Compliance with Economic Substance Regulations in the UAE

Compliance with Economic Substance
Regulations in the UAE

Base Erosion and Profit Shifting (BEPS) is a way used by the companies for artificially transferring profits from high tax jurisdictions to low or no tax heavens by adopting creative tax planning strategies. To tackle these harmful tax practices including unlawful avoidance or tax evasion, the Organization of Economic Cooperation and Development (OECD) came up with an action plan to tackle tax avoidance.

As a member of the OECD Inclusive Framework, and in response to an assessment of the UAE’s tax framework by the European Union (“EU”) Code of Conduct Group on Business Taxation, the UAE introduced a Resolution on the Economic Substance (Cabinet of Ministers Resolution No.31 of 2019, the “Regulations”) on April 30, 2019. However, on August 10, 2020 new Economic Substance Regulations were introduced by way of Cabinet of Ministers Resolution No.57 of 2020 which replaced and revoked Resolution No.31.

Economic Substance Regulation applies to all Licensee & Exempted Licensee carrying on the Relevant Activities in the UAE, including the Free Zone or Financial Free Zone; with effect from the year 2019.

Article (1) of the ESR defines a Licensee as an entity, that is a juridical person (corporate legal entity with a separate legal person from its owners) and unincorporated partnership (partnerships operating in the UAE without having separate legal body), which carries on a Relevant Activity in the UAE.

Exempted Licensee as per Cabinet Resolution No.57/2020 means any of the following:


  • Investment funds

  • A Licensee that is Tax Resident in a Jurisdiction other than in the UAE

  • A Licensee that is fully owned by one or more UAE Resident and meets the following conditions:

    a) An entity should not be part of the MNE Group

    b) An entity should carry business only in the UAE

  • A Licensee that is the branch of a foreign entity the Relevant Income of which is subject to tax in a jurisdiction other than UAE

ECONOMIC SUBSTANCE REGULATIONS RELEVANT ACTIVITIES

According to The UAE Economic Substance Regulations Relevant Activities Guide, businesses with the following activities should review and comply with the requirements of the ESR:


RELEVANT ACTIVITY

(under Article 3.1 of Cabinet Resolution No.57 of 2020)

CORE INCOME GENERATING ACTIVITIES (non-exhaustive)

(Article 3.2 of Cabinet Resolution No.57 of 2020)

Banking Business

  • Raising funds, managing risk, including credit, currency, and interest risk.

  • Taking hedging positions.

  • Providing loans, credit, or other financial services to customers) Managing capital and preparing reports to investors or any government authority with functions relating to the supervision or regulation of such business.

Insurance Business

  • Predicting and calculating risk.

  • Insuring or re-insuring against risk and providing Insurance Business services to clients.

  • Underwriting insurance and reinsurance.

Investment Fund Management Business

  • Taking decisions on the holding and selling of investments.

  • Calculating risk and reserves.

  • Taking decisions on currency or interest fluctuations and hedging positions.

  • Preparing reports to investors or any government authority with functions relating to the supervision or regulation of such business.

Lease-Finance Business

  • Agreeing on funding terms.

  • Identifying and acquiring assets to be leased (in the case of leasing).

  • Setting the terms and duration of any financing or leasing.

  • Monitoring and revising any agreements.

  • Managing any risks.

Headquarter Business

  • Taking relevant management decisions.

  • Incurring operating expenditures on behalf of group entities.

  • Coordinating group activities.

Shipping Business

  • Managing crew (including hiring, paying, and overseeing crewmembers).

  • Overhauling and maintaining ships.

  • Overseeing and tracking shipping.

  • Determining what goods to order and when to deliver them, organizing and overseeing voyages.

Holding Company Business

Activities related to a Holding Company Business.

Intellectual Property Business

Where the Intellectual Property Asset is a:

  1. Patent or similar Intellectual Property Asset:
    a) Research and development.
    b) Marketing intangible or a similar Intellectual Property Asset: Branding, marketing, and distribution.

  2. In exceptional cases, except where the Licensee is a High-Risk IP Licensee, the Core Income Generating Activities may include:
    a) Taking strategic decisions and managing (as well as bearing) the principal risks related to the development and subsequent exploitation of the intangible asset-generating income.
    b) Taking the strategic decisions and managing (as well as bearing) the principal risks relating to the acquisition by third parties and subsequent exploitation and protection of the intangible asset.
    c) Carrying on the ancillary trading activities through which the intangible assets are exploited leading to the generation of income from third parties.

Distribution and Service Centre Business

  • Transporting and storing parts, materials, or goods ready for sale.

  • Managing inventories.

  • Taking orders.

  • Providing consulting or other administrative services.

UAE ECONOMIC SUBSTANCE FLOW CHART

Ministry of Finance has issued an Economic Substance Flow Chart which determines whether entities are required to submit an annual notification and then file an Economic Substance Report or not.
According to the chart, some factors will enable a Licensee to understand if the ESR regulations apply to them or not, which are as follows:

  1. Is the Licensee a corporate body in UAE?

  2. Is the Licensee carrying on a Relevant Activity?

  3. Is the Licensee an exempt company?

  4. Is the Licensee earning gross income concerning the Relevant Activity?

  5. The Date of commencement and end of the Financial Year.


Below you'll find a general interpretation of the Economic Substance Flow Chart that is issued by the UAE Ministry of Finance.

