functions, and logistics.
3. Avoidance of Excluded Activities – Refraining from activities such as banking, insurance (other than reinsurance), general financing, IP exploitation, or residential real estate.
4. De Minimis Rule – Ensuring non-qualifying income does not exceed the lower of AED 5 million or 5% of revenue in a tax period.
5. Audited Financial Statements – Maintaining audited accounts with segregation of qualifying vs non-qualifying income.
6. Transfer Pricing Compliance – Applying the arm's-length principle and maintaining required disclosure and documentation.

If these conditions are breached, the company loses QFZP status for the current year and the following four years, with all income taxed at 9%.

Qualifying Income

Qualifying Income includes activities aligned with Free Zone objectives and UAE's economic strategy. Key categories include:

• Manufacturing and processing of goods within the Free Zone.
• Trading of qualifying commodities (metals, minerals, energy, agriculture) with recognized international pricing.
• Fund and wealth management services offered by licensed entities.
• Reinsurance services, excluding general insurance.
• Holding of shares and securities, where income arises from dividends and capital gains.
• Headquarters and treasury functions for group entities.
• Financing services to related parties and intra-group cash pooling.
• Leasing or ownership of ships and aircraft for international transport.
• Distribution of goods in or from a Designated Zone, provided import and resale conditions are satisfied.
• Logistics services supporting regional and international supply chains.
• Ancillary activities directly connected to the above.

These categories represent the core functions Free Zones were designed to encourage—export-oriented, globally connected, and low-risk to the domestic economy.

Non-Qualifying Income

Income outside these categories or expressly excluded is subject to 9% corporate tax. This includes:

• Banking and most insurance activities (other than reinsurance).
• General financing and leasing to unrelated parties.
• IP income (e.g., royalties, licensing fees) unless meeting OECD nexus standards.
• Real estate income – residential property in Free Zones, commercial property leased to non-Free Zone persons, and all property outside Free Zones.
• Transactions with natural persons, except in narrow cases such as fund management or aircraft leasing.
• Mainland supplies that do not qualify under Designated Zone exceptions.

Companies must carefully distinguish these income streams and maintain proper records, as even a small misstep can jeopardize QFZP benefits.

The De Minimis Rule

The de minimis test is a critical safeguard ensuring that QFZPs remain focused on their qualifying activities. It allows some tolerance but is unforgiving if breached.

• Threshold: lower of AED 5 million or 5% of total revenue per tax period.
• Exclusions: certain income streams (e.g., PE income and specific real estate income) are excluded from the calculation.
• Breach: exceeding the limit—by even a small margin—results in loss of QFZP status for five years.

Regular monitoring and early warning systems are essential to avoid this pitfall.

Interaction with VAT and Customs

Corporate tax obligations must also be viewed alongside VAT and customs frameworks. Certain Free Zones are classified as Designated Zones for VAT purposes, meaning that supplies between them may be zero-rated. However, VAT treatment does not always mirror corporate tax treatment—an export transaction may be VAT-exempt yet still taxed at 9% corporate tax if it is a non-qualifying activity. Similarly, goods imported into Designated Zones remain subject to customs controls, and movement into the mainland is treated as an import. Companies must therefore manage VAT, customs, and corporate tax compliance simultaneously, ensuring consistency across reporting systems.

Permanent Establishments (PEs)

A domestic PE arises where a Free Zone entity maintains a fixed place of business in the mainland or operates through an agent habitually concluding contracts. Income attributable to the PE is taxed at 9%, regardless of Free Zone benefits. A foreign PE is similarly carved out, taxed in the host country, and subject to double tax treaty relief or credits. Companies must carefully monitor activities to avoid unintentionally creating taxable PEs.

Real Estate Income

The treatment of immovable property is restrictive and clear:

• Commercial property in Free Zones: 0% only when leased to Free Zone persons.
• Commercial property leased to non-Free Zone persons: taxable at 9%.
• Residential property in Free Zones: always taxed at 9%.
• Property outside Free Zones: fully taxable at 9%.

Practical Compliance Risks

Despite clear rules, Free Zone entities face common compliance challenges. Misclassifying transactions with natural persons (e.g., e-commerce sales) often results in unintended non-qualifying income. Intragroup arrangements for financing, headquarter services, or cost-sharing may fall foul of transfer pricing rules if not documented at arm's length. Outsourcing without proper oversight undermines the substance test, while failing to account for mainland permanent establishments leads to unexpected 9% tax exposure. The greatest risk lies in de minimis breaches, where minor contracts or overlooked service income cause companies to lose their QFZP status for five years.

Substance Documentation – What the FTA Will Expect

Substance requirements are assessed based on factual evidence. Companies should maintain:

• Employment contracts and payroll for Free Zone-based staff.
• Lease agreements and utilities proving premises in the Free Zone.
• Board minutes evidencing management decisions taken locally.
• Outsourcing agreements with clauses demonstrating retained supervision.
• Audited financial statements segregating income streams.
• Transfer pricing documentation supporting arm's-length pricing.

Without this documentation, companies are vulnerable during FTA audits and risk losing preferential status.

Sector-Specific Observations

The regime impacts industries differently. Trading and logistics companies thrive when operating through Designated Zones but must maintain meticulous import and resale documentation. Financial services in DIFC and ADGM face stringent regulation, yet fund management and reinsurance continue to qualify. Family offices and holding companies benefit from exemption on dividends and capital gains, provided substance is present. Real estate investors face restrictions, with most property income taxable at 9%. Technology and IP businesses are the most constrained, as IP income is largely excluded from the regime unless it satisfies strict OECD nexus conditions.

Compliance Framework

QFZPs and other Free Zone companies must comply with an extensive framework:

• Tax registration with the FTA and obtaining a TRN.
• Annual tax return filing within nine months of year-end.
• Audited financial statements under Ministerial Decision No. 84 of 2025.
• Transfer pricing compliance under Cabinet Decision No. 97 of 2023.
• Record retention for seven years.
• GAAR enforcement, enabling the FTA to disregard arrangements primarily designed for tax benefits.

Pillar Two – Multinational Considerations

The UAE has implemented the OECD's Pillar Two rules, with a Domestic Minimum Top-Up Tax (DMTT) effective for financial years beginning on or after 1 January 2025. Multinational groups with consolidated revenues of at least EUR 750 million must maintain an effective tax rate of at least 15%, regardless of QFZP status. This neutralises the benefit of the 0% Free Zone regime for large groups but does not impact smaller businesses.

Comparative Overview: Mainland vs Free Zone vs QFZP

Key Takeaways

• Free Zone tax incentives are conditional, not automatic.
• The de minimis threshold is critical — small breaches can eliminate benefits.
• Substance requirements and transfer pricing compliance are central to retaining the 0% regime.
• QFZP status, once lost, cannot be regained for five years.
• Large MNEs should prepare for the 15% minimum tax under BEPS Pillar Two.

Conclusion

The UAE's Corporate Tax regime reflects a careful balancing act: preserving 0% Free Zone incentives for genuine economic activity while ensuring alignment with international tax standards.

For Free Zone businesses, the message is clear: the era of blanket exemptions is over. Companies must now demonstrate substance, monitor the de minimis rule, and proactively manage compliance to safeguard benefits.

Far from reducing competitiveness, these reforms enhance the UAE's credibility as a transparent, globally aligned hub for trade, finance, and investment.

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.