UAE corporate income tax rollout effective 1 June 2023
There have been lots of discussions and debates around the expectations from the tax laws. Although the final law is still not published, Ministry of Finance released a public consultation document outlining the key features of the tax law. Vikas Arora, Co-Founder, CEO- CXO Factor weighs in.
As we continue to discuss with corporates on their readiness to adapt to the new tax law, we do advise them on key matters they should be mindful of and consider while they welcome the law next year.
If you own multiple businesses, specially having operations in different countries, through separate legal entities, it may be an opportune time to revisit the ownership structure and streamline it in a way that makes your businesses tax efficient.
Few points to consider will be the countries you operate in, double tax treaties with those countries, whether you operate through a branch, subsidiary, or any other form.
As per the draft law, UAE businesses will be subject to tax on their worldwide income, except for businesses conducted through foreign subsidiaries and branches, therefore you may want to assess if your businesses currently sit within an optimal tax efficient structure.
Ownership structure of your business
Also, for your businesses within UAE, it is worth contemplating whether you need to have a consolidated holding company structure rather than multiple companies owned by different/same family members. This may help in setting off losses of one entity with another entity’s profits (up to maximum of 75% of taxable income) and file consolidated holding company results for tax purposes.
Free zone companies
Although the free zone companies are currently exempt from UAE corporate income tax (subject to certain rules), it is required for them to file tax returns.
They will be exempt from tax on income from transactions with businesses located outside UAE, or from trading with businesses in same or another free zone. A free zone company which has a branch in mainland UAE will be taxed on its mainland sourced income.
However, if the free zone entity is earning income from mainland UAE (other than passive income – dividends, interest, capital gains from shares), it will be taxed at normal rates.
Therefore, it may be the right time to look at the business transactions with mainland and restructure them to ensure taxes are paid only on mainland sourced income and there is no ambiguity around the income sources and expense deductions.
Transfer Pricing / Arms’ length related party transactions
The UAE corporate income tax will include transfer pricing rules to ensure any transaction between related parties follows the internationally recognized arms’ length principle.
Payments to related parties (namely shareholders, directors – called as ‘connected persons’), will be allowed as a tax deduction if the business can demonstrate that such payment is incurred wholly and exclusively for the business and is at market price of the product/service provided.
Therefore, it is important that you have the suitable documentation to support such payments and obtain tax deduction benefit.
Businesses would have been funded through equity, debt, or a combination of both. In lot of businesses, we have seen shareholder capital also provided as a debt to the company rather than equity. Although there is no issue with that, the tax law will want to ensure any interest payments made are not in excess to avoid tax, and thus the law proposes to limit such interest payments.
As per the initial guidelines, there is a cap on such payments to 30% of EBITDA (earnings before interest, tax, depreciation, and amortization). Therefore, one may want to back-calculate and see the optimal level for related party debt and capitalize the balance of funding if needed. This may also strengthen balance sheet and help the businesses to raise equity/debt from third parties at an opportune time.
Foreign companies doing business in UAE
To assess the taxability of foreign companies doing business in UAE, the tax regime has been designed on basis of the OECD Model Tax Convention.
A foreign company may be treated as UAE resident for tax if it is effectively managed and controlled within UAE, namely where are the directors / key decision makers of the business based, which may create a Permanent Establishment (PE) for the foreign company in UAE.
The key tests for PE are two-fold –
Fixed place of business test – if the foreign company has a branch, office, factory in UAE; however, a fixed place will not include a place only for preparatory work (for example marketing, promotional activities) or a place to store / deliver stock of goods.
Dependent agent test – where UAE based persons have authority to conclude contracts on behalf of the foreign company.
Therefore, it is extremely important for the foreign company to ensure they outline and plan how their business within UAE is conducted in a manner that may not create a PE.
Vikas Arora is a senior professional and entrepreneur with over 25 years of experience across varied businesses and geographies.
His experience includes working with multi-national companies and start-ups across the globe, including in India, GCC, US, UK, Australia, helping them with their growth strategy, financing, governance, investment matters, valuations, negotiations, and more.
Having completed his chartered accountancy at the age of 23, he ventured into opening his own consulting, and was instrumental in helping his clients in their finance and tax matters, gaining their trust and growing his eco-system to over 100 clients in a span of just over three years, before he expanded into GCC region.