Economic Substance Regulation was introduced by the UAE government in order to align the entire region with global standards in the prevention of Base Erosion and Profit/Income Shifting (BEPS). As per the UAE legislation, ESR applies to nine business activities that we will discuss further in this article, but businesses that are licensed in UAE all need to submit to the Regulating Authorities notifications before the deadline, which is on the 30th of June 2020.
Relevant Activities that are set out in the Economic Substance Regulations UAE are as follows:
- Investment Fund Management
- Lease - Finance
- Holding Company
- Headquarters Business
- Service and Distribution Center
- Intellectual Property
Notification and Reporting
All businesses that are UAE licensees, including partnerships, free zone companies, and branches, have to provide competent authorities notification regarding matters listed below before or not later than the 30th of June 2020:
- Date and end of the company's financial year
- Whether or not a part or all of the business' gross income related to any Relevant Activity has been subjected to taxation in any jurisdiction outside the UAE
- Whether or not the business carries any Relevant Activity
Businesses in the UAE that don't carry any of the Relevant Activities listed in the Ministers Resolution (No 31) of 2019 in relation to ESR only have to notify Regulating Authorities that they aren't involved in such.
Apart from the notification requirement, a business that derives income from a Relevant Activity in UAE every year has to demonstrate that it has a sufficient level of economic substance that allows it in carrying out a Relevant Activity.
All qualified licensees have to prepare a report and submit it to relevant Regulating Authorities which include the following information listed below.
- Type of the Relevant Activity that the business conducts
- Type and amount of relevant income with respect to every Relevant Activity
- Place or location of business
- Type and amount of operating expense with respect to every Relevant Activity
- Number of employees working full time
- Details regarding the Core Income/Profit Generating Activities (CIGAs) conducted by the business
- Detailed information regarding the activities that are outsourced by the business
- Declaration of whether or not a business licensed in UAE satisfies the UAE Economic Substance Test
Economic Substance Regulations UAE Test
Economic Substance Regulations applies to a business if it meets the following conditions in the UAE Economic Substance Test:
- If the UAE licensee conducts a Core Income/Profit Generating Activity (CIGA) in UAE
- If the business is managed and directed in the country
- If there's a sufficient number of full time employees
- If there's sufficient operating expenditure that is incurred by the business or adequate expenditure on the outsourcing of a CIGA to a third party service provider in UAE
- If there's sufficient physical assets or sufficient level of expenses for the outsourcing to a third party service provider in UAE
Article 5 of the UAE Cabinet Resolution (No 31) of 2019 provides descriptions to CIGAs that are to be conducted within the country with reference to every Relevant Activity; however, such descriptions are open to the interpretation of authorities.
For instance, with respect to a Holding Company, a CIGA that needs to be performed within the UAE are all the activities that are related to the business. Less stringent requirements that are under the UAE Economic Substance Test are applicable to holding companies that generate profit from capital gains and dividends and which don't engage in other Relevant Activities.
In contrast, requirements are stricter for businesses that generate income from an Intellectual Property (IP) asset that is considered high risk by authorities.
Take note: the interpretation of ‘sufficient/adequate’ will be on a case-by-case basis, depending on the level and nature of the Relevant Activities that are being carried out by a licensee.
With reference to the management and direction of a licensee in UAE, ESR clarifies that managers and directors are to have the required knowledge and expertise in managing and directing. They also must not only provide an impact on decisions that are being taken in jurisdictions outside of the UAE. Additionally, as evidence of directorship and management in UAE, the board of director meetings is to be held within the country with sufficient frequency. The meetings have to have a quorum for directors that are physically present within the UAE.
Regulatory Authority that's in charge of the collection of reports and notifications from licensees and also in the assessments for the meeting of the substance test can be the Ministry of Finance, Security & Commodities Authority, UAE Central Bank, and different authorities in Free Zones in UAE.
The competent Regulatory Authorities will be determined by the activities that are carried out by each business licensee and the location where the Relevant Activities are carried out e.g. free zone or mainland.
If you require more clarity regarding compliance to UAE Economic Substance Regulations, contact us!