Scope of the Economic Substances Regulation – News
Whether the entities carry on business only in the UAE, or whether entities whose income is taxed in other countries are not subject to ESR in the UAE. ESR is not applicable to natural persons, sole proprietorships, trusts and foundations
In our previous article, we discussed the reasons for implementing the Economic Substance Regulation (ESR), which was to counter harmful tax practices and combat tax evasion.
We have highlighted that the UAE, as a member of the Organization for Economic Co-operation and Development (OECD) Inclusive Framework, has introduced the ESR Act (the Act) under Cabinet Decision No. 31 of 2019, which was superseded by Cabinet Decision No. 57 of 2020. UAE issued Directive No. 215 of 2019, which was replaced by MD 100 of 2020 for the smooth implementation of ESR in the UAE.
The law requires that every licensee who derives relevant income from a relevant activity must comply with the following:
• submit notification within six months of the end of the accounting year concerned
• Satisfy economic substance test
• submit the report within twelve months of the end of the accounting year concerned
The term licensee used above means a legal person (a legal entity – incorporated inside or outside the state); or an unincorporated partnership registered in the state, including a free zone and financial free zone, and conducts a relevant business.
In light of the above, any legal entity and partnership that meets the above criteria can be classified as a licensee, but there are the following exceptions to the above definition, and excluded entities are not required to: comply with the ESR law and related regulations.
• A licensee it is an investment fund
• A licensee who is a tax resident in a jurisdiction other than a state
• A licensee It is:
o Ownership of a resident or residents (directly or indirectly) in the State
o It is not part of the MNE group (a group that has entities in different jurisdictions or an entity that is tax resident in one jurisdiction and subject to tax in another jurisdiction by reason of its activities carried on through a permanent establishment or a branch).
o It only conducts business in the state.
• A licensee that is a branch of a foreign entity whose relevant income is subject to tax in a jurisdiction other than the State; and
• Any other licensee as determined in accordance with the decision of the Minister of Finance
• Sole proprietorships, trusts and foundations
From the above exceptions, it is evident that if the entities carry on business only in the UAE, or if the entities whose income is taxed in other countries are not subject to ESR in the UAE. The ESR is not applicable to natural persons, sole proprietorships, trusts and foundations.
Legal persons and general partnerships, if they do not receive any relevant income, are not subject to ESR. Government-owned entities will also be tested based on the above criteria and have no notable exceptions.
Legal persons and unincorporated partnerships that perform relevant activities and also earn relevant income can be further classified into exempt entities and non-exempt entities. Exempt entities will have to submit a notification and they will have to prove the reasons why they are not subject to the ESR. In the event of non-compliance, these would be treated as normal licensees. Non-exempt entities will have to submit the ESR notification within six months from the end of the relevant financial years, and if they earn relevant income, they will have to comply with the ESR test and also submit the corresponding report within twelve months. months from the end of the accounting years concerned.
The term relevant income means all gross income from a relevant activity that is recorded in the books and records of the licensee or the licensee exempted under the accounting standards, whether earned in the UAE or outside. of the UAE and whether or not the entity has derived profit or loss from its activities. In the context of sales or service revenue, gross revenue refers to gross sales or service revenue without deducting cost of goods sold or cost of services.
The word relevant activity designates one of these nine activities. Such as the business of (i) banking business, (ii) insurance business, (iii) investment fund management business, (iv) leasing business, (v) head office business, (vi ) maritime transport activity, (vii) holding company activity, (viii) intellectual property activities and (ix) activities in the distribution and services sector.
It is recommended that you assess your business based on the above criteria to determine whether your entity is subject to ESR or not. Entities that do not engage in relevant activities, but whose business license engages in relevant activities, it is strongly recommended that such entities submit notification within the specified time frame to avoid penalties.
Mahar Afzal is Managing Partner at Kress Cooper Management Consultants. The above is not an official but personal opinion of the author. For any questions/clarifications, please write to him at [email protected]