The Economic Substance Regulations (ESR) UAE, have been issued to curb harmful tax practices according to the standards set by OECD (Organisation for Economic Cooperation and Development). The Regulations require companies and other business forms registered in the UAE that carry on one or more “Relevant Activities” to have economic substance in the UAE in relation to these activities and to comply with ESR notification and return filing obligations.
It applies to all companies established in UAE except those entities where a
minimum of 51% is directly or indirectly held by Government Authorities and which have income from a relevant sector in the accounting period commencing after January 1, 2019. The relevant sectors are as follows:
UAE businesses are expected to use a ‘substance over form’ approach to determine whether or not they undertake a Relevant Activity and, as a result, are within the scope of the Regulations. This determination would require the UAE business to not only consider the activities stated under their commercial license or registration certificate but also to assess the activities carried out during a financial period. The entity will also have to identify their Core Income Generating Activity or Activities (CIGA) The CIGAs are those activities that are of central importance to the Licensee for the generation of the gross income earned from its Relevant Activity.
STAGE 1 – NOTIFICATION
As per the regulations, all UAE onshore, free zone and UAE offshore companies including branches and partnerships, whether or not carrying out any relevant activity, must file a ESR notification UAE with their respective regulatory authorities by their due date latest for financial year commencing on or after January 1, 2019. While some authorities have their deadline as June 7, 2020, most authorities have their deadline as June 30, 2020.
Any entity that undertakes a relevant activity during a financial year but does not earn any income from that relevant activity will not be required to meet the economic substance test for that financial year but must still file the notification with their respective regulatory authorities on an ongoing basis each year.
STAGE 2 – ESR RETURN
This return should be filed by the entities who are carrying any of the relevant activity only. The deadline for filing the return is December 31, 2020. The format for filing the return has not yet been issued.
STAGE 3 – DEMONSTRATE ECONOMIC SUBSTANCE
All UAE onshore, offshore, and Free Zone companies that carry on and generate income from any one of these activities will have to demonstrate “Substance” in the UAE by one of the following:
a) That they are appropriately directed and managed in the UAE which means
b) Employees in UAE: The entity should have an adequate number of qualified employees physically present in the UAE
c) OPEX in UAE: The entity should have adequate operating expenditure in the UAE commensurate with income and size of business.
d) Physical Assets in UAE: The entity should have adequate physical assets in the UAE
Companies who do not maintain accounts will have to decide on their accounting period as this will affect their ESR Filing. Companies that hold properties and receive rental income will not fall under ESR. However, companies that hold equity shares and receive only dividends will fall under ESR. Companies that receive both dividends and income from a non-relevant sector will not fall under ESR.
Non-filing, late filing, or wrong filing of ESR notification UAE can attract a penalty from AED 10,000 to AED 50,000/-