The UAE Ministry of Finance recently announced that the UAE will introduce federal corporate tax (“FCT”) for financial years starting on or after 1 June 2023. This has implications for the real estate sector of the UAE.
In Brief:
- Income from real estate investments held by individuals in their personal name for personal use is likely to be exempt from federal corporate tax.
- Income from real estate assets held by individuals through corporate structures may be subject to corporate tax in relation to capital gains.
Key Features
While the FCT law has not yet been promulgated, the UAE Ministry of Finance has published a list of frequently asked questions (FAQs) about FCT on its website which gives insight on some key features of the FCT discussed below. It is important to note that the FAQs only provide a brief indication of what the FCT law may entail and are subject to change without prior notice. Therefore, they should not be relied upon for making business decisions but the FAQs certainly provide guidance, for planning purposes, in relation to the FCT regime. This article summarises key features of the FCT regime (based on information available to date) and discusses the potential impact on real estate investments.
FCT will be levied on the net income or profit of businesses. The taxable income will be the accounting net profit of a business (as reported in financial statements prepared in accordance with internationally acceptable accounting standards), after making adjustments for certain items yet to be specified under the FCT law. FCT at the rate of 9% will be levied on taxable income above AED 375,000. Taxable income below AED 375,000 will not be subject to FCT. A separate rate of FCT will be announced for certain substantial multinational companies. However, it is clarified that merely earning income outside the home country without a foreign presence or registration would not make an entity a multinational corporation.
FCT will apply to all UAE businesses and commercial activities, except for the extraction of natural resources, which will continue to be subject to local Emirate level corporate taxation (and not federal tax).
Activities undertaken by a commercial entity are likely to be deemed “business activities” which will be subject to FCT.
Applicability to individuals
Under the current announcement, FCT will not be levied on an individual’s salary or other employment income. Individuals will also not be subject to FCT on dividends, capital gains and other income earned from ownership of shares or other securities in their personal capacity. Individuals will also not be liable to pay FCT on interest and other income earned from bank deposits or saving schemes.
However, business income earned under a commercial license and income earned from activities carried out under a freelance license / permit will be subject to FCT.
Individuals should also consider how any personal income in the UAE may be treated under the tax regime in their home jurisdiction or where they may be deemed to be domiciled for taxation purposes.
Free Zones
Businesses established in a free zone will be subject to FCT and required to register and file a FCT return.
However, the FCT regime is likely to continue to honour the tax incentives currently being provided by free zones to free zone entities that comply with all regulatory requirements. Further information is awaited regarding the tax treatment of free zone entities that conduct business within mainland UAE.
Key Considerations from a Real Estate Perspective
Commercial activities in real estate subject to FCT
Any commercial or business activity conducted in connection with real estate, whether by an individual in their personal capacity or by a corporate entity, will be subject to FCT.
Businesses engaged in real estate management, construction, development, agency and brokerage activities will be subject to FCT.
Individual investments in real estate exempt from FCT
Income from real estate investments held by individuals in their personal name for personal use is indicated to be exempt from FCT. However, it remains to be seen whether the law will consider the ownership of multiple properties and leasing them out on a regular or ongoing basis as taxable on grounds that the same is a ‘commercial activity’. There are no indications at this stage whether the FCT law will create a distinction between properties used for residential use and those used for commercial purposes such as offices, shops, etc. for determining whether rental income solely from commercial properties could be subject to FCT.
Since dividend and other income earned by an individual from ownership of shares or other securities in personal capacity is exempt from the levy of FCT, income earned from investments made in real estate through crowdfunding platforms or REITs would appear to not attract FCT.
As regards foreign individuals, the FAQs simply state that FCT will generally not be levied on a foreign investor’s income from investment returns. For now, we can assume that the income earned by foreign individuals from real estate investments will also not be taxed under the FCT regime. It is possible that a special regime may be created for GCC nationals but there is currently no mention of the same in the FAQs.
Income earned by corporate entities from real estate investments subject to FCT
All activities undertaken by a corporate entity are deemed to be business activities and will be subject to FCT. This will include income from real estate investments owned by SPVs. It is possible that FCT will also be levied on capital gains from the sale of properties. This will have a significant financial impact on investors who have set up corporate structures to hold personal real estate assets.
Real estate assets held in freezones by freezone entities appear to be exempt from the FCT regime. However, assets held by such entities in the mainland may be subject to FCT, as they are likely to be viewed as conducting business onshore. It is also not clear whether the same policy will apply to freezone offshore entities. Further, it is unclear whether and how FCT will be levied on intra group transactions where certain entities within the group are incorporated in mainland UAE and the rest in freezones.
It also remains to be seen whether any exceptions or concessions will be carved out for foundations, trusts, non-profit organisations and charitable institutions. Similar exceptions could be made for donations, grants or gifts.
Conclusion
The FCT will have significant implications on real estate investments in the UAE.
While we await the enactment of the FCT law, it is probable that the law will undergo significant scrutiny as both lawmakers and businesses determine the most efficient way to organise and structure their activities from a tax perspective. Businesses and investors should be conservative in their interpretation of the FCT to ensure they are in compliance with the new tax regime and do not face any surprises. It is therefore advisable to seek legal and tax advice in relation to existing and future investments in real estate. Market participants may also require advice on structuring of business entities and investment vehicles, while also considering optimisation for tax and succession planning purposes.