UAE Corporate Tax: A business restructuring relief comes with expanded scope

The UAE’s economic growth coupled with the introduction of a competitive corporate tax regime is resulting in transformations across industries. We are seeing an increase in mergers, acquisitions and hive-offs.

At a micro level, individual business owners are converting sole establishments into companies. The multinational groups are also contemplating to convert their UAE branches into ‘limited liability companies’. The UAE corporate tax envisages tax neutrality – referred to as business restructuring relief - in instances of transfers of existing business or an independent part of it.

On electing for business restructuring relief, the transferor entity would not be subjected to corporate tax on any gains or loss arising from such a transfer. Its assets and liabilities will be treated as being transferred at net book value resulting in nil gain or loss.

The Federal Tax Authority recently issued guidance on the business restructuring relief, which provides the conditions to claim this relief, procedural requirements and the clawback consequences of non-compliance.

Conditions that apply

To be eligible, the transferor and transferee should be resident juridical persons or a UAE-based permanent establishment of a foreign company. They should not be an exempt person nor a qualifying free zone person, and should follow same financial year and accounting standards. The business transfer must be for valid commercial or other non-fiscal reasons reflecting the economic reality.

Scope of the relief

The restructuring relief covers transfer of business for a consideration, which should primarily be in the form of shares or other ownership interests. Cash consideration should not exceed the lower of net book value of the assets and liabilities transferred, or 10 per cent of the nominal value of share/ownership interest issued.

Accordingly, the business restructuring relief covers conversion of sole proprietorship into an LLC, and business transfers, mergers, demergers, hive-downs in exchange of shares. It also allows transfers between non-resident persons having a permanent establishment in the UAE.

Subsidiaries merging with its parent company resulting in their dissolution and share cancellation; transfer of assets/liabilities pursuant to liquidation; and, transfer between group companies without any share transfer will not be eligible given the absence of any transfer or grant of shares.

Multiple parties

It is generally assumed that the transferor entity (payee) will receive the shares/ownership interest from the transferee entity. The FTA guide states that the shares/ownership interest could be issued by a person who has a direct or indirect ownership interest of at least 50 per cent in the transferee entity.

The payee could also be a person with a similar 50 per cent stake in the transferor entity. The guide should enable overseas-based parent companies to exchange shares relating to the transfer of businesses among their respective UAE subsidiaries.

The UAE subsidiaries will however need to monitor the status of shares/ownership interest in the hands of its overseas parent company to avoid clawback provisions.

Clawback provisions

The tax relief would be clawed back under two scenarios occurring within two years of the original transfer. The first covers the sale/transfer/disposal of either the whole or part of the shares received by the transferor to a non-qualifying Group member.

A sale of even a single share from the entire lot of shares received by the transferor could trigger a clawback.

The second scenario covers a subsequent transfer or disposal of the business (or independent part of the business) originally transferred by the transferor.

Clawback could also be triggered in certain other specified scenarios. It would require a redetermination of the tax liability as per the market value of the assets and liabilities. The redetermination needs to be as of the date of original business transfer thereby involving penalties for the late payment of additional tax liability.

Where the transferor ceases to exist – i.e., via a merger - the transferee would be liable for additional tax and penalties.

The decisions to opt for various tax reliefs need to factor in the future plans of the corporate entity. The guide is a reflection on the compliance and documentation discipline that businesses need to follow.