As per latest UAE Corporate Tax Guide, “when a Free Zone Person fulfills specific conditions, it attains the status of a Qualifying Free Zone Person, thereby becoming eligible for a Corporate Tax rate of 0% on its Qualifying Income. This favorable 0% Corporate Tax rate remains applicable to Qualifying Free Zone Persons until the conclusion of the tax incentive period stipulated in the legislation of the respective Free Zone, unless an extension is granted. To qualify as a Qualifying Free Zone Person, a Free Zone Person must adhere to the following criteria:
- Sufficient Substance Requirement: The entity must establish and consistently maintain substantial business activities within the UAE. This stipulation necessitates engagement in substantive business endeavors within the UAE's jurisdiction, rather than mere registration for tax-related intentions.
- Earning Qualifying Income: Qualifying income denotes the earnings generated by a Qualified Free Zone Person (QFZP) when conducting transactions with businesses outside the UAE, within the same free zone, or in any other UAE free zone. Any non-passive income originating from the UAE mainland will be taxed at the standard rates, whereas the remaining income will enjoy a favorable 0% tax rate. Passive income derived from activities like owning shares, receiving royalties, or gaining from investments in mainland companies will also benefit from the 0% tax rate."
- Example of Qualifying Income Scenario:
For instance, two distinct entities, XYZ Inc. and ABC Ltd., both recognized as Free Zone Persons. Notably, XYZ Inc. holds the esteemed status of a Qualifying Free Zone Person. This company, XYZ Inc., possesses several warehouses located within a Free Zone. Within the designated Tax Period, XYZ Inc. initiates the sale of one of its warehouses to ABC Ltd. The transaction unfolds between two Free Zone Persons and pertains to the transfer of Commercial Property within a Free Zone. Consequently, the income generated from this sale qualifies as Qualifying Income, rendering it eligible for the favorable 0% Corporate Tax rate.
- Compliance with Transfer Pricing Rules: Compliance with transfer pricing regulations and proper documentation maintenance is essential. This includes adhering to established transfer pricing norms and retaining pertinent documentation.
- Avoiding Full Corporate Tax Payment: Electing not to opt for the full standard corporate tax rate is crucial. Those who have selected to pay the complete corporate tax rate do not meet the criteria for qualifying Free Zone persons.
- Generate Qualifying Income through pertinent transactions
- Choose not to opt for Corporate Tax liability
- Prepare and retain audited Financial Statements for compliance with the Corporate Tax Law.
De Minimis Criteria with Example:
To be a Qualifying Free Zone Person, you must meet the De Minimis Requirement. This requirement is met when non-qualifying Revenue during a Tax Period doesn't exceed the lower of:
- AED 5,000,000.
- 5% of total Revenue.
This rule allows some non-qualifying income as long as it stays within these limits. If met, income that doesn't fit the first two categories of Qualifying Income is still considered Qualifying Income. Adjustments are made by excluding Revenue related to Permanent Establishments and certain transactions.
Example 6: Application of De Minimis Requirements
Consider the scenario involving X Corporation, a Free Zone entity specializing in the sale of electronics to fellow Free Zone companies. Over the course of the tax assessment period, X Corporation records a total Revenue of AED 95,000,000. X Corporation effectively maintains a robust operational presence within the Free Zone, refrains from opting for UAE Corporate Tax liability under the standard rates, and meticulously adheres to the transfer pricing guidelines and other documentation prerequisites as stipulated in the Corporate Tax Law. Throughout the same tax assessment period, X Corporation conducts a limited number of transactions with individual customers, resulting in Revenue of AED 4,200,000. The revenue, totaling AED 90,800,000, fulfills the criteria for classification as Qualifying Income. However, it's essential to recognize that transactions involving individual customers typically fall into the category of Excluded Activities. In this case, the Revenue derived from these sales exceeds the de Minimis threshold, set at AED 4,000,000. This threshold is calculated as the lower of 5% of AED 95,000,000 and AED 5,000,000. Consequently, X Corporation does not meet the criteria to be designated as a Qualifying Free Zone Person due to the surpassing Revenue from transactions with individual customers.
Free Zone Choice of General Corporate Tax Rates:
A Qualifying Free Zone Person can decide to use the general Corporate Tax rates. This choice lasts for four consecutive Tax Periods, starting either from the current period or the next one. If, during a Tax Period, they don't meet the conditions mentioned earlier, they lose the 0% Corporate Tax rate and must use the general rates for five Tax Periods, starting with the one where they didn't meet the conditions. By choosing the general rates, they stop being a Qualifying Free Zone Person, so they can use different Corporate Tax Law provisions, like joining a Tax Group or applying for small business relief, if they meet the criteria.
Registration and Corporate Tax Return Obligations:
All Free Zone entities, including those not qualifying as Free Zone Persons, must register and file corporate tax returns on the Federal Tax Authority (FTA) website. The filing requirement pertains to the corporate tax regime and applies regardless of eligibility for Qualifying Income rates.
Corporate Tax for Financial Free Zone Entities:
Corporate tax rates remain consistent for entities within financial-free Free Zones. Both 0% and 9% corporate tax rates are available based on elections made by these entities, contingent on meeting the Qualifying Free Zone Person criteria.
Tax Rate for Free Zone Persons with Mainland Branches:
For Free Zone Persons with mainland branches, a 9% corporate tax rate is applicable to mainland-generated taxable income. However, if the individual qualifies as a Free Zone Person and maintains separate accounting records for the Free Zone and mainland, a 0% corporate tax rate can apply to Free Zone income.
Disqualification from 0% Tax Rate:
Disqualification from the 0% corporate tax rate can occur if any qualifying conditions cease to hold true. Generating income beyond mainland income can lead to disqualification from the 0% rate, accruing the standard 9% corporate tax rate.
Submission of Audited Financial Statements:
Submission of audited financial statements is obligatory for Free Zone Persons filing corporate tax returns. This practice facilitates access to the 0% UAE corporate tax rate on Qualifying Income, ensuring accuracy and integrity in financial reporting.
Global Minimum Tax Implications:
The UAE's corporate tax regime does not include the Pillar Two rules. There are potential impacts of the rules on Qualifying Free Zone entities.
Seek the Expert Services of Top Tax Consultants in UAE
The provision of corporate tax rates in UAE Free Zones offers flexibility and benefits to qualifying entities. Free Zone Persons can opt for general corporate tax rates, but they must meet specific conditions to maintain the 0% rate. It's essential for these entities to monitor eligibility criteria and be prepared for potential disqualification, which would result in a 9% corporate tax rate. Compliance with tax obligations, including the submission of audited financial statements, is crucial for accessing the 0% UAE corporate tax rate on Qualifying Income. Additionally, while the UAE's corporate tax regime does not currently incorporate Pillar Two rules, Qualifying Free Zone entities should remain vigilant about potential global minimum tax implications in the future. Thus, businesses are advised to seek the expert services of top Tax Consultants in UAE to effectively ensure compliance with the corporate tax law.
Therefore, contact us today and we shall be glad to assist you.
Salah is a qualified Tax Consultant with over 5 years of experience gained in distinct intricate tax matters, he has high expertise in conducting tax negotiations and investigations with the Federal Tax Authority and other external Tax Bodies. He is well-versed with reviewing and drafting tax documents, upon tax preparation and filing. Salah has also advised on a plethora of tax matters, he draws much attention to tax filing procedures and to offering professional investigations to underlying tax complexities.