Scope of UAE ESR

UAE introduced Economic Substance Regulations (ESR) in April 2019 to prevent harmful tax practices like tax evasion. These Regulations were later on amended by Cabinet of Ministers Resolution No. 57 of 2020 in August 2020. Further, Ministerial decision No. 100 for the year 2020 on the issuance of directives for the implementation of the provision of the Regulations, issued pursuant to Article 20 of the Regulations, provides further guidance and direction to entities carrying out one or more Relevant Activities.

The purpose of these Regulations is to ensure that UAE entities have sufficient economic activity undertaken within UAE that is commensurate with the actual profits reported in the UAE.

The Regulations require UAE onshore and free zone companies and certain other business forms that carry out certain activities to maintain and demonstrate an adequate economic presence in the UAE relative to the activity they undertake. Therefore, the term “Licensee” is of great significance. It is defined in the Regulations as follows :

A Licensee is any business that constitutes a judicial person or an unincorporated partnership that is registered in the UAE and/or undertakes a Relevant Activity for financial years commencing on or after 1 January 2019.

Registered in UAE means having a Trade/commercial license issued by the Ministry of Economy or by a relevant authority in free zones.

Examples of what is considered a judicial person or an unincorporated partnership :

Inclusions :

  • Limited Liability Companies (LLPs)
  • Private Shareholding Company
  • Public Shareholding Company
  • Partnerships (LLP, LP, GP,etc)
  • Any other entity with a legal personality separate from its owner

Exclusions :

  • Natural persons
  • Sole proprietorships
  • Trusts*
  • Foundations*

*On the assumption that they are not carrying out any Relevant Activity.

Exempted licensees

The following entities are exempted from demonstrating substance :

  • Non-UAE tax resident entities : If it is a tax resident in a jurisdiction outside the UAE and such entity is subject to corporate income tax in that jurisdiction on all its income derived from its relevant activity. The payment of withholding tax in a foreign jurisdiction is not sufficient to be considered as tax resident in a foreign jurisdiction.
  • Investment Fund and their underlying Special Purpose Vehicles (SPVs)/Investment holding entities : Commonly known as portfolio entities would not be able to benefit from this exemption. This exemption does not apply to a self-managed fund, i.e., where the investment manager and the investment fund are the same entity.
  • Wholly UAE resident owned UAE entities with domestic transactions only (that are not part of multinational group) : means an entity wholly, legally and beneficially owned either directly or indirectly by UAE citizens or individuals holding a valid UAE Residency permit, who reside in UAE. This exemption does not apply to an entity that is engaged in any form of business outside the UAE or has any foreign ownership in a group corporate structure.
  • UAE Branch of foreign companies that are subject to tax on all their Relevant income in a foreign jurisdiction : In the context of a UAE branch of a foreign company, the subject to tax test is met where the income of the UAE branch is taken into account when calculating the taxable income of the foreign Head Office or the other Relevant group entity reporting the relevant income of the UAE branch for corporate income tax purposes, irrespective of whether the income of the UAE branch ultimately benefit from an exemption or other form of corporate tax relief in the foreign jurisdiction under domestic tax law or double tax agreement.

Note : An Exempted Licensee must submit a Notification and provide evidence to support their exempt status. Failure to do so will require these Licensees to submit an Economic Substance Report and meet the Economic Substance Test.

What are the different types of evidence required to claim each exemption?

  1. Non-UAE tax resident entities require : 
  • Letter or certificate issued by the competent authority of the foreign jurisdiction in which the entity claims to be a tax resident stating that the entity is considered to be resident for corporate income tax purposes in that jurisdiction or
  • Corporate income tax assessment.
  • Evidence of payment of corporate income tax.
  • Tax Residency certificate from the foreign jurisdiction.
  • Corporate income tax demand.
  • Any other document issued by the competent authority of the foreign jurisdiction in which the entity claims to be a tax resident.
  1. Investment Funds require : 
  • Statutory documents and private placement memorandum/other information memorandum.
  • Fund license/registration.
  1. Investment Funds’ underlying SPVs/Investment holding entities require : 
  • Structure chart of an investment fund and its subsidiary investment holding entities.
  • Evidence of the investment fund status of the investment fund that holds the UAE entities.
  1. Wholly UAE resident owned entities require : 
  • Proof of nationality and/or residency of shareholder/s.
  • Shareholder register.
  • Structure Chart.
  • Financial statements for the Relevant period.
  1. UAE branch of foreign company and all income of the UAE branch that is subject to tax in the jurisdiction of the foreign company require : 

Tax return or associated forms and schedules submitted proving that the Relevant income of the branch has been reported in the tax return of the foreign head office or other relevant group entity.

An assessment of the corporate income tax/demand for corporate income tax in the foreign jurisdiction for the relevant period by the head office or other relevant group entity.

Exempted Licensees – Branches

Branches treatment for UAE ESR purposes will depend on where this branch is and how the branch income is taxed in the jurisdiction of the Head office. Branches registered in the UAE are regarded to be the extension of their parent or Head Office. These branches are not considered to have legal personality separate from their offices.

Scenario 1 : UAE branches of UAE entities 

The Head Office registered in UAE must file as a single Licensee, reporting the Relevant activities of itself and all its branches in one single Notification and/or Economic Substance Report.

Head Office : UAE

Branch : UAE

Scenario 2 : UAE branches of Foreign entities

The UAE branch is required to comply with the ESR, unless its relevant income is included and subject to tax in the hands of the foreign entity or relevant group entity.

Head Office : Foreign

Branch : UAE

Scenario 3 : Foreign branches of UAE entities

The UAE entity is not required to report and demonstrate Economic Substance for the activities and income of the foreign branch, provided that the Relevant income of the foreign branch is subject to tax in the jurisdiction where the branch is located.

Head Office : UAE

Branch : Foreign

**Definition of certain terms are important as these terms determine whether a business has carried on a Headquarters Business, A Distribution and Services Business, or is considered to be a High Risk IP Licensee. The outcome would decide whether such business undertakes a Relevant Activity and therefore subject to Economic Substance Requirements.

Connected Persons : An entitythat is a part of the same Group as the Licensee or Exempted Licensee.

Group : Two or more entities related through ownership or control such that they are required to prepare consolidated financial statements for financial reporting purposes under applicable accounting standards.

Foreign Connected Persons : A Connected person that is not a tax resident in the UAE.

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