What are the consequences of introducing a corporate tax in the United Arab Emirates?
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By introducing a corporate tax, the United Arab Emirates (UAE) / Dubai notably wanted to reaffirm their commitment to respecting international standards regarding tax transparency and the prevention of harmful tax practices.
This corporate tax, which came into force on June 1, 2023, is governed by the Federal Decree-Law No. 47 of 2022 on the Taxation of Corporations and Businesses (https://mof.gov.ae/wp-content/uploads/2022/12/Federal-Decree-Law-No.-47-of-2022-EN.pdf), (the "Federal Decree-Law No. 47 of 2022").
Subject companies must now register for corporate tax (https://tax.gov.ae/en/services/corporate.tax.registration.aspx) and obtain a corporate tax registration number from the Federal Tax Authority, which is the competent authority for corporate tax.
The corporate tax return must be filed for each tax period within 9 months following the end of the tax period.
Regarding the rate applicable to this new tax, taxable income exceeding AED 375,000 will be taxed at 9%, while income below this threshold will be taxed at a 0% rate (Article 3 of the law).
Reading this Federal Decree-Law No. 47 of 2022 (1.), we understand that its scope of application is quite broad without being absolute, which will result in subjecting a certain number of persons (1.a) while providing for exemptions subject to meeting certain conditions (1.b).
Furthermore, although taxable income (2.) is multiple due to the duality of the criteria for determining this income (2.a), the Federal Decree-Law No. 47 of 2022 provides for the deductibility of certain expenses, which will have the effect of reducing the tax burden (2.b).
The scope of application of Federal Decree-Law No. 47 of 2022
Although the law applies to a wide range of both natural and legal persons (a), its scope is not absolute as exemptions are provided (b).
a. The principle: the liability of all resident and non-resident legal and natural persons operating in the UAE/Dubai
Article 11 of the Federal Decree-Law No. 47 of 2022 lists the persons subject to corporate tax.
Thus, the tax will apply to legal entities incorporated in the UAE and legal entities effectively managed and controlled in the UAE, as well as foreign legal entities having a permanent establishment in the UAE.
In this regard, the explanatory note for this same law specifies that the definition of permanent establishment in the Federal Decree-Law was designed based on the definition provided in Article 5 of the OECD Model Tax Convention on Income and on Capital, which allows us to refer to the OECD commentaries on this article in order to accurately outline the concept of permanent establishment.
The Federal Decree-law defines this concept as any place of business or other form of presence of a non-resident person in the State.
In this respect, Article 11 of Federal Decree-law No. 47 of 2022 defines the concepts of resident and non-resident persons.
It states that a resident person is a legal person incorporated or otherwise established or recognized under the applicable legislation of the state (including a person residing in a free zone), a legal person incorporated or otherwise established or recognized under the applicable legislation of a foreign jurisdiction that is effectively managed and controlled in the state, a natural person who conducts a business or business activity in the state, or any person specified in a cabinet decision made upon the proposal of the minister.
A non-resident person is defined as a person who is not considered a resident person under the preceding paragraph, and who has a permanent establishment in the state, derives income from the state, or has a connection to the state as specified in a cabinet decision made upon the proposal of the minister.
It is specified that the Corporate Tax Law taxes income on both a residence and a source basis.
A resident person is taxed on income derived from domestic and foreign sources (refer to: Article 13 of Federal Decree-law No. 47 of 2022 ), she is therefore taxed on a residence basis while a non-resident person is only taxed on income derived from sources within the United Arab Emirates, thus being taxed on a source basis.
Although the scope of this new tax is quite broad, there are nevertheless exceptions provided by the law.
b. The exception: the exemption of Free-Zone companies under certain conditions
Federal Decree-Law No. 47 of 2022 provides for cases of exemption in Articles 4 and 18.
First of all, government or government-controlled entities will benefit from an automatic exemption.
Extractive businesses or non-extractive natural resource businesses may also be exempted upon notification to the Ministry of Finance, subject to meeting certain conditions.
Certain public benefit entities may be exempted in the event that they are listed in a cabinet decision.
Furthermore, pension and social security funds; certain investment funds; certain UAE subsidiaries 100% owned and controlled by a government entity, by a government-controlled entity, by an eligible investment fund or by a pension or social security fund, may also benefit from an exemption if the latter is requested and approved by the Federal Tax Authority, subject to meeting certain conditions.
Finally, a particularly interesting element, Free Zone companies can, in accordance with Article 18 of Federal Decree-Law No. 47 of 2022 benefit from a 0% tax rate on their qualifying income provided they meet the conditions of a " Qualifying Free Zone Person ", namely:
– Maintain adequate substance in the UAE,
– Derive qualifying income,
– Not have elected to be subject to Corporate Tax at the standard rates, and,
– Comply with the transfer pricing requirements of the Corporate Tax Law.
