From 1 July 2023 the UAE will introduce its first ever federal corporate income tax (CIT), effective across all seven individual Emirates. Most UAE companies have little experience of corporate income taxation but time is now short. What should they expect and how can they prepare?
Most non-energy businesses in the UAE have no experience of paying income tax. This will change on 1 July 2023, when a single, unified corporate income tax (CIT) regime will come into effect across the entire UAE.
The new approach is being driven by powerful global trends:
- the UAE supports OECD efforts to create a global minimum CIT rate. A regime is needed that is capable of complying with the new international tax standard
- worldwide attitudes to hydrocarbon use are changing. The government needs to 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 Jan 2022. A list of FAQs introduced taxpayers to what they can expect.
More recently the 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 19 May 2022.
The consultation document does not contain the final provisions of the new federal CIT or provide an exhaustive picture of this important change to the UAE business environment. But it does provide lots of important new details about the when, what and how of the new regime.
The new regime will come into force on 1 July 2023 for full financial years starting on or after that date. For the many UAE businesses whose tax year starts on 1 January, that means the new system will apply first to income received in the 2024 calendar year.
CIT-liable businesses will need to register with the Federal Tax Authority (FTA) and obtain a tax registration number. If not they will be registered automatically. Tax returns will need to be submitted within nine months of the tax period end and accompanied by any supporting schedules and payment.
A three-rate structure will protect small businesses while allowing a higher rate for large multinational corporations, in line with the OECD's minimum rate proposals under the BEPS (base erosion and profit shifting) initiative.
- 0% on taxable income below AED 375,000 (approximately ?90,000).
- 9% on taxable income above AED 375,000.
- A higher rate - not yet finalised - will apply to large multinationals who meet the BEPS classification of consolidated global revenues exceeding ?750m (approximately AED 3.15 bn).
The MoF has provided limited information on how the OECD's Pillar Two rules will be embedded in the CIT regime. Further guidance is expected soon.
All businesses operating in the UAE will be subject to the new federal CIT at 9% unless they are for some reason exempted (we look at exemptions below).
Individuals already required to hold an official licence or permit in order to do business or practice professionally will also be subject to the new tax.
Foreign businesses carrying out their activities in 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).
Because of the risk for a foreign party carrying out activities that might 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 customers without triggering a UAE PE for the foreign investor or the foreign investment fund.
Businesses working in the extraction and exploitation of natural resources under long term concession agreements entered into with the government of one of the individual Emirates will remain subject to Emirate-level taxation.
The public consultation identifies the following as being exempt from the new CIT:
- the UAE government itself, including its wholly-owned entities carrying out non-commercial, sovereign or mandated activities
- charities and other public benefit organisations can apply to the MoF for exemption as long as they do not undertake any commercial activities
- regulated investment funds and real estate investment trusts can also be exempt as long as they meet certain requirements
- Free Zone entities are not fully exempted but the 0% rate will apply to income earned from transactions with businesses located outside the UAE or inside any Emirate Free Zone including their own. However, they may not be eligible for the 0% rate if the income comes from a mainland source and is not passive in nature.
What qualifies as taxable income?
Taxable income will be based on accounting net profit/loss calculated according to International Financial Reporting Standards (IFRS), and are grouped into the following areas.
- Interest expense deductions are limited to 30% of EBITDA and the interest charge must be by an arm's length party with a valid commercial reason. If the related party lender is itself exempt, or subject to the 0% CIT rate, the interest expense is not deductible.
- Payments to Free Zone entities are deductible only if they come from a mainland UAE branch to its head office in the Free Zone.
- Entertainment expenses are deductible up to 50%.
- Penalties, recoverable VAT and donations to organisations other than approved charities or public benefit organisations are not deductible.
- Unrealised gains or losses related to capital items should not be taken into account when calculating taxable income, but those related to revenue items can be.
- Foreign dividends and realised capital gains are exempt provided the shareholding company owns at least 5% of the subsidiary and the subsidiary is itself subject to CIT of at least 9% in its home country.
- 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 revenue derives from shareholdings in subsidiary companies that meet the conditions of the participation exemption.
- A UAE business can claim an exemption for its foreign branch profits, or claim a tax credit for taxes paid in the foreign country, provided the branch is itself subject to CIT of at least 9% in the foreign jurisdiction.
Whether to carry forward or transfer losses
Losses can be offset against future taxable income up to a maximum of 75% of the taxable income in each future tax period. This is allowed even if more than 50% of the ownership has changed hands provided the new owners are conducting a business that is the same or similar. This continuity of ownership requirement does not apply to businesses listed on the stock market.
Tax losses may also be transferred to another UAE company within a group (up to 75% of the taxable income of the receiving company) provided all companies in the group have at least 75% of their ownership in common. This option is not available to companies exempted from CIT or already benefitting from 0% CIT treatment in a Free Zone.
Foreign tax credits can be used to offset a UAE CIT liability on foreign sourced income, unless that income is already exempted. Unused credits cannot be carried forward or back, or refunded.
A resident group of companies can choose to form a tax group and so be treated as a single taxable person. The parent company must hold (direct or indirectly) at least 95% of the share capital and voting rights of all the subsidiaries. UAE branches of companies within the tax group can also be included.
The UAE CIT regime is expected to introduce transfer pricing rules in line with international practice. This means that transactions and arrangements between related parties must be at 'arm's length' to ensure that pricing is not influenced by their connection.
If the value of related-party transactions exceeds a certain threshold during a given tax period then the businesses will need to prepare a Local File and Master File, and submit a TP disclosure form for the intercompany transactions. We are waiting to hear whether 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 Tax Authority (FTA) and obtain a tax registration number within a defined period. Tax returns, supporting schedules and the necessary tax payment will all need to be submitted to the FTA within nine months of the relevant tax period end.
To benefit from the 0% CIT rate free zone, entities must have audited financial statements.
What you should do to prepare and how TMF Group can help
Preparing for, and complying with, the new federal corporate income tax will take many UAE businesses on a difficult journey across unfamiliar terrain.
CIT will have important consequences for business plans, strategies and legal agreements, but much ambiguity remains and 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 by your side there is no need to wait for the legislation to be finalised. Our extensive knowledge of UAE accounting, tax and Free Zone operations 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 to the subject matter. Specialist advice should be sought about your specific circumstances.