Exempt Income under Corporate Tax

EXEMPT INCOME IN THE UAE

Exempt income refers to the type of income that is not subject to income tax. There are several forms of income that are not subject to either state or federal income taxes.

The IRS decides which forms of income are exempt from paying federal income tax as well as the conditions surrounding each exemption. What constitutes exempt income is governed by state-specific regulations.

Businesses must comprehend the essential components of the system. Including the exempt income, as the UAE Corporate Tax is set to go into force on June 1st, 2023.

People must be aware that the proposed tax system will exclude some types of income from taxes to prevent instances of double taxation. The following types of revenue will not be subject to corporate taxation:

• Dividends and Capital Gains Income
• Foreign Branch Profit
• Income earned by non-resident operating aircraft or ships used for international transport (assuming the foreign jurisdiction provides the same exemption)

1. DIVIDENDS AND CAPITAL GAINS INCOME

Dividends received and capital gains made from the sale of shares of a subsidiary company by a UAE shareholder company are typically exempt from corporate tax.

This is done to prevent double taxation. It occurs when a company is first taxed on its income before it is later taxed when the profit is distributed or when the shares are sold.

The following exchanges would be exempt:

• Dividends received from domestic enterprises in the UAE
• The dividends received from businesses in the free zone
• Dividends received from international businesses (provided additional conditions are met)
• Sale of UAE company shares (provided additional conditions are met)
• The Sale of foreign company shares (provided additional conditions are met)
• Sale of free zone holding company shares (provided additional conditions are met)

A. DOMESTIC DIVIDENDS RECEIVED FROM UAE-BASED BUSINESSES

The entire domestic dividend income received from UAE firms will be exempt from UAE corporate tax. Including dividends paid by Free Zone People who take advantage of the 0% corporation tax system.

B. DIVIDENDS PAID BY FOREIGN COMPANIES

Corporate tax will not apply to foreign dividends or capital gains from the sale of shares of foreign or UAE-based enterprises.

Subject to a few restrictions, the UAE's corporate tax system will exclude dividends paid by foreign corporations as well as capital gains on the sale of shares in both UAE-based and overseas corporations.

THE FOLLOWING REQUIREMENTS MUST BE MET:

• In the UAE, shareholder businesses are required to possess at least 5% of the shares of the subsidiary company.
• The foreign subsidiary must have a corporate tax (or a tax that is equivalent to a corporate tax) of at least 9% to qualify for the participation exemption.
• This requirement is in place to prevent income from being transferred to a subsidiary in a nation with little or no taxation.

C. GAINS ON THE SALE OF SHARES IN A PERSON IN A FREE ZONE

Capital gains on the disposal of shares in the Free Zone Person will be free from corporation tax if a Free Zone Person is a holding company and substantially all of its revenue is derived from shareholdings in subsidiary firms that fulfill the participation exemption rules listed below:

• A minimum of 5% of the subsidiary company's shares must be owned by the UAE shareholder.
• The subsidiary jurisdiction is required to impose a corporate tax, or an equivalent, at a minimum rate of 9%.

2. EXEMPTION FOR FOREIGN BRANCH PROFITS

In this situation, the UAE enterprises have two choices either chose to claim an exemption for their overseas branch profits or choose to claim a foreign tax credit for taxes paid in the foreign branch jurisdiction.

All international branches of the UAE corporation will be subject to the irrevocable choice to claim a foreign branch profit exemption.

Moreover, if the foreign branch is not subject to a substantial enough level of tax in the foreign jurisdiction where it is located, it is not possible to take use of the exemption for foreign branch earnings.

3. INCOME EARNED BY NON-RESIDENTS OPERATING AIRCRAFT OR SHIPS USED FOR INTERNATIONAL TRANSPORT

The revenue generated by a non-resident who operates or leases ships or aircraft (and related equipment) utilized in international transportation shall be given the exempt status.

There are several aircraft and shipping businesses based in the UAE. A non-resident who operates or leases ships, airplanes, or other items used in international transportation is not subject to tax under UAE corporate tax legislation.

In addition, this exemption is only allowed in accordance with the reciprocity principle if a UAE firm receives the same tax treatment in the nation where the non-resident operator is a tax resident.