It should be noted that taxable persons and taxable income are two separate elements, hence the importance of knowing precisely the income of a taxable person that may be subject to taxation.
Taxable income
Taxable income under this tax is multifaceted (a), but it may be subject to deductions (b).
a. Taxable income based on residency criteria or the source of income
The Corporate Tax Law imposes tax on income based both on residency (see 1.a for the definition of resident/non-resident person) and on the source of the income.
A resident person is taxed on income derived from domestic and foreign sources; they are therefore taxed on a residency basis.
A non-resident person is only taxed on income derived from sources located in the United Arab Emirates; they are therefore taxed on a source basis.
In this case, Article 12 of Federal Decree-Law No. 47 of 2022 provides that a resident legal person/corporate entity will be subject to corporate tax on its taxable income derived from the UAE/Dubai or abroad.
For resident natural persons, it provides that income derived from the UAE/Dubai or abroad is taxable if it relates to the business or business activity conducted by the natural person in the UAE/Dubai.
Non-resident persons, on the other hand, are subject to corporate tax on taxable income attributable to the permanent establishment of the non-resident person in the State, income derived from the State that is not attributable to a permanent establishment of the non-resident person in the State, and taxable income attributable to the nexus of the non-resident person in the UAE/Dubai as determined in a decision issued by the Cabinet.
Taxable persons may nevertheless deduct a certain number of expenses to minimize taxation.
b. The potential deductibility of expenses
First, legitimate business expenses incurred wholly and exclusively for the purposes of taxable income, entertainment expenses, or interest expenses constituent deductible expenses.
Some income will, however, be subject to an exemption, notably to avoid double taxation. This is the case for dividends and capital gains derived from UAE or foreign shares.
Furthermore, a resident person may elect, subject to certain conditions, not to take into account income derived from a foreign permanent establishment for UAE corporate tax purposes.
Entertainment expenses may be subject to a partial deduction of 50% of the amount of the expenditure.
Interest expenses may also, in certain cases, be deducted.
However, a certain number of expenses cannot be deducted under any circumstances.
This is notably the case for bribes, fines, and penalties (other than amounts awarded as compensation for damages or breach of contract), donations, grants, or gifts made to an entity that is not a qualifying public benefit entity, expenses not incurred wholly and exclusively for the conduct of the taxable person's business, and expenses relating to corporate tax-exempt products.
Now that the internal framework has been established, it would be highly relevant to understand the implications of this tax in the presence of a foreign element relating to France.
The consequences of this new tax on potential tax schemes involving a France-UAE connection
We may legitimately wonder whether the entry into force of this new tax will have an impact on the potential application of the parent-subsidiary tax regime, which was previously impossible.
The law indeed introduces a corporate tax that did not previously exist (a), however, the rate of this tax thwarts the possibility of opting for the parent-subsidiary regime (b).
a. The introduction of a corporate tax in the UAE/Dubai necessary for eligibility for the French parent-subsidiary regime
As a reminder, the advantage of opting for the parent-subsidiary regime is to allow, among other things, the parent company to be exempt from corporate tax on distributions, with the exception of a share corresponding to costs and expenses in accordance with Article 216 of the General Tax Code (CGI).
Thus, this regime notably makes it possible to neutralize double taxation by preventing profits taxed at the subsidiary level for corporate tax from being taxed again under this same tax at the level of the parent company receiving the dividends paid by the subsidiary.
However, the option for the parent-subsidiary regime is subject to specific conditions provided for by Article 145 of the CGI, which notably provides that: “ The tax regime for parent companies, as defined in Article 216, is applicable to companies and other entities subject to corporate tax at the standard rate ”.
Before June 1, 2023, as the corporate tax had not entered into force, the application of this tax regime proved impossible to the extent that the absence of tax thwarted the condition provided for in this Article 145 of the CGI.
Even if corporate tax is now indeed in existence, another difficulty persists.
b. However, corporate taxation is insufficient and below the standard rate required by French law
At first glance, we might think that the introduction of this new corporate tax will now allow the application of this regime.
However, this is not the case, as the article provides for a much stricter requirement than the taxation of the parent company to corporate tax; it provides for the taxation of the parent company to corporate tax at a standard rate.
In this regard, the Official Bulletin of Public Finances defines the outlines of the concept of standard rate: “ The tax regime for parent companies is applicable to companies subject to corporate tax at the rate of 15% provided for in b of I of Article 219 of the CGI , which constitutes the standard tax rate, up to a limit of €38,120 of taxable profit per twelve-month period, applicable to companies meeting the turnover and capital holding conditions provided for in that article ”
As the rate of the new tax is 9%, which is less than the standard rate of 15% provided by the CGI and the BOFIP, the introduction of this new corporate tax as described will have no impact on the possibility of opting for the parent-subsidiary regime.
However, it will be necessary to remain vigilant regarding the evolution of this law, which could eventually provide for a higher rate and consequently expand the scope of possible tax structures.
