2023, corporate tax: the impact of the tax reform and the introduction of corporate tax in Dubai

The recent introduction of Corporate Income Tax (CIT), also known as corporate tax, in Dubai and the United Arab Emirates has brought significant changes to the country’s tax landscape. This new tax regulation has raised questions among businesses and entrepreneurs established in this dynamic metropolis. To clarify the issues surrounding CIT and guide economic actors in this new fiscal environment, we offer this article explaining the essential points of the reform.

Tax Rates: What Impact on Businesses?

A crucial aspect of Corporate Tax is the tax rate. It is important to note that there are two categories of taxpayers in the United Arab Emirates: individuals and entities. For both categories, the tax rates are as follows:

• 0% for taxable income up to 375,000 AED.
• 9% for taxable income exceeding 375,000 AED.

For “qualifying free zone persons,” a 9% tax rate applies to taxable income that does not meet the definition of qualifying income.

Let’s take an example to illustrate the income tax calculation. Suppose a company generated taxable income of 900,000 AED. Here is how the income tax amount would be calculated:

Taxable income of 375,000 AED subject to a 0% rate: 375,000 AED x 0% = 0 AED Taxable income exceeding 375,000 AED subject to a 9% rate: (900,000 AED – 375,000 AED) = 525,000 AED x 9% = 47,250 AED

In this example, the company would have to pay a total income tax of 47,250 AED.

Understanding the Subjects and Tax Base of Corporate Tax

Under Corporate Tax in Dubai, three categories of taxpayers are subject to taxation:

• Legal entities registered in the UAE, including in free zones, are subject to taxation on their entire income.
• Foreign legal entities effectively managed and controlled from the UAE, following the concept of Place Of Effective Management – POEM, are also subject to comprehensive taxation of their income.
• Individuals conducting business activities in the UAE are taxed on their worldwide income related to that business activity.

Tax Exemptions in 2023: Who is Eligible?

Four categories of individuals benefit from an exemption from Corporate Income Tax (CIT):

• Government entities and those under their control.
• Individuals involved in sectors such as resource extraction and activities related to non-extractive natural resources.
• Investment funds and public utility entities meeting eligibility criteria.
• Pension funds and social security programs regulated by competent authorities.

Additionally, taxable residents may benefit from tax reductions for small businesses, provided their income does not exceed 3 million AED during each fiscal period. Article 21 of the UAE Corporate Tax Law, also known as the “CT law,” deals with tax relief for small businesses. It stipulates that when a taxpayer’s income remains below a threshold defined by the ministry, the income may be chosen not to be considered taxable.

Implications for Free Zone Businesses in Dubai

Corporate Tax mainly applies to Mainland companies and Free Zone companies. However, under certain conditions, companies in free zones can benefit from exemptions.

Companies in free zones must meet these criteria:

• Maintain a substantial presence in the UAE.
• Identify “qualifying income.”
• Not opt for subjecting to standard corporate tax rates.
• Follow the principle of fair competition and document fund transfers.

Qualifying Income for Free Zone Companies

Only free zone companies with a significant economic presence in the UAE engaged in the following activities are exempt from corporate income tax:
(a) Manufacturing of goods or materials.
(b) Transformation of goods or materials.
(c) Holding of shares and other securities.
(d) Ownership, management, and operation of ships.
(e) Reinsurance services.
(f) Fund management services.
(g) Wealth and investment management services.
(h) Headquarter services for related parties.
(i) Treasury and financing services for related parties.
(j) Financing and leasing of aircraft, including engines and interchangeable components.
(k) Distribution of goods or materials from a designated zone to a customer who resells these goods or materials or transforms or modifies them for sale or resale.
(l) Logistics services.

Income Exempt from Corporate Income Tax

Certain types of income and expenses are not considered in the calculation of taxable income, divided into five distinct categories:

• Dividends or profit distributions from resident companies.
• Dividends or profit distributions from holdings in foreign companies (participation exemption).
• Any other income from participations.
• Income generated by a permanent establishment abroad (to avoid double taxation).
• Income from the operation of aircraft or ships by non-residents in the course of international transport.

Non-Deductible Expenses: The Profit Enemy!

Once the audit report is established, the General Assembly of shareholders intervenes. It meets to review and approve various matters, including annual accounts and any dividends to be distributed to shareholders. These crucial decisions are recorded in a General Assembly minute, ensuring formal documentation.

Regarding non-deductible expenses, they encompass various items such as donations, grants, or gifts, fines, bribes, unjustified dividends, expenses unrelated to the business activity, and losses not related to the fiscally taxable activity.

Payments to Related Parties: Rules and Constraints

Payments made to related parties are allowed, but they must adhere to specific guidelines. Three categories of payments are defined:

• Payments to owners: Any payment or benefit granted by an entity to a related party can only be deducted if it equals the market value and is exclusively related to the entity’s activity.
• Directors/Officers: The principle of fair competition applies, as well as rules and transfer pricing documentation to determine the fair value of the service.
• Related party of an owner, director, or executive: In this case, any excess payment not corresponding to the market value cannot be counted as a deductible expense.

Anti-Abuse Rules

The law has established general provisions to combat tax abuse, restricting attempts at tax evasion. These rules apply to transactions or arrangements entered into without legitimate commercial justification, solely for the purpose of obtaining tax benefits. Several criteria are examined to determine whether a transaction or agreement was entered into for the purpose of obtaining tax benefits. The General Anti-Abuse Rule (GAAR) measures are implemented to regulate such transactions.

Preparation and Tax Declarations for Corporate Income Tax

The first step is to register for Corporate Tax. Then, the tax declaration must be submitted, and the tax paid within nine months after the end of the relevant fiscal period. This also applies to companies operating in free zones, unless they benefit from tax incentives.

It is crucial to note that all taxpayers, whether profitable or not, must file their tax declaration. This step is crucial, especially for taxpayers with recorded tax losses, as it allows the use of these losses to reduce taxable income in subsequent years.

• Issuance of Financial Statements: Different categories of taxpayers must create and retain financial statements, which must be audited or certified (with specific details yet to be defined by competent authorities). The tax authority may also request the taxpayer to provide these financial statements to determine taxable income. For the year 2023, financial statements as of December 31 will be prepared following the arm’s length principle, in accordance with Article 34 – Transitional Rules.
• Document Retention: It is imperative to retain all supporting documents and documents related to corporate income tax for a period of seven years from the end of the relevant fiscal period, including for exempt entities.

Corporate Tax in the United Arab Emirates represents a significant change in the country’s tax system. While the UAE continues to offer many tax benefits, it is essential for businesses to understand the implications of Corporate Tax and comply with their tax obligations. An experienced accounting firm can play a crucial role in managing tax compliance and maximizing tax benefits for businesses operating in the UAE. For professional advice and expert support in Corporate Tax matters, contact our firm: support@ares-accounting.com.