ECONOMIC SUBSTANCE REGULATIONS SUBMISSION DEADLINES

Ministry of Finance (MOF) has decided to centralize the record of ESR notification and reporting. Hence, If the Licensees are falling under ESR regulations they must file the notification to the MOF portal. Here are the following deadlines to remember:

MOF Portal Goes Live

1st week of December

ESR Re-submission of Notification

From 1st week of December onwards
(notification must be filed within 6 months from the end of the Financial Year)

ESR 1st Annual Report

31 December 2020

All UAE entities are strongly recommended to assess or re-assess whether and which of their entities and activities fall within the scope of the ESR and how to ensure they can meet the Economic Substance Test in respect of each relevant Activity.

HOW TO GET READY FOR ESR REPORTING

ESR Substance Report template for submission of the report has been provided by the MOF to enable Licensee preparation. Below is a list of key requirements of the Economic Substance Test as brief guidance for the preparation of every Licensee (if applicable):


Directed and managed in UAE

The Licensee has to be “directed and managed” in the UAE for the Relevant Activity (ies) it undertakes (e.g., through holding and minuting board meetings in the UAE, having a UAE based manager and/or directors, etc.).

Having adequate substance

The Licensee has an adequate number of qualified employees, physical assets (e.g., office space), and annual operating expenditures in the UAE relative to the Activity undertaken.

Core Income Generating
Activities (“CIGAs”)

The Licensee must perform the related CIGAs in the UAE.

PENALTIES

Any Licensee who fails to comply with Ministerial Decision no.100 for the year 2020 on the issuance of directives for the implementation of the provisions of the Cabinet Decision no.57 of 2020 concerning Economic Substance Requirements shall be subject to the following penalties:


Failure to File Notification to MOF Portal

AED 20,000

Failure to Submit Report

AED 50,000

Failure to provide accurate or complete Information

AED 50,000


Moreover, here are the penalties in regards to demonstrating sufficient Economic Substance in the UAE for the relevant period:

1st year of failure

The penalty of AED 50,000 and Information exchange with the foreign competent authority of:

  1. Parent company,

  2. Ultimate parent company, and

  3. Ultimate beneficial owner.

2nd year of failure

The penalty of AED 400,000 and Trade / Commercial License could be suspended, withdrawn or not renewed, and information exchange with foreign competent authority as above.

HOW WE CAN ASSIST YOU TO COMPLY WITH ESR

As a leading corporate service provider in the UAE, My Business Consulting DMCC is here to assist you to define to which extend Economic Substance Regulations apply to your business, provide expert advice on ESR Notification Filing to help you comply with all ESR requirements and avoid non-submission and penalties.
Considering that all UAE entities should assess whether they fall under the UAE Economic Substance Rules (as per the 2019 financial year), we can help entrepreneurs define which of the below compliance obligations company may have:

Our trained experts can assist you in Economic Substance Regulations Notification Filing, providing clarification of the new government ESR criteria depending on the sector-specific business activity and guide you on the Compliance with ESR Reporting in the United Arab Emirates.

SERVICE PACKAGES

ESR Assessment or
Re-assessment

Our ESR experts will assist you in understanding the changes in ESR Regulations and help you ensure that your company is compliant with the updated regulations.

Our services include re-assessment of the following:

  1. To analyze if the operational activities of the company fall under the scope of updated ESR rules and regulations. Note: The Activity in your License is not the indication to assess the Activity but your actual operations, which we will help you assess.

  2. Assessment of the core Income Generated Activities performed by the companies based on the relevant activities guide issued by the MOF.

  3. Assessment of the financial and reportable period for Economic Substance purpose.

  4. To analyze if the company meets the requirement of the "Exempted Licensee" (that is not required to demonstrate Economic Substance and is exempt for filling ESR Notification and Reporting).

  5. Assisting in determining supporting documents for exemptions.

ESR Re-notification
(MOF PORTAL)

Our ESR experts will process the ESR Notification under the Regulation. The services will include:

  1. Portal User Set-up.

  2. Filling Requirements: company details, Relevant Activity, Reportable Period, UBO Declaration.

  3. Filing for Exemptions (if applicable).

  4. On-time Complete Submission of Notification.

  5. Coordinate with FTA in case there is any clarification received on the submitted notification.

  6. Regular update on newsletter / notification related to ESR regulation in the upcoming months.

ESR Reporting

  1. Preparation of Business Operating Cycle of client's business.

  2. Filling up the forms and submission of the ESR Report with the required information on the MOF portal.

  3. Determine the value of the below mentioned financial information based on the Relevant Activity selected in the ESR notification:
    a) Total Revenue of the business and the core income related to the particular Relevant Activity for the reportable period.
    b) Accounting Profit / Loss attributable to the business to the whole business and related to the notified Relevant Activity for the reportable period.
    c) Net Book Value of the tangible assets held in UAE for the reportable period.
    d) Operating expenditures incurred of the whole business and concerning that particular Relevant Activity for the reportable period.
    e) Expenditure incurred on outsourcing providers in the UAE with that particular Activity.

  4. Preparation of the financial statements like Balance Sheet, Income Statement, Cash Flow Statement & Statement of Changes in Equity for the reportable period of the business as a whole (if required).

  5. Preparation of Board Resolution for the board meetings held in UAE during the reportable period.

  6. Preparation of Declaration Letters for minutes of board meetings, qualified employees, and physical assets of the Company.

  7. Provision of templates for any new information required by the Ministry of Finance or FTA related to submitted ESR Report for the reportable period (if applicable / required).

  8. Update on any new amendments in the reporting requirements and templates.

The fees for each service package may vary depending on the structure of the company. Terms and Condition Applies.

If you have any questions, please, contact us today to get professional free advice at [email protected].

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