Yann Mrazek, TEP, Managing Partner Dubai office, Cramer-Salamian, United Arab Emirates
With recent changes to Tax Residency and the Competion Law, Yann Mrazek, Cramer-Salamian highlights why the UAE is considered one of the favoured middle eastern jurisdictions for investors.
The UAE is a peaceful country with a stable government that is working tirelessly to stimulate its economy, attract investment, and encourage the development of tourism, retail and banking through modern regulations that follow the best commercial and business practices.
If this alone did not constitute sufficient reasons to consider the UAE as an investment destination, the fact that the majority of companies and individuals pay no taxes at all should. Whilst maintaining its famous tax free framework, the local authorities are constantly taking measures to improve the environment for investors. As an example, the UAE is particularly proactive in pursuing new double tax agreements with foreign countries. It recently also introduced a Competition Law and new regulations in respect to housing mortgages.
The Swiss-UAE Treaty
The recently ratified Swiss-UAE treaty for the avoidance of double taxation (DTT) has established the UAE as the go-to jurisdiction for investments from the Gulf region into Switzerland and vice-versa. The DTT offers great opportunities for both nations and their residents.
The DTT is patterned on the OECD Model Convention on Income and Capital, although it only covers income taxes. It has provisions allowing for the two countries to exchange information in accordance with OECD standards, however, there are deviations from the OECD Model, which are mainly motivated by the need to avoid persons abusively obtaining benefits from the DTT while taking advantage of the UAE’s nil-tax regime.
For instance, individuals are not considered as residents of the UAE if they only have their domicile in the jurisdiction; they must also have a “substantial presence” in the country, which is evidenced when the person spends most of their time in the UAE and has close ties (family, social and professional) with the UAE. Pensions and retirement benefits remain taxable in the state where they arise, differing from the OECD Model under which “pensions and other similar remuneration” are taxable only in the State of residence of the beneficiary.
The DTT noticeably provides key benefits to those investing in Switzerland from or through the UAE, as there is a reduction of Swiss withholding tax from 35 per cent for non-treaty countries to five per cent for corporate shareholders with a participation of at least 10 per cent. All other shareholders have a reduction in tax to 15 per cent. Beside reduced rates of Swiss withholding tax, any dividends that a UAE stakeholder receives from the Swiss company is not subject to corporate income tax in the UAE. In addition, no withholding tax applies in the UAE on dividends paid by UAE companies, regardless of the country of residence of the recipient.
It must however be kept in mind that benefits of the DTT are not granted automatically. On the one hand, there are safeguards aimed at tackling abuses in place in the DTT, on the other, Switzerland has a battery of anti-abuse rules and practices. All those rules may actually deprive a person meeting the formal requirements of the DTT from the benefits of the same.
Anti-abuse rules in the treaty may broadly be divided into two categories: classic anti-abuse provisions that are also found in the OECD Model – making sure the recipient of the Swiss income is an effective resident of the UAE – and anti-abuse rules that are specific to the DTT – reducing the risk that persons who would otherwise not be entitled to treaty benefits establish an artificial presence in the UAE in order to abusively benefit from the treaty.
Swiss anti-avoidance rules may also deprive a person meeting the requirements of the DTT from the benefits of the tax treaty. For instance, under Swiss tax law, affiliated companies may transact business and incur tax deductible expenses with each other. As a general rule, any commercially justified expense incurred by a Swiss company is tax deductible, regardless of the relationship between the service provider and the Swiss recipient of the service. Therefore, if a UAE company provides any type of services to a Swiss affiliated company, the latter may pay a fee for those services. Such fee would be deductible from the Swiss company’s taxable profit and would not be taxed in the hands of the UAE beneficiary. Such a setting up may generate important tax savings, at least as long as the remuneration paid to the UAE entity does not differ from what would have been agreed among unrelated parties. Where the remuneration is higher than it would be if the service was provided by a third party, the excess is not allowed as a deduction, but re-characterised as a dividend (transfer pricing rules).
Another Swiss domestic anti–abuse provision may apply when the Swiss taxpayer sets up a wholly-artificial, unusual structure or transaction with the main objective of avoiding or mitigating Swiss taxes. In such cases, Swiss tax authorities may apply the abuse-of-law doctrine with the result that the artificial and unusual measures taken by the taxpayer are disregarded and taxes assessed based on a ‘substance-over-form-approach’.
