Understanding the beneficial recipient rule in the UAE Free Zones

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The UAE Corporate Tax regulations allow Free Zone companies and branches to access a 0% Corporate Tax rate on certain qualifying activities and transactions when specific conditions are met. The 0% tax rate applies to transactions between Free Zone entities, provided these transactions do not involve excluded activities and the recipient meets the beneficial recipient criteria for the relevant services or goods.

Free Zone entities qualify as beneficial recipients of services or goods when they possess the right to use and benefit from these services or goods without being contractually or legally required to provide such services or goods to another party.

For beneficial recipient status, the services or goods must be utilised by the Free Zone entity itself, not by any Foreign Permanent Establishments or Domestic Permanent Establishments associated with that entity.

Where recipients function as conduits or intermediaries, including agents or nominees acting for third parties such as related parties or group entities, the actual beneficial recipient becomes the third party rather than the conduit or intermediary.

Consider how this rule operates in actual business scenarios. Company C operates a free zone legal services business, which is not considered a qualifying activity for 0% tax purposes. Company C enters into a contract with Company M, a non-Free Zone Person, to provide legal advice in Mandarin. While Company C has the legal expertise, it needs translation services to deliver the advice in Mandarin.

Company C contracts with Company D, another free zone entity, to provide translation services. Although the translated advice ultimately goes to Company M, Company C is considered the beneficial recipient of Company D’s translation services. This is because Company C genuinely uses the translation services as an input to create its own legal service offering. Company C transforms the translation service by combining it with legal analysis to deliver comprehensive legal advice.

The key factor is that Company M could not have contracted directly with Company D to obtain the legal services it needed. As a result, Company D can treat its income from Company C as qualifying for 0% tax treatment, assuming all other requirements are met. However, for Company C, the payment from Company M would be considered non-qualifying income as Company C is engaged in rendering non-qualifying activity to a non-Free Zone Person.

Free Zone entities selling services or goods to other Free Zone entities must assess whether the purchaser qualifies as the beneficial recipient of such services or goods to determine their own qualifying status. For a Free Zone entity to qualify as a beneficial recipient, three conditions from the source material must be met:

Sellers or service providers can accept written statements or contractual commitments from purchasers confirming their beneficial recipient status and their intention to use the services or goods for Free Zone business purposes. However, sellers cannot rely on such representations if they have reasons to doubt their accuracy, such as when goods are being delivered to third parties.

The beneficial recipient rule treats Foreign Permanent Establishments and Domestic Permanent Establishments differently from Free Zone entities. These establishments represent places of business or other forms of presence located outside Free Zones.

The beneficial recipient rule ensures that the 0% Corporate Tax rate applies only when Free Zone entities receiving goods or services possess the right to use and benefit from them for their Free Zone operations, rather than being contractually required to supply them to other parties.

Free Zone entities must understand whether they qualify as beneficial recipients to access the 0% Corporate Tax rate on transactions with other Free Zone companies.

- Sameer Mishra is a senior journalist based in the UAE