Ensuring Adequate Substance for Qualifying Free Zone Persons
Federal Decree-Law No. 47 of 2022 on the Taxation of Corporations and Businesses establishes that a 0% tax rate is applied to the income of "Qualifying Free Zone Persons," subject to certain conditions. Amongst other requirements, it requires “Qualifying Free Zone Persons” to maintain adequate substance in a Free Zone.
Who is a Qualifying Free Zone Person?
According to the UAE Corporate Tax Law, a "Qualifying Free Zone Person" refers to a legal entity operating within a Free Zone that satisfies the following criteria:
1. Maintains sufficient substance.
2. Earns "Qualifying Income."
3. Has not elected to be liable for Corporate Tax.
4. Adheres to transfer pricing regulations.
5. Ensures that non-qualifying revenue remains below the "de-minimis requirements."
6. Prepares audited financial statements.
7. Complies with additional conditions outlined by the UAE Minister.
Accordingly, corporations and businesses are taxed at the following rate:
1. 0% on “Qualifying Income”, and
2. 9% on income subject to the UAE Corporate Tax Law that is not deemed as “Qualifying Income”.
Maintenance of Adequate Substance
As per Cabinet Decision No. 55/2023, "Qualifying Free Zone Persons" are required to uphold adequate substance within a Free Zone, based on the following conditions:
1. Core income-generating activities (CIGAs) must be conducted within the Free Zone.
2. Adequate assets, qualified employees, and amount of operating expenditures must be maintained, proportionate to the extent of core income-generating activities carried out in the Free Zone.
"Qualifying Free Zone Persons" have the option to outsource their core income-generating activities (CIGAs) to a related or third party, provided that the following two conditions are fulfilled:
1. The related or third party involved in the outsourcing is a Free Zone entity.
2. The Qualifying Free Zone Person maintains adequate supervision over the outsourced activity.
Important Factors to Consider
When evaluating the adequacy of economic substance, it is required to adopt a "substance over form" approach and consider the following factors, as outlined by the relevant authority:
1. Proper documentation and evidence are required to be maintained to support the carrying out of CIGAs in the Free Zone.
2. The UAE Licensee should be directed and managed within the UAE, which includes aspects such as having knowledgeable and skilled directors, holding an adequate number of board meetings in the UAE, ensuring physical presence of a quorum of directors in board meetings, and maintaining written minutes signed by the attending directors and stored in the UAE.
3. There should be an appropriate number of qualified employees, assets, and operating expenditures in the UAE. The Regulations do not provide a specific minimum standard for what is deemed "adequate " as it varies depending on the size and nature of businesses. Hence, conducting a comprehensive operational/human capital/financial review is advised to determine the sufficiency of these elements.
Aiwa! Now that you know what adequate substance is, it is important for your company to assess themselves and determine if they are Qualifying free zone persons and their income qualifies for 0% tax rate.
Do you know if you meet the requirements to be a “Qualifying Free Zone Person? Contact us or refer to our Corporate Tax page
