UAE Corporate Tax Developments Bring Relief for Commodity Traders in Free Zones
In a significant turn of events, recent cabinet and ministerial decisions have brought relief to commodity traders operating in UAE free zones, especially those not designated as ‘designated zones’. These decisions, effective retrospectively from June 1, 2023, introduce new concepts and offer clarity on key issues, sparking interesting discussions in the taxation landscape.
A substantial relief has been granted to commodity traders in free zones that aren’t classified as ‘designated zones’. Income generated from trading ‘qualifying commodities’ with non-free zone entities, be they domestic or overseas, is now eligible for a 0% tax rate.
Qualifying commodities, encompassing metals, minerals, energy, and agriculture commodities traded in raw form on recognized commodities exchange markets (in the UAE or abroad), benefit from this provision. It pertains to the physical trading activities of such commodities and associated derivative trading deployed for risk hedging.
Previously excluded from the 0% tax rate, income derived from the ownership or exploitation of intellectual property (IP) assets sees a favorable shift. A portion of the income from the ownership of ‘Qualifying Intellectual Property’ now qualifies for the 0% rate.
Qualifying IP includes patents and copyrighted software, along with other rights functionally equivalent to a patent (e.g., utility models, intellectual property rights for plants and genetic material, orphan drug designations, and extensions of patent protections). However, IP rights related to marketing, such as trademarks, do not fall under this provision.
To determine the income from qualifying IP eligible for the 0% rate, the proportion of expenses incurred for Research and Development (R&D) activities linked directly to the creation, invention, or significant development of such IP is considered, along with a deemed ‘uplift expenditure’.
Ensuring ‘adequate substance’ is crucial for compliance to claim the 0% tax rate. This entails conducting core income-generating activities (CIGA), maintaining sufficient assets, a specific number of employees, and incurring operating expenditures.
CIGA involves functions driving business value and not predominantly support activities. A requisite number of qualified full-time employees should be maintained in the free zone (or designated zone) where the qualifying activity is conducted. Even third parties handling CIGA should meet this location condition.
Clarifications on income from headquarters services to related parties being eligible for the 0% rate have been provided. This category includes administering, overseeing, and managing business activities of related parties, offering senior and general management, captive insurance services, administrative services, procurement services, business planning, development, risk management, coordination of group activities, and incurring expenditures on behalf of related parties.
Careful consideration of ‘headquarter services’ is advised. Questions arise regarding the restructuring of management activities of a mainland company (otherwise ineligible for the 0% rate) into a separate free zone entity, particularly if it operates mainland retail stores. Similarly, free zone companies, otherwise ineligible for the 0% rate, might consider separating their management activities into a distinct free zone company. While transfer pricing rules apply, this strategy could enable the corporate group to enjoy the 0% rate on a fair portion of its overall profits.
Detailed explanations of the distribution of goods or materials in or from a designated zone address pertinent concerns. However, scenarios related to the distribution of equipment not intended for resale, ensuring overseas customers are resellers, trading goods that aren’t qualifying commodities, or third-port shipment sales require careful evaluation. With enhanced clarity on free zone tax incentives, business owners must pose the right questions to optimize tax impact and meet compliance requirements.