UAE announces the introduction of federal corporate income tax

Following the largest legal reform in the country’s history, the UAE government has announced the introduction of federal corporate income tax. In this article, we take a look at how structures and deals will be impacted by corporate tax and what UAE businesses should be aware of.

Impact on foreign direct investment

The UAE’s corporate tax rate will be one of the lowest in the world and is still attractive for inward investment. The Ministry of Finance has also confirmed that there will be no UAE withholding tax on dividends, interest, royalties and similar payments. The UAE government has positioned the introduction of corporate tax to ensure that the UAE will remain an attractive destination for foreign direct investment for years to come.

The UAE will also continue to attract highly qualified individuals into the country because it will remain tax free for employment income (whether received from the public or private sector), and no tax will be levied on income or gains deriving from personal investments.

Free zones

The Ministry of Finance announcement states that free zone businesses will be subject to corporate tax – in particular they will be required to submit corporate tax returns. The Ministry of Finance has, however, stated that the new regime will honour the tax incentives currently offered to free zone establishments, if they comply with applicable regulatory requirements and do not conduct business onshore in the UAE. 

It is not uncommon for businesses to operate from a free zone with a proportion of their revenue derived from the supply of goods or services onshore. It would appear, on the face of the announcement, that this part of their revenue could be subject to corporate tax. This makes sense as otherwise free zone establishment would be an obvious tax mitigation option. 

Although we have not seen the Law or Implementing Regulations with the finer detail of the impact on free zone businesses, it is likely that there will be increased administrative requirements to account for their onshore derived revenues. With the relaxation of foreign ownership restrictions and greater real estate choices onshore, it may be that businesses based in the free zones will assess whether they should establish an onshore presence.

The application of corporate tax in the UAE will have a fundamental impact on decisions around approaches to market entry and corporate structuring. Businesses operating in the UAE will need to consider what impact corporate tax will have on their existing structures, shareholding arrangements,  agreements between group companies, their ability to maximise the use of losses or other corporate tax reliefs, and whether any proposed reorganisations or disposals will qualify for corporate tax reliefs (such as in respect of qualifying intra-group transactions or disposals of qualifying holdings) or may trigger unexpected corporate tax liabilities. International companies with marketing or so-called “rep-offices” in the UAE will also need to consider whether these will now be treated as taxable permanent establishments and whether the FTA will seek to attribute substantial taxable profits to the operations of such offices.

Corporate deals

The M&A market will be affected by the introduction of corporate tax. Investors will welcome the fact that dividends and capital gains of a qualifying shareholding will be exempt from tax. However, greater due diligence costs are likely, to ensure that there is a full understanding of the corporate tax liabilities being acquired. We may see an increased flow of asset rather the share sales, so that buyers can control better the tax liabilities they acquire. Agreements will need to be bolstered to include more extensive tax warranties and indemnities. We may also see greater interest in warranty and indemnity insurance cover, to offer protection for shortfalls in protection for unexpected tax liabilities and penalties. This may be particularly the case for the first few years of the new corporate tax regime, where there may be greater risk of mistakes as the system and its requirements are embedded into organisational processes.

Summary of key points

• Corporate Tax will apply for financial years starting on or after 1 June 2023
• Federal tax
• Applicable to all UAE businesses and commercial activities (including sole establishments and freelancers)
• Exclusion for companies involved in the extraction of natural resources, which will remain subject to Emirate level corporate taxation
• Rates:
  • 0% for taxable income up to AED 375,000;
  • 9% for taxable income above AED 375,000
• Higher rate for large international multi-nationals (with global revenues of more than AED3.15 billion)
• Taxable income will be the accounting net profit of a business (determined in accordance with IAS), after making adjustments for certain items to be specified under the UAE CT law in due course
• Tax grouping will be possible
• Certain income will be exempt from corporate tax, such as dividends and capital gains earned by a UAE business from its “qualifying shareholdings” and “qualifying” intra-group transactions
• Offset of losses from taxable income in subsequent financial periods will be permitted
• Foreign corporate tax paid on UAE taxable income will be allowed as a tax credit against the UAE corporate tax liability

Next steps

All UAE businesses should start to plan ahead for the introduction of corporate tax. As ever, however, the devil will be in the detail. A full review of the Corporate Tax Law and Regulations once issued will be necessary to understand, for example, exactly how the exemptions will apply and to clarify how free zone busines will be treated. Some legal restructuring may be advisable to optimise the corporate tax position.

If you would like further information on any issue raised in this article, please contact Ben Smith, Phil O'Riordan, Ray Smith or Justine Reeves.