When corporate tax was introduced to the UAE Freezone on 1 June 2023, it was a game-changer for firms doing business in any of the country’s many free zones. The standard rate of corporate tax is 9% irrespective of whether the income exceeds AED 375,000. However, qualifying income in UAE Free Zones still enjoys a 0% tax rate for eligible companies. This incentive ensures the continued appeal of free zones as a global business center, but only for those meeting strict guidelines to be considered a Qualifying Free Zone Person in UAE (QFZP).
Knowing how evidence of qualifying income in UAE Free Zones is critical for FTA and VAT compliance and Customs purposes. On an ultimate failure to prove the claims, the taxpayer will be deprived of the benefit of the 0% rate and would instead have to pay a tax at 9% on all his income for the current plus the next four years. In this blog post, we go over the various types of qualifying income, as well as what is required by QFZP and most importantly the crucial documentation you must produce to show your income qualifies.
What is a Qualifying Free Zone Person?
A QFZP is a legal form based on UAE Free Zone law which meets all the requirements set forth in Article 18 of the Corporate Tax Act for an entity registered or established inside a free zone in UAE. These include:
- Having an adequate level of economic substance in the free zone (for instance, no minimum number of employees, assets, or operating expenditure for core income generating activity).
- Calculation of qualifying income for qualifying Free Zone.
- Abiding by transfer of pricing regulations and documentation.
- A requirement only for QFZPs is to prepare audited financial statements.
- Not adopting a 9% regime.
- Satisfying the de minimis threshold: Non-qualifying income shall be less than or equal to the lower of 5% of gross income or AED5 million.
Only corporations in specified Qualifying Free Zones may qualify as QFZPs. Though there are more than 45 free zones in the UAE, not all of them are automatically qualifying businesses should check with their free zone authority. The list of Qualifying Free Zones in UAE is like VAT Designated Zones such as Jebel Ali Free Zone (JAFZA), Dubai Multi Commodities Centre (DMCC), Dubai International Financial Center (DIFC), and Abu Dhabi Global Market (ADGM).
Types of Qualifying Income
- Revenues from the activity or operations with all other Free Zone Persons (excluding Excluded Activities).
The scope of Qualifying Income in UAE Free Zones is strictly drafted to ensure activities are internationally acceptable (such as in the context of OECD BEPS). Cabinet Decision No. 100 of 2023 and FTA guidance list the following types of Qualifying Income:
- Revenue from Qualifying Activities carried out with non-Free Zone Persons (either in mainland UAE or abroad), including:
- Manufacturing of goods or materials.
- Processing of goods or materials.
- Supply of goods or materials in, from, or to a designated area.
- Logistics services.
- Acquisition and retention of shares and other securities for investment purposes.
- Ownership/managing/operating ships or aircraft in international traffic.
- Reinsurance services.
- Fund management, wealth and investment advisory services (regulated).
- Income from Qualifying Intellectual Property (nexus ratio is based on the amount of R&D expenses incurred in the UAE).
- Other revenue that meets the threshold applicable to non-qualifying revenues.
Exempt Activities (e.g. banking, insurance, finance leasing other than ships/aircraft, or dealing with natural persons other than shipping/IP) produce non-qualifying income taxed at 9%.
Documents Needed to Prove Qualifying Income
In the Free Zones of UAE, evidence of Qualifying Income is a need for good records and documentation. The FTA Corporate Tax Guide for Free Zone Persons also states that QFZPs must keep evidence to support computation and entitlement to both Qualifying Income and non-Qualifying Income. You’re not required to have separate financial statements for each division, but you’ll need robust support in the form of records when doing taxes, being audited or scrutinized by the FTA.
Key documents typically needed include:
Audited Financial Statements:
Prepared in accordance with IFRS. They are compulsory for all QFZPs and constitute the core of financial categorization. They need to back out sources of their revenue so that they can show Qualifying Income calculations.
Trade License and Free Zone Registration Documents:
Proof that the entity is registered in a Qualifying Free Zone and authorized for the relevant activities.
Contracts and Invoices:
Detailed contracts, sales or purchase invoices, and service contracts evidencing transactions (e.g. with Free Zone vs. non-Free Zone customers or suppliers or Qualifying Activities). These are useful to prove nature of income, i.e., distribution if goods do enter Designated Zones in some cases.
Transfer Pricing Documentation:
Master/local files, intercompany agreements and arm length analyses in respect of related party transactions as compliance is included as part of QFZP requirement.
Economic Substance Evidence:
Records in the free zone of core income-generating activities (CIGA), such as employee payroll, premises lease agreement (if owned) and board meeting minutes (outsource provider needed to evidence oversight), proof of expenditure. This provision of the guidance substantiates substance requirements layered onto Qualifying Income.
Intellectual Property Records (if applicable):
If the company has Qualifying IP income, patents/trademarks documentation maintained, R&D expense tracking (Qualifying vs. Overall Expenditures), and nexus calculations.
Bank Statements and Payment Proofs:
For verification of income streams and payee recipients (e.g. substantiating funds do not run through a 3rd party).
De Minimis Calculations:
A breakdown of how the nons-qualifying revenue thresholds are calculated.
These are requested by the FTA as part of tax return assessments or audits. To prevent disputes, it is advisable for records to be kept in a digitized form and that clear allocation calculations exist.
List of Qualifying Free Zones
Though the FTA can revise this list, some of the generally accepted Qualifying Free Zones in UAE are as follows:
- Jebel Ali Free Zone (JAFZA)
- Dubai Multi Commodities Centre (DMCC)
- Abu Dhabi Global Market (ADGM)
- Dubai International Financial Centre (DIFC)
- Sharjah Airport International Free Zone (SAIF Zone)
- Ras Al Khaimah Economic Zone (RAKEZ)
- Please verify the FTA for the current list.
Conclusion
Understanding Qualifying Income under the UAE Free Zone Corporate Tax system in the UAE Freezones The article below offers that while there are many advantages to be gained from UAE Free Zones, it also requires careful adherence. Know about QFZP status, types of Qualifying Income, and prepare all required documents to make a 0% claim comfortable with the company’s due diligence.
It is recommended to consult FTA-licensed tax consultants for detailed advice, especially for complex transactions or income related to IP. This is how you ensure your free zone entity will continue to be a genuine Qualifying Free Zone Person in UAE. Staying current with FTA guidelines. Please check official Ministry of Finance or FTA resources for most current list of Qualifying Free Zones in UAE.
