How Corporate Tax Affects Free Zone Persons/Companies?

From June 2023, Free Zone businesses that meet the qualifying conditions will benefit from a 0% corporate tax rate on qualifying income, while other Free Zone Persons will be subject to corporate tax at the standard rate of 9% on taxable income above AED 375,000. This change comes from the Federal Tax Authority (FTA) and the Ministry of Finance. Mainland businesses will stick to a 9% tax rate if their taxable income exceeds AED 375,000. The UAE is getting ready for these adjustments.

UAE has specific areas called Free Zones in cities like Dubai and Abu Dhabi. These zones attract lots of companies, both big and small, because they offer benefits like full foreign ownership and tax exemptions.

Free Zone companies play a vital role in trade and enjoy tax benefits, but Corporate Tax applies based on qualifying status, and VAT exemptions depend on specific regulations. This new law is part of the UAE's plan to boost its economy by offering these tax breaks to certain Free Zones.

But, these tax exemptions might affect other laws like the Economic Substance Regulations (ESR). Officials are still figuring out how to adjust the ESR after these new tax laws kick in

Tax rates in Free Zones

The Ministry of Finance said that companies in Free Zones will be affected by the new Corporate Tax in the UAE. However, businesses that follow the rules and only operate within Free Zones, without doing business with companies or entrepreneurs in the rest of the UAE, will still get the tax benefits offered by Free Zones.

Do Free Zones Have to Pay Corporate Tax?

Yes, businesses in Free Zones will be subject to Corporate Tax. But those that follow the rules and only operate within Free Zones, without doing business in the rest of the UAE, will still enjoy the tax benefits.

All Free Zone Persons conducting taxable activities must register for Corporate Tax and file returns, even when benefiting from the 0% tax rate for Qualifying Free Zone Persons.

According to the rules in the Federal Decree Law on Corporate Income Tax:

• If you're a Qualifying Free Zone Person, you won't have to pay any Corporate Tax on the income that qualifies.
• But if some of your income doesn't qualify, you'll need to pay a 9% tax on that part.
• The exact types of income that qualify for this benefit are decided by the regulations of the FTA. However, for businesses operating outside the free zones (on the Mainland), the corporate tax is figured out based on how much taxable income the business makes.

Who is a Free Zone Person?

A Free Zone Person in the UAE is an individual or entity operating within a Free Zone, benefiting from unique regulatory and tax advantages. Free Zone Persons fall into two main categories:

• Natural Persons: Freelancers or sole proprietors who conduct business in a Free Zone, benefiting from 0% corporate tax on qualifying income and streamlined customs processes.
• Juridical Persons: Legal entities like corporations or partnerships with special legal rights. They also enjoy the 0% tax rate on qualifying income, which supports growth and trade.

Being a Free Zone Person allows access to benefits that enhance business efficiency and economic competitiveness.

A Qualifying Free Zone Person is an entity registered in a designated Free Zone that meets substance and compliance requirements, derives qualifying income from qualifying activities, and is subject to a 0% Corporate Tax rate on that qualifying income.

Who Can be a Qualifying Free Zone Person?

A Qualifying Free Zone Person (QFZP) in the UAE is an entity that operates within a designated Free Zone and meets specific conditions set out under the UAE Corporate Tax Law to qualify for a 0% corporate tax rate on qualifying income. There will be no corporate tax applied to the qualifying income of businesses identified as Qualifying Free Zone Persons (QFZP). To be eligible, the business must:

• Be a Juridical Person: Only legally recognized entities, not individuals, qualify for QFZP status, which allows the business to access tax benefits for qualifying income.
• Meet Qualifying Income Requirements: Income generated must align with specific qualifying activities, such as manufacturing, logistics, or holding intellectual property, as outlined in the law.
• Maintain Compliance with Regulations: The entity must meet regulatory compliance requirements, such as not conducting business with mainland UAE or other ineligible activities.
• Possess Valid Licenses: A valid business license within the Free Zone is essential to secure and maintain the QFZP tax benefits.

Conditions for Qualifying Free Zone Person

A Qualifying Free Zone Person must fulfill all these conditions:

• Maintain enough presence in the country.
• Earn an income that meets specific criteria set by the government.
• Choose not to be taxed under this particular law.
• Follow the Arm’s Length Principle and Transfer Pricing Documentation rules.
• If a Qualifying Free Zone Person doesn't meet any of these conditions during a tax period, they'll lose their status as a Qualifying Free Zone Person from the beginning of that period.

If someone doesn't meet the criteria, the Minister can decide when they stop being a Qualifying Free Zone Person.

What is the Effect of Corporate Tax on Free Zone Businesses?

• Tax Rates: Businesses in UAE Free Zones may be subject to either a 0% or a 9% corporate tax rate depending on their qualifying income and compliance with the tax regulations.
• Qualifying Free Zone Persons (QFZPs): To benefit from the 0% tax rate, businesses must meet specific criteria to qualify as a QFZP. This includes earning qualifying income and adhering to regulatory requirements.
• Impact on Profitability: Non-compliance or failure to qualify could lead to a standard corporate tax of 9% on profits exceeding AED 375,000, thereby affecting overall profitability.
• Branch Operations: If a Free Zone entity has a branch in the mainland, it will be liable for the regular corporate tax rate of 9% on its profits, which may create additional financial strain.
• Strategic Financial Management: Businesses must adopt effective financial strategies and management practices to navigate the complexities of corporate taxation, optimize tax benefits, and enhance cash flow.

If a Free Zone Person ceases to qualify, the 9% corporate tax rate applies to their taxable income for the rest of the incentive period, which may be extended up to 50 years as per regulations.

For more information contact Reyson Badger Accounting Services in Dubai.           

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Reyson Badger provides Accounting Services in Dubai  , a reliable partner for navigating the difficulties of taxation and financial compliance in the UAE. Our experience depends on delivering personalised solutions to ensure that your company optimises its tax situation while complying with all rules. With a thorough awareness of the changing tax landscape, we provide comprehensive assistance and advice to help you make educated decisions and achieve your financial objectives. Choose Reyson Badger for dependable experience, individualised service, and peace of mind when managing your tax obligations properly.