Free Zones are an important aspect of the UAE economy, as they help to attract international investment, which is critical to the country’s development. Special rules for firms registered in free zones (hence referred to as “free zones individuals”) have been proposed in the corporate tax (CT) public consultation paper, taking into account the importance of the free zones.
Every free zone has its own set of guidelines. The income of free zone residents will be exempt from corporate tax for a set length of time under these frameworks. According to the consultation document, the CT regime will honor the tax incentives granted to free zone residents as long as such residents maintain appropriate substance and follow all regulatory criteria.
To understand the projected application of CT on the free zone people, we have well-thought-out all possible options and categorized the transactions into the following four classifications.
Business income from the rest of the world
In the consultation document, it is proposed that money derived from transactions with enterprises situated outside of the UAE be subject to a 0% corporation tax rate. The consultation document is silent on money received through transactions with non-UAE residents, which we anticipate will be subject to the same 0% corporate tax.
Income from the same free zone’s enterprises
The consultation document emphasizes that profits gained from trading with enterprises based in the same free zone will be taxed at zero percent. The paper is quiet on money made through transactions with persons residing in the same free zones, which we anticipate will be subject to the same 0% corporate tax, but we will have to wait for the law to clarify this.
Even if the free zone person is located in the designated zone for VAT purposes and selling goods to the mainland party on INCO terms, where delivery of the goods is made in the designated zone and the mainland party clears the goods in its own import code, the mainland party must still clear the goods in its own import code.
Earnings from people who live in other free zones
The planned application of corporation tax on revenue derived from people residing in other free zones is explicit in the consultation paper, and these transactions will be subject to zero percent corporate tax.
Income from mainland residents
People who live in the free zone are allowed to transact with people who live on the UAE mainland. The consultation paper explicitly states that if a mainland firm and a free zone person are both members of the same CT group, the free zone individuals’ income will be subject to zero percent corporation tax. Payments provided to the free zone individual by a mainland group firm, on the other hand, will not be an allowed cost in calculating the group’s taxable earnings to guarantee CT neutrality.
If the mainland business and the free zone person are not members of the same CT group, the free zone person’s legal structure is crucial. For example, if a free zone person has a branch on the mainland, the free zone person’s income will be taxed at the ordinary CT rate on mainland-sourced revenue while being eligible for the zero percent CT rate on other income. If the free zone person does not have a branch on the mainland, however, the free zone person can continue to profit from the 0% CT rate on passive revenue from mainland people. Interest and royalties, dividends, and capital gains from stock ownership would all be examples of passive income.
Interest and royalties, dividends, and capital gains from owning shares in mainland UAE enterprises would all be examples of passive income.
When a free zone resident obtains income from mainland residents that is subject to a zero percent CT rate, the income is subject to a zero percent withholding tax.