Introduction
The UAE has introduced a corporate tax regime that applies to all resident persons, which are juridical persons that are incorporated or registered in the UAE or have their place of effective management in the UAE. If a person’s taxable income is AED 375,000 or less, they are not subject to any corporate tax. However, for income exceeding this threshold, a 9% tax rate is applicable. The taxable income is determined by adjusting the accounting net profit (or loss) as stated in the financial statements of a business according to the rules issued by the Ministry of Finance.
Adjustments to the Accounting Income for calculating the Taxable Income
When calculating taxable income for corporate tax purposes, the accounting income is subject to certain adjustments as outlined in the Corporate Tax Law. These adjustments are made to ensure that the taxable income aligns with the financial statements and applicable accounting standards.
Realised and Unrealised Gains/Losses: Any realised or unrealised gains or losses reported in the financial statements that would not be subsequently recognised in the statement of income are included in the calculation of taxable income. This adjustment ensures that all relevant gains and losses are accounted for.
Replacement of Equity Method of Accounting: If the equity method of accounting is applied, adjustments are made to replace its effect with the effect of the Cost Method of accounting as permitted under the Accounting Standards. This adjustment ensures consistency in the treatment of equity investments for tax purposes.
Realisation Basis Election for Gains/Losses: If a taxable person elects to consider gains and losses on a realisation basis, additional adjustments are made for assets and liabilities under this provision. These adjustments include:
- Exclusion of Depreciation, Amortisation, and Value Changes: In cases other than upon realisation, any depreciation, amortisation, or change in the value of the asset (excluding financial assets) is excluded from the adjustment amount if it exceeds the original cost of the asset. Similarly, changes in the value of a liability or a financial asset are excluded, except when calculating the gain or loss upon realisation.
- Inclusion of Previously Unrecognized Amounts: Upon the realisation of an asset or liability, any amount not previously recognised for corporate tax purposes, as per the aforementioned adjustments, is included. However, amounts arising before the most recent acquisition not subject to specific provisions of the Corporate Tax Law are excluded.
Adjustments for Transactions with Related Parties
When there is a transfer of assets or liabilities between related parties, such as the Parent Company and its subsidiaries or companies under common control, the taxable income of both parties should be adjusted to reflect the market value of the assets or liabilities transferred. This is to prevent any manipulation of taxable income through artificial or transactions that do not follow the arm’s length principle.
The market value is defined as the amount that would have been paid by an independent party in an arm’s length transaction under similar circumstances.
Adjustment to be made by transferee in case of transfer of asset or liability between Related Parties
There can be two situations:
- Where consideration paid exceeds Market Value
- Where consideration paid is lower than Market Value
Where consideration paid exceeds Market Value
In cases other than upon realisation of asset or liability:
- exclude any change in value of asset or liability,
- to the extent adjustment amount relates to change in value (Net Book Value- Market Value) of the asset or liability.
In cases of realisation of asset or liability:
- include any amount,
- Which is (Net Book Value- Market Value) and used by the transferee for calculating gain or loss.
Note: “Change” here refers to Depreciation, Amortisation or any other change that brings about a change in the value of the asset or liability, as maybe the case
Where consideration paid is less than or equal to the Market Value
In cases other than upon realisation of asset or liability:
- exclude any change in value of asset or liability,
- to the extent adjustment amount relates to change in value (Net Book Value- Market Value) of the asset or liability.
In cases of realisation of asset or liability:
- reduce any amount of gain ,
- Which is (Net Book Value- Market Value) other than any net amount not included in Taxable Income as calculated above.
Adjustments for Transfers Within a Qualifying Group
When there is a transfer of assets or liabilities within a Qualifying Group, that is not a Tax Group, the taxable income of both parties should be adjusted to defer any gains or losses arising from the transfer until the assets or liabilities are transferred outside the qualifying group.
- In cases other than upon realisation,
the transferee shall exclude any depreciation, amortisation or other change in the value of an asset or a liability, to the extent that it relates to a gain or loss that arose to the transferor that has not been recognised as a gain or loss under the application of Article (26)(1) of the Corporate Tax Law.
- Upon the realisation of an asset or a liability,
to include any amount that has not been recognised for Corporate Tax purposes (as calculated above) and Article (26) of the Corporate Tax Law, other than any such amount that arose prior to the most recent acquisition where Article (26)(1) of the Corporate Tax Law did not apply.
