The New Economic Substance Regulations issued by the United Arab Emirates on the 10th of August 2020 requires organizations to have considerable exercises in the UAE. The Regulation considers the worldwide standards created by the Organization for Economic Co-operation (OECD) and Development and the European Union for business taxation. Therefore, the Economic Substance Regulation obligates UAE entities that carry out activities listed as “Relevant Activities” in the Regulation to show sufficient monetary presence in the UAE compared to the activities that they undertake inside the UAE.
The History and Background of the UAE Economic Substance Regulations
The First Economic Substance Regulations, Cabinet of Ministers Resolutions No. 31 of 2019, was issued by the UAE Government on the 30th of April 2019. The guidance on its application, Ministerial Decision No. 215 of 2019, was issued in September 2019. By Cabinet Resolution No. 57 of 2020 issued on the 10th of August 2020, the UAE Government amended the Economic Substance Regulation by delivering a revised set of ESR for the UAE entities. Ministerial Decision No. 100 of 2020 on the issuing of orders for the application of the new Regulation was also announced on the 19th of August 2020.
Scope of the UAE Economic Substance Regulation
The UAE Economic Substance Regulation applies to all UAE Onshore or Offshore entities who carry out one or more of the activities listed and referred to as “Relevant Activities in the Regulation.
Article 3 of the ESR lists “relevant activities” is as follows
- Banking Business
- Insurance Business
- Investment Fund Management Business
- Lease-Finance Business
- Shipping Business
- Holding Company Business
- Intellectual Property Business
- Headquarter Business
- Distribution and Service Centre Business
The New Regulation defines a “Licensee” as follows
- any juridical person (incorporated inside or outside of the UAE)
- unincorporated partnerships registered in the UAE and carry out any relevant activity.
Thus, all entities, including branch offices issued with a commercial license in the UAE that carry on Relevant Activity, must comply with the ESR requirements of submitting Economic Substance Notification and Report for each reportable year.
Thus, the new UAE ESR does not apply to natural persons, sole proprietorship, trust, and foundations as they do not fall within the Regulation’s definition.
Under the New Regulations, there is a class of entities referred to as “Exempted Licensees.” Exempted Licensees under the UAE ESR are entities that are exempted from the submission of the ESR Report. Nonetheless, they must submit ESR Notification alongside documented proof that qualifies them as exempted licensees. Under the ESR Regulation, the following are classified as exempted licensees
- Licensees that are Investment Funds.
- Licensees that are tax residents outside the United Arab Emirates.
- Entities wholly owned by United Arab Emirates residents
- , who are not
- a part of a multinational group
- that only exclusively carries out business activities in the United Arab Emirates.
- A branch of a foreign entity whose relevant income is subject to tax in the foreign entity’s jurisdiction.
The objective of the UAE Economic Substance Regulation is to ensure that a licensee that is carrying out any of the relevant activities in the UAE has economic substance.
Economic Substance Test under the UAE ESR
Under the ESR Regulation, a licensee that does not fall under an exempted licensee is required to meet Economic Test in respect of any relevant activity undertaken by the licensee. The following are regarded as the Substance Test
- The Core Income Generating Activity must be conducted by the licensee in the UAE
- The licensee is required to direct and manage the relevant activity in the UAE by
- having an adequate number of qualified employees present in the UAE. Such employees may be employed as full-time or part-time employees.
- Having adequate expenditures concerning the activity in the UAE
- having sufficient physical assets in the UAE.
- The Directors with sufficient quorum hold Board meetings in the UAE in the relevant year, where all strategic decisions are made.
- The minutes and records are kept in the UAE.
- The Directors and Board have the knowledge and expertise to discharge their duty.
Thus, a Licensee carrying out any of the Relevant Activity will have economic substance in the United Arab Emirates if it satisfies the above-listed conditions for every one of its Relevant Activity.
The New Regulation permits an organization to outsource some or all of its activities to outsourcing entities. In this case, outsourcing providers must pass the economic substance test, and the organization that outsourced its activities must monitor, control and exercise adequate supervision of the activity being carried out by the outsourcing provider.
Requirements on UAE Entities under the Economic Substance Regulation
Under the New Regulation, all licensees and exempted licensees are required to submit Notification annually stating the Relevant activity they undertake, the income generated, and the start and end of their financial year. The Notification should be documented electronically on the Ministry of Finance Portal no later than the 30th of June following the licensee’s or exempted licensee’s end of the financial year. The Licensees that have effectively presented a Notice to the Regulatory Authority for the reportable financial year are needed to submit ESR Report no later than the 31st day of December.
Penalty for failure to submit Notification and Report under the UAE Economic Substance Regulation.
Under the UAE ESR Regulation, any licensee or an exempted licensee who fails to submit ESR Notification within six (6) months from the end of its financial year is liable to pay a penalty of the sum AED20,000 (Twenty Thousand Dirhams). Furthermore, a licensee that fails to submit an Economic Substance Report within twelve (12) months from the end of its financial year or fails to meet the Economic Substance Test is liable to a fine of AED 50,000 (Fifty Thousand Dirhams).
Read Also : How to Appeal Against ESR Penalty
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Every entity is required to carry out Economic Substance Assessment to evaluate its activities if it falls under the UAE Economic Substance Regulation scope. We have ESR specialists and experts to help you out. Contact Economic Substance Regulations team now. Avoid ESR penalties;
Syed Hassan Ali carries with him an experience of 13 years in providing legal guidance and consultancy. He is a holder of two degrees, one in Business Management and the other in Economics for Engineers and Scientists. He carries an in-depth knowledge of the UAE market and continues to be an asset to businesses, providing clarity regarding applicability of the ESR regulations as well as guide them in making informed decisions.