Among the ‘qualifying activities’ that would have a 0 per cent rate under UAE Corporate Tax, distribution is perhaps the most fascinating in its potential scope. At the same time, It is one that’s subjected to varied interpretations.
With UAE taxation at a nascent stage, business owners should rely on robust analysis to finalise their tax positions. Any gaps could result in tax arrears and penalties. Traders and distributors should evaluate critical issues while planning their free zone operations.
Can the place of management be outside a designated zone?
Distribution of goods in or from a designated zone to a customer that resells such goods or processes/alters such goods for the purpose of sale is eligible for a 0 per cent tax rate. The activity of distributing must be undertaken in or from a designated zone.
The corporate tax law requires that a qualifying free zone person shall maintain adequate substance - relative to the nature and level of its activities and its income – by undertaking its core income-generating activities (CIGA) in a free zone. The core income-generating activities could be undertaken by a qualifying free zone person or be outsourced to a related- or third-party in a free zone.
It has been clarified in the tax guidance that qualifying free zone persons must have adequate staff, assets and operating expenditure - in the relevant free zone or in any other free zone - for undertaking the core income-generating activity.
The expression ‘relevant free zone or in any other free zone’ opens the doors to a debate that core income-generating activities could be undertaken in a free zone that need not be a designated zone. Such a contention needs to be evaluated considering the substance over form and the context of the tax policy. In any case, the place of management of a qualifying free zone person cannot be on the mainland UAE in any of the scenarios.
Can a qualifying free zone person purchase goods from mainland?
Many businesses believe a free zone company should not purchase goods from mainland suppliers to remain eligible for a zero per cent tax rate. The apparent reason is that the relevant ministerial decision requires goods must be imported through a designated zone.
The ministerial decision actually requires goods entering the UAE to be imported through a designated zone. The said condition should be applied on supplies entering the UAE and not on the purchases. If a qualifying free zone person is selling the goods to customers on the mainland, the goods will enter the UAE.
In such a scenario, the goods should be imported through the designated zone.
Is location of goods relevant?
It has been clarified that direct/third-port shipments - where the goods do not come to the UAE – undertaken by a trader in a designated zone would also be covered as a qualifying distribution activity.
If inferred from the clarification that the location of the goods is not relevant - and that the only relevant factor is the location of the seller entity - a pertinent question arises. Could a qualifying free zone person store their goods outside a designated zone or not? Both views seem plausible.
As a qualifying free zone person is allowed to purchase goods from mainland suppliers, the storage of own goods in the mainland should not vitiate the eligibility for a zero per cent tax rate. Alternatively, if a qualifying free zone person is allowed to store the goods outside a designated zone, the purpose of restricting preferential tax rate to a designated zone alone could be circumvented.
Distribution of goods to overseas suppliers
Many traders and distributors are sceptical to sell goods from a designated zone to overseas customers. For the preferential zero per cent tax rate, distribution of goods should be to a customer that resells such goods or processes/alters such goods for the purposes of sale.
Ensuring such compliance from a foreign entity and maintaining appropriate documentation would be a practical challenge. Businesses need to first evaluate whether such end-use condition is to prevent domestic tax avoidance or is generic in nature. The position on sales to overseas customers should be strategized accordingly.
Interpretation of tax laws is a study in itself. Any incorrect interpretation could result either in tax costs, or forfeiting business opportunities. Business owners should ask the right questions at the right time to evaluate their tax positions.
It is equally important for them to seek guidance from the authorities to avoid any pitfalls…