UAE Federal Corporate Tax: How Will it Impact the US Taxpayer? Part I

My most recent article, co-authored with Clarence Ellis and published by Bloomberg, is copied in full below. The article examines in unique detail the latest news in the tax world of the United Arab Emirates (UAE), which announced it will start to impose tax on business enterprises in the Emirates.

Before you read the full article, below, let me set the stage a bit more. It is well established that in various contexts, foreign law is relevant to the interpretation or application of US tax rules. As readers know, my blog deals with US international tax issues. Understanding the laws of a foreign country is often paramount to accurately resolving US tax issues for many persons – whether these be issues faced by the American abroad or by non-US persons having some US connection.

Today’s post will be the first part of a 3-part series and will set out the parameters of the new and forthcoming UAE tax on commercial business. Part 2, next week, will examine how this new UAE tax will affect the US taxpayer operating business in the UAE as a sole proprietor or so-called “foreign disregarded entity”.

Here you go!

Published by Bloomberg Tax February 4, 2022 in the Tax Insights & Commentary News.

Reproduced with permission, The Bureau of National Affairs, Inc. (800-372-1033) www.bloombergindustry.com

It’s Here! The UAE’s Much-Awaited Federal Corporate Tax

On Jan. 31, the UAE Ministry of Finance published a press release, together with some frequently asked questions, on the introduction of a federal corporate tax on business, to be implemented in June 2023. Once in place, the UAE will join the other Gulf Cooperation Council (GCC) countries, except for Bahrain, that collect corporate tax on commercial enterprises.

We have been based in the United Arab Emirates for decades working on international tax matters. As such, we have a unique understanding and perspective as to the development of the country, including its recent tax regimes. Our article discusses several little-known details that will embellish and clarify the announcement.

Various developments in the UAE’s tax landscape have culminated in the introduction of this federal corporate tax, or CT, each one helping to pave the way for the country’s meteoric rise in the world of international business. The UAE harmonized its custom tariff at 5%, in line with the Unified Customs Law for GCC countries, effective Jan. 1, 2002. Additionally, an excise tax of varying rates and a 5% value-added tax were levied in October 2017 and January 2018, respectively. In 2021, the UAE also approved the OECD international tax reform, referred to as BEPS 2.0, which included a global minimum tax under OECD Pillar Two. Advent of the CT regime underscores the UAE’s ongoing commitment to meeting international tax transparency and fairness standards.

Details of the Corporate Tax

Details of the CT demonstrate the UAE’s commitment to align with international tax reform. The CT will be levied at a 9% standard statutory tax rate on adjusted taxable profits above AED375,000 (US$100,000) as a minimum threshold. A different tax rate for large multinationals that meet specific criteria set with reference to OECD’s Pillar Two will soon be announced.

Adjusted profits are those amounts reported in a corporation’s financial statement prepared in accordance with internationally accepted accounting standards, with minimal exceptions and adjustments. Where a business records losses, it can offset these amounts against the future with excess tax losses being carried forward. The press release mentions generous loss utilization rules, which anticipate tax losses being carried forward for at least five years, if not indefinitely, with few significant restrictions on change of ownership or activity.

Through a subject to tax rule, or STTR, Pillar Two protects the right of developing countries to tax certain base-eroding payments (e.g., interest and royalties) when these are not taxed at the minimum rate of 9%. With the CT tax rate of 9%, foreign top-up tax under the STTR may not be applied to UAE companies.

The corporate tax is levied on a residence basis, with foreign entities and individuals subject to tax only if they conduct a trade or business in the UAE in an ongoing or regular manner. Guidance is expected on residence and permanent establishment, which will dictate the liability of foreign entities. All businesses that fall within the “residence” criteria will be required to register annually for the UAE CT, with one CT return filed electronically per financial period. No provisional or advance CT filings or payments will be required.

There will be penalties for non-compliance with the CT regime. Though there is a commitment to keep compliance burdens to a minimum, transfer pricing and documentation requirements will apply to UAE businesses with reference to the OECD Transfer Pricing Guidelines.

“Income subject to tax” will not be applied to income from employment, real estate, savings, or investment, or other income earned by individuals in their personal capacity that is not attributable to a UAE trade or business. The CT will be applicable if an individual with a so-called freelance license earns income over the minimum threshold.

Group and Related Companies

The UAE has positioned itself as an international headquarters location. In line with this important role, there are CT exemptions for dividends and capital gains earned by UAE businesses from their qualifying shareholdings. Foreign taxes may be credited against the CT. Further details on the CT regime are expected to clarify, among other things, the qualifying shareholding in terms of the ownership interest in a UAE or foreign company.

UAE companies will be able to form a fiscal unity and file a single tax return. The minimum common ownership requirements are yet to be communicated. UAE groups are also set to be taxed as single entities or to apply for group relief in respect of losses and intragroup transactions and restructurings. Tax losses from one group company may be used to offset the taxable income of another group company, provided certain conditions are met.

As a global financial center and an international business hub, the UAE will not impose withholding taxes on domestic and cross-border payments or subject foreign investors who do not conduct business in the UAE to corporate tax.

Free Zone Entities

So-called free zones exist in each emirate, each with its own rules and regulations. Essentially, these are economic areas where goods and services can be traded in accordance with special rules. These regimes permit 100% foreign company ownership and usually offer tax holidays and custom suspension to businesses established in the free zone. Tax holiday periods range between 15 and 50 years and are renewable.

All free-zone businesses will be subject to CT and must file a CT return. The CT regime will continue to honor the CT incentives currently being offered to free-zone businesses that comply with all regulatory requirements and that do not conduct business with mainland UAE. The press release does not address how long the various tax holidays afforded free-zone entities will be honored.

The Future

In view of the above changes, doing business in the UAE will get more expensive, reflecting the effect of the 9% corporate tax on adjusted tax profits, as well as higher administration and compliance costs, which have already been partially factored in when the value-added tax was introduced in 2018. Compared to other tax jurisdictions globally whose statutory corporate tax rate is 23.5%—when measured across 180 jurisdictions in 2021—and the favorable holding company incentives, with the lack of a dividend tax, zero withholding tax factored within the new regulations, the UAE is still a highly competitive country for a business investment.

Further clarification on the CT is anticipated in mid-2022, following the expected release of the global minimum tax commentary by the OECD in February. The authorities have given stakeholders ample time to meet the June 2023 deadline. Consequently, businesses should undertake relevant actions to bring their tax affairs up to current international standards and in line with the CT’s implementation.

Posted February 10, 2022

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