The European Union Code of Conduct Group has assessed the tax frameworks of many jurisdictions. Eventually, those with harmful tax policies will be included on the list of non-cooperative jurisdictions. That’s why the United Arab Emirates (UAE) has issued its economic substance regulations.
As a member of the UAE, RAK has also implemented economic substance rules (which follow the regulations of the UAE). In particular, certain entities must prove their economic value by satisfying some tests. They also need to submit reports to the local regulatory authorities.
Table of Contents
1. Scope of RAK Economic Substance Requirements
RAK economic substance (ES) regulations apply to “Licensees”. They are defined as business entities (unincorporated partnerships included) that are registered with the authorized corporate registry in RAK (such as RAK International Corporate Centre – RAKICC) and conduct one of the following relevant activities:
- Banking business
- Insurance business
- Investment fund management business
- Lease-finance business
- Headquarter business
- Shipping business
- Holding company business
- Intellectual property business
- Distribution and service center business
Some of the most common examples of licensees are:
- Limited liability companies;
- Private companies limited by shares;
- Public companies limited by shares;
- Joint venture companies; and
The following are NOT considered licensees:
- Natural person;
- Sole proprietorship;
- Trust and foundation.
2. Details of RAK Economic Substance Requirements
All licensees under the ES regulations must prove they bring economic value to the jurisdiction by satisfying the economic substance test. They also need to submit an annual Notification form and ES report to their relevant Regulatory Authorities.
2.1. Economic Substance Test
Holding company business is subject to a reduced test, meanwhile, high-risk IP businesses must comply with a stricter test. The rest of the relevant licensees are subject to the general one.
General economic substance test
A licensee must satisfy the following test:
- The licensee and relevant activities are directed and managed in the UAE (*);
- The Core Income Generating Activities (CIGAs) are conducted in the UAE (**); and
- The licensee has enough employees, physical assets, and expenditure in the UAE.
(*) To be considered directed and managed in the UAE, a licensee must have enough board meetings in the UAE. Each meeting must satisfy the following criteria:
- A minimum number of directors must be physically present in the UAE;
- Meeting minutes must be maintained in the UAE; and
- The attending directors must have adequate related skills and expertise.
(**) Each relevant activity has a different set of GIGAs. Click here for details.
A licensee can still satisfy the ES test even if it outsources its business activities to a third party as long as:
- The third-party conduct the activities in the UAE;
- The third-party has adequate employees and physical assets in the UAE;
- The licensee is still directed and managed in the UAE and proves its control over the outsourced activities.
Economic substance test for holding company business
Under the ES regulations, holding company business is defined as a business which:
- Only holds equity in other companies or entities; and
- Only earns dividends and capital gains as income.
An entity that holds other kinds of assets or earns other kinds of income is not considered a holding company business under ES regulations.
A holding company business must satisfy the following reduced test:
- It complies with all the existing compliance requirements under the applicable regulations; and
- It has adequate employees and physical assets to perform the activity.
It is not required to demonstrate adequate expenditure and management control in the UAE.
Economic substance test for high-risk IP business
When an intellectual property (IP) business is considered high-risk, it is subject to a stricter test.
A licensee is a high-risk IP business when:
- It does not create its intellectual property;
- It acquires an IP asset in consideration for funding research and development by another party located in another foreign country, or gets it from a connected party; and
- It licenses the asset to at least one connected party or gains income from the asset as a result of activities conducted by connected foreign parties.
A high-risk IP business must satisfy the general test at first, and further meet the following requirements:
- It has a high degree of control over the development, exploitation, maintenance, protection, and enhancement of the IP Asset; and
- It has to submit additional proof and documents(***).
(***) These documents must demonstrate that:
- The licensee has adequate full-time employees with the necessary qualifications who permanently reside and perform their activities in the UAE;
- It has a business plan showing the reasons for holding the IP in the UAE; and
- Relevant decision-making has taken place in the UAE.
2.2. Economic Substance Reporting
All licensees have to submit to their relevant Regulatory Authorities:
- An annual Notification form within 6 months after the end of a financial year; and
- An ES report within 12 months after the end of the financial year.
Regulatory Authorities in RAK include:
- RAK International Corporate Centre (RAK ICC);
- Ras Al Khaimah Economic Zone (RAK EZ); and
- RAK Maritime City.
How to file
Licensees submit the Notification and ES report electronically on the new UAE Ministry of Finance Portal. If they have already submitted directly to the local authorities, they need to re-submit the documents on the portal.
Overall, in the ES report, a licensee will need to include the following information:
- The relevant activity;
- The amount and type of earned income in relation to the relevant activity;
- The amount and type of expenses in relation to the relevant activity;
- The UAE-based assets used for the relevant activity;
- The number of full-time local employees with sufficient qualifications who carry out the relevant activity;
- Other requested details.
For high-risk IP businesses, they must submit additional information:
- The details of qualifications, experience, and contracts of full-time employees who permanently reside and perform the relevant activities in the UAE;
- A business plan showing the reasons for holding IP assets in the UAE; and
- Evidence of decisions made in the UAE.
3. Exemptions from RAK Economic Substance Requirements
The ES regulations are not imposed on the following licensees:
- Licensees that are non-UAE tax residents;
- Investment funds and their underlying Special Purpose Vehicles or investment holding entities;
- Business operating only in the UAE that is fully owned by UAE residents and not a part of any multinational group;
- Branches of foreign entities whose all relevant income is subject to tax in foreign jurisdictions;
- Licensees that have not earned income from a relevant activity.
Still, these exempted licensees must submit a Notification form to claim their exemptions to the Regulatory Authorities. Attached to such a form must be sufficient evidence to back up the claim.
4. Penalties for Non-compliance
Failure to submit a notification would cost AED 20,000.
Failure to submit an ES report would result in:
- A fine of AED 50,000; and
- A failure to demonstrate economic substance.
The provision of insufficient or incomplete information would cause:
- A fine from AED 10,000 to 50,000; and
- A failure to demonstrate economic substance.
1st failure to demonstrate economic substance would result in:
- A fine of AED 50,000; and
- Information exchange with foreign authority where the parent company, ultimate parent company, and ultimate beneficial owner are located.
Continuous failures to demonstrate economic substance would cost:
- A fine of AED 400,000;
- Information exchange with foreign authority where the parent company, ultimate parent company, and ultimate beneficial owner are located; and
- Company suspension or strike-off.
- The economic substance requirements in RAK are based on the ES regulations of the UAE.
- Entities that conduct relevant activities (licensees) will need to satisfy the ES test as well as send a notification and ES report to their respective Regulatory Authorities (namely RAK ICC and RAK EZ).
- Entities that do not earn income from relevant activities and exempted entities are not required to meet the test and submit an ES report (still need to notify).
- Non-compliance would result in financial fines, information exchange, and company strike-off.
Should you have any concerns or queries about this matter, feel free to contact us for support.