Repercussions of having a Permanent Establishment for a Qualifying Free Zone Persons (QFZPs)

LISTEN TO THE ARTICLE

The concept of Permanent Establishment (PE) is introduced in Article 14 of the UAE Corporate Tax (CT) Law which is effective from 1 June 2023. In this write-up, we have analyzed the concept of PE under the UAE CT Law and the plausible impact for a Qualifying Free Zone Persons.

Meaning of PE

A PE is categorized into Domestic Permanent Establishment and Foreign Permanent Establishment. The former pertains to a place of business or any form of presence of a UAE non-resident person in the UAE. The latter involves a place of business or presence of a UAE resident person outside the UAE. Thus, a mainland branch of a Qualifying Free Zone Persons (QFZPs) is considered as a domestic PE.

Tax Rates

Qualifying Income (QI) of QFZPs is taxed at 0% CT rate. Non-qualifying income of QFZPs or income of non-QFZPs is taxed at the normal 9% CT rate. As a general rule, QI does not include income attributable to a Domestic/Foreign PE. Thus, any income attributable to a domestic PE or a foreign PE will be taxed in the UAE at 9% CT rate.

De minimis Requirements

A QFZP must meet the de minimis requirements for eligibility of 0% tax rate. The de minimis requirement is met where non-qualifying revenue does not exceed 5% of total revenue or AED 5 million, whichever is lower. Certain revenue is not considered in the calculation of non-qualifying revenue and total revenue, including revenue attributable to a domestic PE or a foreign PE.

Calculation of Income of a PE

Calculation and substantiation of income eligible for 0% CT rate becomes crucial for an entity registered as a QFZP, as it must segregate its consolidated income between PE and non-PE entities. For other entities taxable in the UAE, it may not be such a concern as entire consolidated income is taxable at 9% rate. In case of a QFZP, income of a domestic PE or a foreign PE is calculated considering the PE as a separate and independent person that is a “related party” of the QFZP.

Transfer Pricing

The UAE Transfer Pricing Guidelines provide that when determining the income and associated expenditure of a PE, a UAE resident and each of its PEs should be treated as separate and independent entities. This approach is known as the “separate entity approach”. Therefore, transactions between related parties or connected persons where one of the parties is a PE would need to be conducted in line with the arm’s length principle.

Documentation

Various provisions under the UAE CT Law lay down the method of calculation of qualifying income and non-qualifying income of a QFZP. If the QFZP has a PE, it becomes imperative to maintain adequate records, books of accounts and documents segregating PE and non- PE incomes. This helps the taxpayer in supporting its stand before the tax authorities.

Conclusion

Commercial requirements of a business may often be in conflict with the legal regulations, especially for MNCs operating in multiple jurisdictions. Hence, entities operating in the UAE, particularly QFZPs, must evaluate the existence of a PE, income segregation and documentation aspects in consultation with experts.

Disclaimer: Content posted is for informational & knowledge sharing purposes only, and is not intended to be a substitute for professional advice related to tax, finance or accounting. The view/interpretation of the publisher is based on the available Law, guidelines and information. Each reader should take due professional care before you act after reading the contents of that article/post. No warranty whatsoever is made that any of the articles are accurate and is not intended to provide, and should not be relied on for tax or accounting advice.