Key Amendments to UAE ESR and Updated guidance

By Alia Noor, FCMA, CIMA, MBA, Oxford fintech programme, GCC VAT Comp Dip, COSO Framework ,Associate Partner Ahmad Alagbari Chartered Accountants

 

Under New ESR FTA is assigned as National Assessing Authority for Monitoring Compliance of ESR  along with VAT.

Recently in August 2020 significant changes were made in Economic substance regulations of the UAE via amendments to the Regulations by issuing Cabinet of Ministers Resolution No. (57) of 2020 and updated Guidance (Ministerial Decision No. (100) of 2020.

In April 30, 2019, The UAE issued Cabinet of Ministers Resolution No. 31 of 2019) , (the “Regulations”) As part of the UAE’s commitment as a member of the OECD Inclusive Framework, and in response to an assessment of the UAE’s tax framework by the European Union Code of Conduct Group on Business Taxation and in Sept 11,2019,  issued Ministerial Decision No. 215 of 2019) , and Cabinet Decision No. 58/2019 and Regulatory Authorities were tasked with the administration and enforcement of the Regulations.

 

Under New ESR FTA is assigned as National Assessing Authority for Monitoring Compliance of ESR  along with VAT.

The UAE Federal Tax Authority (FTA) has been assigned the role of National Assessing Authority which is responsible for assessing and enforcing compliance with the economic substance tests in the UAE along with VAT.

Regulatory Authorities (RAs), on the other hand, are responsible for collecting and checking the accuracy of notifications and reports submitted by the licensees and assisting the FTA in carrying out its role as National Assessing Authority. 

(Article 6.1 of 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

Key Amendments

 

Notification of Filling Date

 

In the future, all notifications will need to be filed within six (6) months after the financial year-end, on to the MoF’s portal.

(Article -4.4 ) of 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

 

Re-Submission Notification

 Licensees that have already submitted a notification for the financial year ended 31 December 2019 directly to their Relevant authorities are required to re-submit a notification in accordance with the provisions of the new ESR on the MoF’s portal once it is available  which is  expected to be in Q4 2020.

(Article -4.4) of 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

 

Modification in contents of the ESR notification/ report 

All Licensees carrying out a relevant activity will now need to identify in their notifications/reports the jurisdiction in which the Parent Company, Ultimate Parent Company and Ultimate Beneficial Owner claim to be tax resident.

(Article -8) of 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

All Licensees should revisit and amend internal information sharing policies, especially with regards to ownership.

Moreover copy of the financial statements must be submitted by the Licensees while submitting economic substance reports (if required to submit).The requirement does not explicitly require audited financial statements, entities which do not prepare financial statements but carry out a relevant activity will need to consider how they comply with this requirement.

Audited financial statements might be preferred by authorities and licensees on a prudent basis, and organizations should be prepared to provide them, if requested.

 

Alignment of the scope of certain Relevant Activities

 

“Distribution and Service Centre Business”

Under original  ESR  “Distribution business” was defined as Purchase of goods from foreign group company and Import and storage of such goods into the UAE and Sale of such goods to anyone outside the UAE (i.e. export transactions)

However in revised ESR, last two parts are eliminated now there is no longer a requirement for the “Goods to be imported and stored in the UAE” for an entity to be considered a “Distribution and Service Centre Business.”Entities which are engaged in transactions such as third port shipments, high sea sales, bill to ship to transactions, etc. would now be covered (if goods are purchased from foreign group company

Furthermore , there is no longer a requirement for services to be provided “in connection with a business outside the State”, resulting in any service provided to a foreign related party to be considered a “Distribution and Service Centre Business”.

It means that local sales of goods purchased from foreign group companies also appear to be within the purview of the definition.

Original ESR defined “Service center business” as  Consulting, administrative, or other services provided to a foreign group company in connection with the foreign group company’s business outside the UAE. Revised ESR has removed the requirement to provide services in connection with the business outside the state .

(Article -2.9 ) of 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

 

‘Holding Company Business’

Original ESR defination of “Holding company business” activity comprised of two parts holding company business and a holding company, whereas Updated ESR has removed the definition of a ‘Holding Company’.

 ‘Holding Company Business’ as per revised ESR  is defined as one that has as its sole function the acquisition and holding of shares or equitable interests in other companies and Only earns dividends and capital gains from its equitable interests.

(Article -2.7) of 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

 

Exempt Licensees

The amended ES Regulations has introduce four categories for  exempt Licensees. Exempt entities must (i) file a notification and (ii) provide sufficient documentary evidence to substantiate and benefit from their exempt status.

