UAE Economic Substance Regulations: A Detailed Guide
More and more companies are flocking to the United Arab Emirates (UAE) thanks to friendly tax regimes such as no corporate taxes, no personal income tax. However, the country faces the challenge of tax transparency management.
With respect to such an issue, UAE Economic Substance Regulations were introduced in 2019 in an effort to exclude the country from the list of non-cooperative jurisdictions. The introduction is involved in monitoring businesses with harmful tax practices. Ras Al Khaimah (RAK) companies also fall under the UAE regulations.
*** RAK is one of seven state members composing the UAE. We will discuss more the emirate under the substance requirement in section 5 of the article.
1. Overview of the UAE Economic Substance Regulations
On 30th Apr, 2019, the Cabinet of UAE Ministers introduced Resolution No. 31 to apply the Economic Substance Regulations (ESR) to businesses in specific sectors. On 10th Aug, 2020, the UAE issued Resolution No. 57 to amend and replace the previous one.
The country made the resolution in accordance with the directives given by the Organisation for Economic Cooperation and Development (“OECD”) Forum and the European Union Code of Conduct Group (“EU COCG”) to counter harmful tax practices.
Economic Substance Regulations provide a set of rules ensuring all business transactions to be associated with business purposes or business substance. All UAE onshore, offshore and freezone companies which conduct relevant activities must demonstrate their actual profits corresponding to substantial economic presence in the jurisdiction.
2. Scope of the application
There are certain types of business entities subject to the Economic Substance Regulations, including “licensee”. Some exemptions are also specified in the law.
Your company will be considered as a “licensee” if:
- It is registered in the UAE, including a Free Zone and a Financial Free Zone;
- It is either a corporate legal entity with separate legal personality from its owners or an Unincorporated Partnership; and
- It carries out Relevant Activities.
In case of a branch, your branches will be within the scope of UAE Economic Substance Reporting requirements in certain situations. Particularly, your company is registered in the UAE and the branches don’t have separate legal personalities. In this case, you must report Relevant Activities of your company and its branches in a single Notification or Economic Substance Report.
On the other hand, your company is a foreign entity with branches registered in the UAE and having separate legal personalities, at the same time the branches are not tax residents in foreign jurisdictions, then all relevant activities must meet the regulations.
Your business entity is NOT considered as a licensee if it is a natural person, a sole proprietorship, or a trust and foundation.
Relevant Activities
Your company must comply with the UAE Economic Substance Regulations if it carries out the following activities:
- Banking business
- Insurance business
- Investment fund management business
- Lease-finance business
- Headquarter business
- Shipping business
- Holding company business
- Intellectual property business
- Distribution and service center business
The UAE government uses a “substance over form” approach to determine if your business entity carries out a Relevant Activity. It is regardless of whether such activity is contained in the company’s commercial license or permit.
A licensee which carries out more than one Relevant Activity in the same financial year must demonstrate economic substance for each activity. If it doesn’t perform any Relevant Activity during the relevant financial year, there is no need to meet Economic Substance reporting requirements.
Exemptions
The ES regulations are not imposed on the following licensees:
- Licensees that are non-UAE tax residents;
- Investment funds and their underlying Special Purpose Vehicles or investment holding entities;
- Business operating only in the UAE that is fully owned by UAE residents and not a part of any multinational group;
- Branches of foreign entities whose all relevant income is subject to tax in foreign jurisdictions;
- Licensees that have not earned income from a relevant activity.
Still, these exempted licensees must submit a Notification form to claim their exemptions to the Regulatory Authorities. Attached to such a form must be sufficient evidence to back up the claim.
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