FREE ZONE PERSONS UNDER CORPORATE TAX

FREE ZONE PERSONS UNDER CORPORATE TAX

Under the Corporate Tax Law, a Qualifying Free Zone Person can benefit from a 0% Corporate Tax rate on its Qualifying Income. Any income that does not qualify as Qualifying Income is taxed at the standard Corporate Tax rate of 9%.

Additionally:

• A Qualifying Free Zone Person cannot avail the 0% rate on taxable income up to AED 375,000.

• Instead, it is subject to 9% tax on its entire taxable income that does not qualify as Qualifying Income.

Who is a Free Zone Person?

A Free Zone Person refers to a juridical entity that is incorporated, established, or registered within a Free Zone. This includes:

1. Free Zone Authorities and Government-Controlled Entities operating within Free Zones.

2. A non-resident juridical person’s branch registered in a Free Zone (with the non-resident parent regarded as a Foreign Permanent Establishment).

3. A UAE resident juridical person’s branch registered in a Free Zone (with the UAE resident entity treated as a Domestic Permanent Establishment).

Note: Individuals (natural persons) and Unincorporated Partnerships are not considered Free Zone Persons.

What is a Free Zone for Corporate Tax Purposes?

For Corporate Tax purposes, a Free Zone is a defined geographic area within the UAE, designated by a Cabinet decision based on the Minister's recommendation.

A Designated Zone under the Corporate Tax Law aligns with the definition provided in Federal Decree-Law No. 8 of 2017 on VAT.

Taxable Persons should confirm their status with the relevant Free Zone Authority to determine whether they operate in a Free Zone or Designated Zone for Corporate Tax purposes.

Conditions for a Free Zone Person to Qualify as a Qualifying Free Zone Person

A Free Zone Person retains its status as a Qualifying Free Zone Person unless it:

1. Fails to meet any of the required conditions, or

2. Elects to be taxed under the standard Corporate Tax rules.

Conditions to Qualify:

• Economic Substance: The entity must maintain adequate substance in the Free Zone.

• Qualifying Income: Income must meet the criteria for Qualifying Income.

• Election: The entity must not opt to be subject to standard Corporate Tax rules.

• Arm’s Length Principle: Transactions with Related Parties and Permanent Establishments must comply with this principle.

• Transfer Pricing Documentation: Proper documentation must be maintained.

• Audited Financial Statements: The entity must prepare and maintain audited financials.

• De Minimis Requirement: Non-qualifying revenue must not exceed the lesser of AED 5 million or 5% of total revenue.

Consequences of Failing to Meet Conditions or Electing Standard Corporate Tax Rules

If a Qualifying Free Zone Person:

1. Fails to meet any of the conditions required to maintain its status, or

2. Chooses to be taxed under the standard Corporate Tax rules and rates,

it will lose its status as a Qualifying Free Zone Person starting from the beginning of the Tax Period during which the failure occurs or the election is made. This status change will apply for that Tax Period and the following four consecutive Tax Periods.

Qualifying Income Eligible for the 0% Corporate Tax Rate

The 0% Corporate Tax rate applies to Qualifying Income derived from activities conducted within Free Zones or Designated Zones. Qualifying Income includes income from:

1. Transactions with other Free Zone Persons, provided:

• The recipient is the Beneficial Recipient of the transaction.

• The transaction does not involve Excluded Activities.

2. Transactions related to Qualifying Activities that are not Excluded Activities.

3. Income from the ownership or exploitation of Qualifying Intellectual Property.

4. Other income, provided it meets the de minimis requirements.

Exceptions:

Certain income is excluded from Qualifying Income and taxed at the standard 9% Corporate Tax rate, unless exempt under another provision. This includes:

• Income from a Foreign Permanent Establishment.

• Income from a Domestic Permanent Establishment.

• Income from immovable property, except for commercial property in a Free Zone when the transaction involves a Free Zone Person.

• Income from intellectual property that does not qualify as Qualifying Intellectual Property.

Qualifying Activities for the 0% Corporate Tax Rate

A Qualifying Free Zone Person can benefit from the 0% Corporate Tax rate on Qualifying Income derived from the following activities:

1. Manufacturing and processing of goods or materials.

2. Trading of Qualifying Commodities.

3. Holding shares or securities for investment purposes.

4. Ownership, management, and operation of ships.

5. Providing:

• Reinsurance services

• Fund management services

• Wealth and investment management services

6. Offering:

• Headquarter services to Related Parties.

• Treasury and financing services to Related Parties.

• Financing and leasing of aircraft.

7. Distribution and logistics services in or from a Designated Zone.

Ancillary Activities: These include activities necessary to support a main Qualifying Activity or those that contribute minimally and are closely related to the main Qualifying Activity, so they are not treated as separate activities.

What Are Excluded Activities Under UAE Corporate Tax Provisions for Free Zones?

Under the UAE Corporate Tax Law, income from Excluded Activities conducted by a Qualifying Free Zone Person is not eligible for the 0% Corporate Tax rate, even when such transactions involve other Free Zone Persons. Instead, this income is subject to the standard 9% Corporate Tax rate.

The following are classified as Excluded Activities:

1. Transactions with natural persons, except those related to:

• Ownership, management, and operation of ships.

• Fund management services under regulatory oversight in the UAE.

• Wealth and investment management services under regulatory oversight in the UAE.

• Financing and leasing of aircraft, including engines and rotable components.

2. Banking activities.

3. Insurance activities, excluding:

• Reinsurance activities.

• Captive insurance as part of headquarter services to Related Parties.

4. Finance and leasing activities, except those related to:

• Ownership, management, and operation of ships.

• Treasury and financing services to Related Parties.

• Financing and easing of aircraft, including engines and rotable components.

5. Ownership or exploitation of immovable property, excluding:

• Commercial property in a Free Zone when the transaction involves other Free Zone Persons.

Ancillary Activities:

Activities are considered ancillary if they are:

• Necessary for performing a main Excluded Activity, or

• Making a minor contribution and are closely connected to the main Excluded Activity, making them inseparable from it.

Compliance Requirements for Free Zone Persons Under the Corporate Tax Law

Free Zone Persons, including Qualifying Free Zone Persons, must comply with the following:

1. Tax Registration:

• Register for Corporate Tax with the Federal Tax Authority (FTA) as per FTA Decision No. 3 of 2024.

• Failure to register within the prescribed timeline will result in Administrative Penalties.

2. Audited Financial Statements:

• Prepare and maintain audited financial statements, even if annual revenue is below AED 50 million.

• Separate financial statements for Qualifying Income and other income are not required, but sufficient documentation must be maintained to demonstrate how Qualifying Income is calculated.

3. Tax Return and Payment:

• File the Tax Return and pay Corporate Tax (if applicable) within 9 months after the end of the relevant Tax Period, as prescribed by the FTA.

4. Record Maintenance:

• Maintain all records and documents for 7 years after the end of the Tax Period they relate to.

To ensure compliance with the UAE Corporate Tax Law and maximize the benefits available for Free Zone Persons, it is crucial to have expert guidance. ALWAHAT Accounts and Internal Audit Services specializes in navigating the complexities of tax regulations, offering tailored solutions for tax planning, compliance, and audit requirements. Whether you need assistance with qualifying for the 0% Corporate Tax rate, understanding excluded activities, or maintaining proper documentation, our team is here to help. Contact us today to ensure your business is well-positioned to thrive in the dynamic regulatory environment of the UAE.