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The UAE has recently issued a decision explaining the Top-Up Tax provisions applicable to MNE groups with revenue exceeding EUR 750 million.
This article provides an overview of the computation process of Pillar Two Income or Loss as laid out in Cabinet Decision No. 142 of 2024, including the treatment of financial accounts, necessary adjustments, and special provisions for international shipping income, permanent establishments (PEs), and flow-through entities.
Financial Accounts
The Pillar Two Income or Loss of a Constituent Entity is based on its Financial Accounting Net Income or Loss, as determined by its standalone financial statements prepared under International Financial Reporting Standards (IFRS). Thus, all Constituent Entities in the UAE must prepare financial statements in line with Federal Decree-Law No. 47 of 2022 or other applicable UAE laws.
If standalone IFRS financial statements are unavailable, income is determined based on the Ultimate Parent Entity’s Consolidated Financial Statements, with adjustments to exclude intragroup transactions and purchase price allocations.
In cases where it is impractical to use the Parent Entity’s accounting standard, an entity may use an Authorized Financial Accounting Standard with necessary adjustments to prevent distortions in tax calculations.
Permitted Adjustments
The Pillar Two Income or Loss of an entity is not the same as its book income, as specific adjustments must be made to align with tax principles. These adjustments ensure that only relevant income and expenses are considered for GMT compliance. Some of the key adjustments are enumerated below:
• net taxes expense;
• excluded dividends and excluded equity gain / loss;
• included revaluation method gain or loss;
• gain or loss from disposition of certain assets and liabilities
• certain foreign currency gains or losses;
• policy disallowed expenses or prior period items;
• accrued pension expense or income;
• arm’s length pricing for related party transactions; and
• expenses on stock compensation costs.
International Shipping Income
International Shipping Income (as well as loss) is excluded from Pillar Two Income calculations under certain conditions. The following income qualifies as International Shipping Income:
• revenue from transporting passengers or cargo in international waters;
• income from leasing ships for international traffic;
• participation in joint shipping pools or alliances; and
• gains from selling ships used in international traffic.
However, revenue from inland waterway transportation within the UAE does not qualify for this exclusion.
Permanent Establishment
For businesses with a PE in the UAE or another jurisdiction, the income and expenses must be allocated based on certain rules, viz.
• Income is determined based on separate financial accounts of the PE. If no standalone accounts exist, an estimate must be prepared based on parent entity standards.
• Tax treaties and OECD principles apply to income allocation.
• Losses of a PE may be considered an expense of the Main Entity in certain cases.
• If a PE incurs a loss that impacts the Main Entity’s taxable income, it must be carefully reviewed to avoid double taxation or unintended benefits.
Flow-Through Entities
Flow-through Entities (such as partnerships or tax-transparent businesses) require special income allocation rules to ensure that only qualifying entities are taxed correctly, viz.
• Income is allocated based on ownership interest.
• Adjustments are made to prevent double counting in tax-transparent structures.
• Tax credits are allocated in the same proportion as income.
• Certain elections may allow companies to treat foreign exchange gains/losses differently.
Conclusion
The computation of Pillar Two Income or Loss under UAE regulations is a detailed process requiring compliance with IFRS, tax adjustments, and specific exclusions. Companies with international shipping income, permanent establishments, or flow-through structures must pay special attention to allocation and exemption rules to optimize their tax position while remaining compliant.
Disclaimer: Content posted is for informational and 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.