(Article -3.2) of 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

 

1-Entities that are tax resident outside the UAE

The UAE entity will need to submit a tax residence certificate or other documentation issued by the tax authority in the foreign jurisdiction in which it claims to be a tax resident, evidencing that it is treated as a locally tax resident entity in that foreign jurisdiction.

2-Investment Funds

The Investment Fund exemption applies to the Investment Fund as well as any UAE entities used by the Investment Fund to make or hold investments, but does not extend to the entity(ies) in which the Investment Fund ultimately invests. 

 

3-Entities that are wholly owned by UAE residents and that (i) are not part of a multinational group, and (ii) only carry out business activities in the UAE

 The term UAE residents refers to either (i) UAE citizens or (ii) individuals holding a UAE residency visa who reside in the UAE.

 

4-UAE branches of a foreign head office / parent whose relevant income is subject to tax in the jurisdiction of the foreign head office / parent

 

Subject to further guidance, we would expect that the “subject to tax” test is met where the income of the UAE branch is included in the taxable income of the foreign head office/parent, irrespective of whether the foreign head office/parent can claim a branch profit exemption under a double tax treaty with the UAE or under the domestic tax law of the jurisdiction of the foreign head office / parent.  

 

Entities directly or indirectly owned at least 51% by the UAE government are no longer specifically exempted under the amended ES Regulations. 

Change in Definition of licensee

Under amended ESR definition,Natural persons, sole proprietors, trusts and foundations (that was considered as “Licensees” under the original ES Regulations) are no longer in scope of the ES regulations and therefore do not need to file a notification or meet the Economic Substance Test.

As per New ESR “Licensee” is Either: A juridical person (incorporated inside/outside the UAE); or An unincorporated partnership (without separate legal personality) that carries on a relevant activity.

(Article -3.1) of 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

 

“Connected Person” or “Group”

Under revised  ESR,“Connected person” is defined as  an entity that is a part of the same Group as the Licensee or the Exempted Licensee.

“Group” is defined as two or more entities related through ownership or control such that they are required to prepare consolidated financial statements for financial reporting purposes under the accounting standards.

(As per Article-1) ,Cabinet of Ministers Resolution No. (57) of 2020

 

A “natural person” is excluded from the definition of a “connected person.”This will have direct implications on relevant activity classifications that involve dealing with connected persons. For example, goods purchased from or services provided to a foreign shareholder will no longer trigger a distribution and service centre activity under ESR, pursuant to this definition change.

Furthermore, purchasing goods from or providing services to connected persons (entities) that are not consolidated at intermediate or ultimate parent level will not fall under a “group” definition and thus, would not constitute a relevant activity.

This will have a direct impact on a licensee’s relevant activity classification that deals with related entities that are not consolidated (in case of headquarters business, distribution and service centre and high-risk IP business).

 

“MNE Group”

MNE Group is defined as – any group that includes Two or more entities the tax resident of which is in different jurisdictions 

or An entity that is resident for tax purposes in one jurisdiction and is subject to tax, with respect to activities carried out through branch/ permanent establishment (‘PE’), in another jurisdiction

There was no concept of MNE Group under the earlier Regulation.

(Article 1) ,Cabinet of Ministers Resolution No. (57) of 2020 

 

“Relevant Income”

Relevant income is defined as ; all gross income of entity from a Relevant Activity that is recorded in its books and records under applicable accounting standards , whether earned in the UAE or outside the UAE Irrespective of whether the entity has derived profit or loss from the activity.

The term Relevant Income was not defined in earlier regulaion.

(Article -3.5 ) of 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

 

Compliance during liquidation

Updated ESR states that Licensees carrying out relevant activities will need to meet ESR compliance requirements even during the course of liquidation.

Earlier ESR were silent on this subject.

(Article -23.6 ) of 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

 

Revision of Penalties

Failure to submit Notification

As per Revision in Penalties in case of failure to submit Notification there is a Fixed penalty of AED 20,000 earlier there was range of AED 10,000 to AED 50,000

 

Failure to submit Economic Substance Report or failure to meet the Economic Substance Test

 

In case of Failure penalty as per Updated ESR is AED 50,000 for first Financial Year, AED 400,000 for the subsequent Financial Year, and it may also impose suspension, revocation, or non-renewal  of the License

Penalty for providing inaccurate information

 

Penalty for providing inaccurate information there is a Fixed penalty of AED 50,000 earlier there was range of AED 10,000 to AED 50,000

(Article -13 ) of 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

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