The UAE Ministry of Finance recently released two new decisions on qualifying income and activities of free zone businesses and excluded activities (Cabinet Decision No. 55 of 2023 and Ministerial Decision No. 139 of 2023, respectively).
Under article 3 of the Corporate Tax Law that went into effect on 1 June 2023, corporate tax is imposed on a qualifying free zone person at a rate of 0% on “qualifying income” and 9% on income that is not qualifying income. Article 18 sets out the conditions that must be met by a free zone person to be eligible for 0% rate; these conditions require the taxable person to:
- Maintain adequate substance in the UAE;
- Derive qualifying income;
- Not elect to be subject to corporate tax;
- Comply with the transfer pricing provisions and maintain transfer pricing documentation, if applicable; and
- Fulfil any other conditions as may be prescribed.
The new decisions define qualifying income, qualifying activities and excluded activities as follows:
- Qualifying income includes income derived from transactions with other free zone persons (being a beneficial recipient), income derived from transactions with a non-free zone person in respect of any of the qualifying activities listed in the decision and any incidental income thereto.
- A free zone person’s income from a domestic or foreign permanent establishment (PE) or from immovable property will not constitute qualifying income.
- Qualifying activities include the manufacturing and/or processing of goods or materials; the holding of shares and other securities; the ownership, management and operation of ships; reinsurance services; fund management; and wealth and investment management services that are subject to the regulatory oversight of the competent authority in the UAE. They also include headquarter services provided to related parties; treasury and financing services provided to related parties; the financing and leasing of aircraft, including engines and notable components; logistics services; distribution in or from a designated zone that fulfils the relevant condition; and any ancillary activities.
- Income from specific excluded activities will not be treated as qualifying income regardless of whether the income is derived from a free zone person or as part of undertaking a qualifying activity.
The decisions include a de minimis threshold, which is the lower of 5% of total revenue and AED 5 million. If this threshold is exceeded, the business will lose the benefit of zero-rating and all revenue will be subject to tax at 9%. If the threshold is not exceeded, all revenue will qualify for the zero-rate.
In calculating revenue for the de minimis requirement, revenue attributable to a domestic or foreign PE of the free zone person and revenue attributable to immovable property located in a free zone that cannot benefit from the free zone exemption will be ignored. Such income will always be taxable at 9% tax rate.
The Cabinet decision also specifies the requirements relating to maintaining adequate substance in a free zone. These requirements allow the outsourcing of activities to related parties subject to adequate supervision.
These decisions have been highly anticipated, and their publication will be welcomed by many businesses. However, they are more complex than expected and businesses will need to carefully map their activities and revenue against the conditions to determine whether they qualify for the relief. The de minimis limit will also restrict the availability of the relief for many businesses.
The decisions do not provide any guidance on the procedural requirements for claiming free zone relief.
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