Economic Substance Regulation (ESR) in UAE

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Economic Substance Regulation (ESR) in UAE

Every country has its own regulations that supports and grows the businesses and entities. Just like that, UAE has its Economic Substance Regulations that are imposed on businesses which are operating in the United Arab Emirates. Because, More and more companies are flocking to the United Arab Emirates due to friendly tax regimes such as no personal income tax, no corporate taxes. However, the country faces the challenge of managing tax transparency.

With respect to such a Problem, Dubai ESR were introduced in 2019 in an attempt to remove the country from the list of non-cooperative jurisdictions. The introduction deals with the monitoring of companies with harmful tax practices. This imposition applies on branches of local and foreign companies as well as offshore companies.

ESR has its own importance because every nation’s welfare depends on its nationals because it is their prior duty to submit taxes on time so that they can play their role in building up a nation.

What is UAE Economic Substances Regulation?

On 30 April 2019, the Government of the UAE issued the Economic Substances Regulation in accordance with Ministerial Resolution No. 31 of 2019. The Government of the United Arab Emirates then issued Ministerial decision No. 215 of 2019 providing guidance on the application of the regulations on 11 September 2019. Information regarding regulatory Authorities accountable for managing the relevant activities was set out in Cabinet Resolution No. 58 of 2019, which was issued on 4 September 2019.

The country made the resolution in line with guidelines issued by the Organization for Economic Co-operation and Development (“OECD”) Forum and the European Union Code of Conduct Group (“EU COCG”) to combat harmful tax practices.

The Economic Substances Regulations provide a set of rules to ensure that all business transactions are linked to a business purpose or business substance. All UAE onshore, offshore and freezone companies carrying out relevant activities must demonstrate their actual profits commensurate with a significant economic presence in the jurisdiction.

Relevant Activities

Your company must comply with the Economic Substances Regulation UAE if it carries out the following activities:

  • Banking Businesses
  • Headquarter Businesses
  • Investment Fund Management Businesses
  • Distribution and Service Centre Businesses
  • Shipping Businesses
  • Intellectual Property Businesses
  • Lease-Finance Businesses
  • Holding Company Businesses
  • Insurance Businesses

The UAE government uses a “substance over form” approach to determine whether your business entity is carrying out a relevant activity. It does not matter whether such activity is included in the company’s business license or permit.

A licensee who carries out more than one relevant activity in the same financial year must demonstrate the economic substance of each activity. If it does not carry out any relevant activity during the relevant financial year, it is not necessary to comply with the economic substance reporting requirements.

Exemptions

The economic substance regulations are not imposed on the following licensees:

  • Licensees who are not UAE tax residents;
  • Investment funds and their underlying special-purpose investment or Vehicles holding entities.
  • A business operating solely in the UAE that is wholly owned by UAE residents and is not part of any multinational group.
  • Branches of foreign entities all of whose relevant income is subject to tax in foreign jurisdictions.
  • License holders who have no income from the relevant activity.

Economic Substance Test

When a business registered in the United Arab Emirates carries out the relevant activity, it is determined whether the business entity is licensee and falls within the purview of the ESR. The license holder is subject to the economic substance test and is required to prove the following:

  • The relevant business activities and licensee are directed and managed in Dubai.
  • The core income generating activities (CIGA) are carried out within the UAE; Note also that each relevant activity has a different set of GIGAs.
  • Licensee has adequate premises, expenditure and employees in the UAE.

In addition to proving economic substance, the licensee is required to file a return of economic substance for those financial years/periods in which he earned any gross income from the relevant activity.

ESR Reporting

UAE entities carrying on a relevant activity will be required to file an annual notification within six months of the end of their financial year stating whether they carried on the relevant activity in that financial year and whether any income from that relevant activity was subject to tax outside the UAE. Entities in the UAE that qualify for an exemption from the regulation or that did not make a profit from their relevant activity during the financial period are required to submit a notification.

UAE entities that carry out a relevant activity and earn income from the relevant activity will also be required to submit an annual economic substance report, self-assessed as to whether they have met the economic substance requirements, supported by information on income from the relevant activity, number and qualifications of the employees involved, and information about the premises and other assets used in carrying out the relevant activity.

Penalties and Fines for Non-Compliance

Failure to notify would cost AED 20,000.

Failure to submit an ES report would result in:

  • A fine of AED 50,000; and
  • Failure to demonstrate economic substance.

Providing insufficient or incomplete information would cause:

  • A fine of AED 50,000; and
  • Failure to demonstrate economic substance.

1st failure to prove economic substance would result in:

  • A fine of AED 50,000; and
  • Exchange of information with the foreign authority where the parent company, the ultimate parent company and the ultimate beneficial owner are located.

Continuous failure to demonstrate economic substance would cost:

  • A fine of AED 400,000;
  • Exchange of information with the foreign authority where the parent company, the ultimate parent company and the ultimate beneficial owner are located, and
  • Suspension or dissolution of the company.

How can we Help?

New economic substance regulations are complex and can be difficult for business owners to understand. Business owners are encouraged to contact a trusted agency to understand compliance requirements and implementation procedures.

We at Beyond View have a team of highly qualified and experienced professionals to help you determine if the regulations apply to you and guide you through the steps that should be taken to ensure compliance with the Economic Substances Regulations.