Change of Practice in Respect to Tax Residence Certificate
A Tax Residence Certificate is the core document for whomever – individual or corporate entity – wishes to take advantage of a double taxation avoidance treaty between the UAE and a foreign jurisdiction. It is issued by the UAE Ministry of Finance and evidences the applicant’s status as a UAE resident.
Tax Residence Certificates are no longer issued for offshore companies registered in the UAE as the latter are considered non-resident corporate entities for tax purposes.
The Tax Residence Certificate can only be sought in respect to a country with which the UAE has a DTT in place.
New Competition Law
For a long time the UAE had been concerned with its lack of competition rules which made the jurisdiction subject to eventual abuse of dominant position and economic concentration by some groups, including those with operations worldwide, but complying with competition laws only in other locations where regulations were in place.
As of 10 February 2013, when Law No. 4 of 2012 (‘the Law’) came into force, all companies with operations or providing services and products to the UAE must ensure their compliance with its provisions. A good reason for observing the Law is that the penalties may vary from AED10,000 to AED5,000,000, or based on a percentage of annual sales in case economic concentration transactions are identified.
The Law also applies to the exploitation of intellectual property rights and to business outside the UAE that may have an impact on the competition inside the country. Mergers and acquisitions, franchising, distribution and intellectual property licensing contracts fall under the scope of the Law provided there is a link with the UAE.
The Law will force companies, legal practitioners and judges to find a new approach to the way business is undertaken, particularly because the concepts of economic concentration and dominant position are totally new in the UAE. It is debatable whether the Law will directly affect family businesses as these are not specifically addressed in the Law.
The Law aims to provide a stimulating environment for companies in order to enhance efficiency, competitiveness and the interest of consumers, and to achieve sustainable development. It further aims to keep a competitive market governed by mechanisms in accordance with market freedom principles through the banning of restrictive agreements, business and actions that lead to the abuse of a dominant position, economic concentration and avoidance of any behaviour that may prejudice, limit or prevent competition.
Dominant position in a specific sector will no longer be tolerated in the UAE and any corporation abusing such a position and limiting or preventing competition by other players, may suffer serious consequences. Some typical examples falling foul off the Law are the imposition of prices in the reselling of goods; selling goods for extremely low to avoid others to compete; or obliging clients not to deal with a competitive company.
The Law, however, gives a large discretionary power to the UAE Ministry of Economy, which may, upon request, approve agreements, mergers and acquisitions and transactions if the positive impact on the economic development of the country supersedes the potential negative consequences.
There is no doubt that the Law will have an impact on any business operations in the UAE outside of sectors such as telecommunications, finance, gas, water and electricity, which fall under their own regulation and are not covered directly by the Law.
The UAE Central bank recently announced that it is planning to cap mortgage lending for residential property. In view of strong protests from the commercial banks in the jurisdiction, the Central Bank issued a notice informing that it will welcome the feedback of all financial institutions before issuing the formal regulation.
This is certainly a good move, as the housing mortgage industry is a fundamental pillar driver of the economy. It is anticipated that the Central Bank will revise its fairly radical position before issuing a comprehensive regulation.
It has recently been reported that the authorities may ease restriction for foreign investors, by removing the current requirement for a local partner to own 51 per cent of a local company where other GCC (Gulf Cooperation Countries)’s citizens are partners. A Committee has been formed to study such a change.
This move comes almost at the same time as the long awaited enactment of the New Company Law, which is expected to introduce exceptions to the 51 per cent mandatory local shareholding favouring non-GCC nationals. It is currently anticipated that such exceptions will be limited to specific sectors and subject to several criteria, among which the guarantee of a minimal foreign direct investment.
Neither do the above mentioned developments will impact upon companies incorporated in one of the many UAEs free zones, where 100 per cent foreign shareholding is permitted.
 The UAE has currently 57 double taxation avoidance agreements with foreign jurisdictions.
Yann Mrazek, TEP, Managing Partner Dubai office, Cramer-Salamian, United Arab Emirates