To effectively determine tax liability and qualifying income for corporate tax purposes, Free Zone Persons are advised to seek the expert services of Top Tax Consultants in UAE.
This article explains the definition of Qualifying Free Zone Persons and Qualifying Income, the rules and regulations governing them, and the conditions that must be met.
According to the latest UAE Corporate Tax Guide, a Free Zone Person qualifies as a Qualifying Free Zone Person and is eligible for a 0% Corporate Tax rate on their Qualifying Income when specific conditions are met. This favorable rate remains applicable until the conclusion of the tax incentive period as outlined in the legislation of the respective Free Zone unless an extension is granted.
To achieve Qualifying Free Zone Person status, adherence to the following criteria is essential:
- Sufficient Substance Requirement: The entity must establish and consistently maintain substantial business activities within the UAE. This necessitates engaging in substantive business endeavors within the UAE’s jurisdiction, beyond mere registration for tax-related intentions.
- Earning Qualifying Income: Qualifying income refers to earnings generated by a Qualified Free Zone Person (QFZP) when conducting business transactions outside the UAE, within the same free zone, or in any other UAE free zone. Non-passive income from the UAE mainland is taxed at standard rates, while the remaining income enjoys a favorable 0% tax rate. Passive income, such as from owning shares or receiving royalties, also benefits from the 0% tax rate.
- Ownership Structure: Compliance with the ownership requirements set by the free zone is essential, often allowing for 100% foreign ownership.
Example of Qualifying Income Scenario
Consider two entities, XYZ Inc. and ABC Ltd., both recognized as Free Zone Persons. XYZ Inc. holds the esteemed status of a Qualifying Free Zone Person and, in a designated Tax Period, initiates the sale of one of its warehouses to ABC Ltd. The transaction, occurring between two Free Zone Persons and involving the transfer of Commercial Property within a Free Zone, qualifies as Qualifying Income, making it eligible for the favorable 0% Corporate Tax rate.
Additional criteria and considerations for availing the Qualifying Free Zone status include,
- Ensuring compliance with transfer pricing rules
- Avoiding full corporate tax payment
- Generating Qualifying Income through pertinent transactions
- Choosing not to opt for Corporate Tax liability
- Preparing and retaining audited Financial Statements for compliance with the Corporate Tax Law
To Whom Does the Corporate Tax Apply in the UAE Free Zone?
In general, the following “Taxable Persons” are subject to corporate taxes:
- UAE companies and other juridical persons that are incorporated or effectively managed and controlled in the UAE; natural persons (individuals) who conduct a business or other activity in the UAE as specified in a Cabinet Decision to be issued in due course;
- Non-resident juridical persons (foreign legal entities) that have a permanent establishment in the UAE.
As “Taxable Persons,” judicial entities incorporated in a UAE Free Zone fall within the corporate Tax’s purview and must adhere to its regulations. But a Free Zone Person who satisfies the criteria to be regarded as a Qualifying Free Zone Person may profit from a Corporate Tax rate of 0% on their Qualifying Income (the conditions are included in Section 14).
A 0% withholding tax may apply to non-residents who don’t have a permanent establishment in the UAE or who receive revenue from a country that isn’t connected to one. A kind of corporate Tax known as withholding Tax is a source tax remitted by the payer to the income recipient. Many tax systems include withholding taxes, which often apply to the international payment of dividends, interest, royalties, and other forms of revenue.
Eligibility and Criteria for Corporate Tax in UAE Free Zone
Meeting the De Minimis Requirement is necessary to be a Qualifying Free Zone Person. This is fulfilled when non-qualifying Revenue during a Tax Period does not exceed the lower of AED 5,000,000 or 5% of total Revenue. Even if some non-qualifying income falls within these limits, it is still considered Qualifying Income, with adjustments made by excluding Revenue related to Permanent Establishments and certain transactions.
In an illustrative example: Involving X Corporation, despite maintaining a robust operational presence and adhering to tax guidelines, surpassing the de Minimis threshold due to transactions with individual customers leads to disqualification as a Qualifying Free Zone Person.
Free Zone Choice of General Corporate Tax Rates
- A Qualifying Free Zone Person can choose to use general Corporate Tax rates for four consecutive Tax Periods. Failure to meet conditions during a Tax Period results in losing the 0% Corporate Tax rate and using general rates for five Tax Periods.
Registration and Corporate Tax Return Obligations
- All Free Zone entities, regardless of Qualifying Free Zone Person status, must register and file corporate tax returns on the Federal Tax Authority (FTA) website.
Corporate Tax for Financial Free Zone Entities
- Corporate tax rates are consistent for entities within financial-free Free Zones, with options for 0% and 9% rates based on elections and meeting 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 applies to mainland-generated taxable income. However, a 0% corporate tax rate can apply to Free Zone income if separate accounting records are maintained for the UAE Corporate Tax for Free Zone and the mainland.
Disqualification from 0% Tax Rate
- Disqualification can occur if qualifying conditions cease, leading to the standard 9% corporate tax rate for income beyond mainland income.
Submission of Audited Financial Statements
- Submission of audited financial statements is mandatory for accessing the 0% UAE corporate tax rate on Qualifying Income, ensuring accuracy and integrity in financial reporting.
Registering for Corporate Tax Exemption in Free Zones
- To qualify for corporate tax exemption in Free Zones, businesses must follow steps such as business setup, obtaining a business license, tax registration, document submission, review, and approval, leading to the issuance of a tax exemption certificate.
Compliance Requirements and Reporting
- While corporate tax is exempted, tax-exempt Free Zone entities must adhere to regulatory and reporting obligations, including annual audits, timely renewal of tax exemption certificates, and compliance with Free Zone rules.
Also read: How Will Individuals Be Subject to Corporate Tax in the UAE?
Seek the Expert Services of Top Tax Consultants in the UAE
The provision of corporate tax rates in UAE Free Zones provides flexibility to qualifying entities. These entities need to monitor eligibility criteria and be prepared for potential disqualification, leading to a 9% corporate tax rate. Compliance with tax obligations, including submitting audited financial statements, is essential for accessing the 0% UAE corporate tax rate on Qualifying Income.
Thus, seeking the expert services of top Tax Consultants in the UAE is recommended to ensure effective compliance with the corporate tax law. Therefore, contact us today and we shall be glad to assist you.