Adjustments for Business Restructuring Relief
When there is a transfer of assets or liabilities as part of Business Restructuring, such as mergers, acquisitions, spin-offs, or liquidations, the taxable income of both parties should be adjusted to exclude any gains or losses arising from the transfer if certain conditions are met as mentioned under Article 27.
- In cases other than upon realisation,
the transferee shall exclude any depreciation, amortisation or other change in the value of an asset or a liability, to the extent that it relates to a gain or loss that arose to the transferor that has not been recognised as a gain or loss under the application of Article (27)(1) of the Corporate Tax Law.
- Upon the realisation of an asset or a liability,
to include any amount that has not been recognised for Corporate Tax purposes (as calculated above) and Article (27) of the Corporate Tax Law, other than any such amount that arose prior to the most recent acquisition where Article (27)(1) of the Corporate Tax Law did not apply.
Adjustments for Partners in Unincorporated Partnerships
When a partner in an Unincorporated Partnership receives income or incurs a loss from their share in the partnership, that is considered as part of Taxable Income of the Unincorporated Partnership, they should exclude that amount from their taxable income. This is because an Unincorporated Partnership is not a separate legal entity and its income or loss is taxed at the partner level.
Furthermore, the partner shall also exclude any gains or losses incurred on the transfer, sale, or any other form of disposal of interest of the Taxable Person in the Unincorporated Partnership, or any part thereof.
Adjustments on Deductions
Certain expenditures are deductible from taxable income if they meet certain conditions. These include:
- The expenditure is incurred wholly and exclusively for earning taxable income
- The expenditure is not derived from earning an Exempt Income
- Any loss that might have been incurred without any connection to the Taxable Person’s business
- Any expenditure that may be specified by the Minister.
In line with the above mentioned provision, find below the “other expenditures” that have been notified by the Minister which cannot be claimed as deduction under Chapter 9, while calculating Taxable Income of a Taxable Person. These shall be taken into account as “Adjustments” under Article 20(2)(i). Take note of the following:
- No deduction shall be allowed for depreciation, amortisation or other change related to capitalised expenditure, in case it is a revenue expenditure;
- Capital Expenditures not deducted, shall be deductible in calculation of gains or losses on realisation of asset or liability
Capital Expenditures refer to those expenditures which are treated as such under Accounting Standards applied by Taxable Person.
Conditions for Electing Realization Basis
A realization basis is a method of accounting that recognizes gains and losses only when an asset or liability is sold, exchanged, settled, or otherwise disposed of. A realization basis differs from an accrual basis, which recognizes gains and losses when they arise regardless of whether an asset or liability is realized.
A taxpayer can elect to recognize gains and losses on a realization basis if they meet certain conditions. These include:
- All assets and liabilities are subject to:
- Fair value; or
- Impairment accounting
- All assets and liabilities held on capital account
- Unrealised loss or gain from Assets and Liabilities held on revenue account
Realization of Assets or Liabilities
A realization of an asset or liability occurs when there is a change in ownership or control over an asset or liability that results in recognizing a gain or loss in accordance with accounting standards.
However, certain transfers are not considered as a realization of assets or liabilities for corporate tax purposes. These include:
- Transfers between Members of a Qualifying Group which is not a Tax Group
- Transfers as part of Business Restructuring by a Taxable Person to another (either a Taxable Person or shall become a Taxable Person after such transfer)
It is to be noted that:
- “Realization of assets” shall refer to the sale, disposal, transfer, other than the transfers mentioned above, settlement and complete worthlessness of an asset.
- “Realization of liabilities” shall include, but not be limited to, the settlement, assignment, transfer, other than the transfers mentioned above, and forgiveness of a liability.
Conclusion
The Ministerial Decision on General Rules for Determining Taxable Income provides crucial insights into the necessary adjustments required for determining the correct Taxable Income. These Articles cover various transactions, including gains and losses in financial statements, transactions with related parties, transfers within qualifying groups, business restructuring relief, and partnerships. By adhering to these guidelines, taxpayers can ensure compliance with the Corporate Tax Law and accurately determine their taxable income. It is essential for businesses and individuals to familiarize themselves with these Articles to navigate the complexities of accounting adjustments and taxation effectively.
