Economic Substance Regulation: What Is It and Are You Eligible?
The UAE introduced the Economic Substance Regulations, applicable in offshores, freezones, as well as on-shore, to honor its commitment as a member of the OECD Inclusive Framework on Base Erosion and Profit Shifting (“BEPS”), and in response to a review of the UAE tax reporting framework by the European Union (EU).
- The purpose of the Regulations is to ensure that UAE entities undertaking certain activities report actual profits that are commensurate with the economic activity undertaken within the UAE
- ESR have been introduced in countries with low or no corporate taxes to comply with international initiatives to combat harmful tax practices including unlawful avoidance or evasion
- ESR requires certain legal entities to demonstrate that they carry out substantial economic activities in these jurisdictions, in accordance with the Economic Substance Test
- ESR aim to avoid harmful Profit shifting practice and required reporting under the ESR to monitor and achieve this goal
Businesses covers under the Scope of Regulations: Applicability
This Regulations applies to UAE onshore and free zone companies, branches, partnerships, and other UAE business forms (referred to as Licensees) that carry out any of the following relevant activities.
- Banking Businesses
- Insurance Businesses
- Investment Fund Management Businesses
- Lease-Finance Businesses
- Headquarter Businesses
- Shipping Businesses
- Holding Company Businesses
- Intellectual Property Businesses
- Distribution and Service Centre Businesses
Offshore Companies also covers under the regulation if the ‘offshore’ company undertakes a Relevant Activity.
Exemption
Although Regulations are applicable to all licensees, Companies in which Federal Government or Emirate Government or any Governmental authority which has at least 51% direct or indirect ownership in its shareholding are exempt from this regulations.
Submission of Information Notification
Every Licensee have to submit a Notification to Relevant Authority containing the following information:
- Whether or not it is carrying out an Relevant Activity
- Whether or not all or any part of the licensee’s Gross Income in relation to Relevant Activity is subject to Tax in a Jurisdiction outside UAE
- End date of its Financial Year
Filing of Report
If the Licensee is carrying out Relevant Activity and is required to satisfy the Economic Substance Test then it shall within 12 months from the end of each Financial Year will submit a Report to Regulatory Authority containing the information.
Note: If Licensee undertakes the relevant activity but does not earn any income from relevant activity during the Financial Year, no need to meet the Economic Substance Test for that period. However, notification filing may be necessary.
Requirements to Meet Economic Substance Test
A Licensee must meet the following conditions to pass an Economic Substance Test:
- Licensee conducts State Core Income Generating Activities in UAE
- Licensee relevant Activities being Directed and Managed in UAE
- Employs adequate Workforce of qualified full time employees in UAE
- Incurs adequate Operating Expenditure in UAE
- Possess adequate Physical Assets in UAE
Retention of Information and Records
A Regulatory Authority may determine that a Licensee has not met Economic Substance Test within 6 years from the end of financial year to which determination relates.
Therefore, While ESR does not set any period for retention of information and records, it is advisable for the licensee to retain records for the period of 6 years from the end of financial year.
Determination of whether Economic Substance Test is Met
Based on the information provided by Licensee, The Regulatory Authority determine whether or not a licensee has met requirements of the test with respect to each relevant activity in UAE.
Penalties
If a Licensee fails, there would be a Fine of up to AED 50,000 on First Failure and up to AED 300,000 on subsequent failure.
Besides this there would be Penalties of License being suspended, Revoked or Non-Renewal at the discretion of Authority.
Information Flow
Licensee Provides information to Regulatory Authority, Regulatory Authority passes information to Competent Authority and in the event of Failure of Test, Competent Authority shares information to Foreign Competent Authority.
| Regulatory Authority | Due Date |
| DIFC | By 12 June 2020 |
| ADGM | By 30 June 2020 |
| DMCC | By 30 June 2020 |
| RAK ICC | By 30 June 2020 |
| AJMAN FZ | By 30 June 2020 |
| RAK EZ | By 30 June 2020 |
| DWTC | By 30 June 2020 |
| DACC | By 7 June 2020 |
ESR Notification Form for the mainland entities is now released by Ministry of Economy
ESR Notification Form for the mainland entities is now released by Ministry of Economy.
The purpose of this Notification is to provide the Regulatory Authority with certain initial information on the Licensee and its activities in the UAE, and is a prerequisite to filing an Economic Substance return for the Reportable Period.
If the notification filing date has not been released by the relevant authority, it is to be assumed that the deadline for filing would be 30th June.
This blog article is written by CA Taher Bohra, Tax advisor at Flyingcolour Business Setup, Accounting & Tax Services in Dubai and UAE. Feel free to call us for all kind of queries and solutions related to Economic Substance Regulation. Please send your queries to info[at]flyingcolour[dot]com or call +971 4 4542366.
