De Minimis Test: A Tool for Free Zone Businesses to Pay 0% Tax

The Non-Qualifying Income (NQI), of Qualified Free Zone Person (QFZP), if not exceeded the de minimis requirement, will be treated like a Qualified Income (QI) and will attract zero percent corporate tax.?The de minimis requirements shall be considered satisfied where the NQI derived by the QFZP in a tax period does not exceed five percent of the total revenue of the QFZP in that tax period or five million dirhams, whichever is lower.

While calculating the above-mentioned threshold, we cannot consider all related revenues, but specific rules have been given to calculate and apply the de minimis test.

Article 4(2)(a) of the Cabinet Decision No. 55 of 2023 (the Decision), states that NQI is the income derived from (i) excluding activities from transactions with free zone and non-free zone persons and (ii) non-qualifying activities where transactions are with non-free zone person. Article 4(2)(b) of the Decision describes that the total revenue includes all revenue derived by a QFZP in a tax period.

Article 4(3) of the Decision carrying exclusion of revenue while calculating the NQI and total income, and it defines that the revenue from the permanent establishment (domestic and foreign) of the QFZP and revenue from immoveable property shall not be included in the NQI and total income, but it will be subject to tax at nine per cent. However, the revenue from the free zone commercial property will be included in the total revenue where the property is being used exclusively for business purposes which is not being used for residential or accommodation purposes and transactions is with the other free zone person.

We can establish that de-minimis % of QFZP = NQI/Total Income*100%, where NQI is equal to Income from [(i) excluding activities plus (ii) non qualifying activities, where the transactions are with non-free zone person]; and total revenue is equal to all revenue except the revenue of (i) permanent establishment (domestic + foreign), and (ii) immoveable property unless the income from immoveable property is qualifying income.

For example, KCOBS Ltd (assuming KCOBS Ltd fulfilled all six conditions required to be classified as QFZP) is trading company registered in the JAFZA. KCOBS Ltd has sold goods to Mr. A in the JAFZA of Dhs 1m, and their sales to Jebbs Ltd, a SAIF Zone company, is Dhs 15m. KCOBS Ltd has sold goods to its UAE mainland branch of Dhs 7m, and their sales to their Bahraini branch is of Dhs 12m. The sales of KCOBS Ltd to UAE mainland distributor is Dhs 30m. KCOBS Ltd has sold JAFZA based office building to a UAE mainland party of Dhs 20m, and they sold another JAFZA based office to a JAFZA based company of Dhs 25m.?

In the above example, the NQI is Dhs 1m, and total income is Dhs 71m. Income derived from permanent establishments and sales of commercial property of Dhs 20m to non-free zone persons, have not been considered as they are taxable at nine percent. So, the NQI is 1.4% (1/71*100) of the total revenue, so we can establish, that KCOBS Ltd has satisfied the de minimis test, so their NQI of Dhs 1m will be considered QI, and it will attract zero percent corporate tax.

The “excluded activities” with few exceptions and conditions includes the activities with natural persons, banking activities, insurance activities, financing and leasing activities, ownership, or exploitation of immovable property (other than commercial property located in a Free Zone where the transaction in respect of such commercial property is conducted with other free zone persons) and intellectual property assets, and any activity that is ancillary to any of these activities.?

The “qualifying activities” conducted by QFZP includes the manufacturing and/or processing of goods or materials, holding of shares and other securities, ownership, management, and operation of ships. The services like reinsurance, fund management, wealth and investment management, and logistic services are part of the qualifying activities. If headquarter services, and treasury and financing services are being provided to related parties it will also fall under the qualifying activities. Financing and leasing of aircraft, including engines and rotable components, and distribution of goods or materials in or from a designated zone to a customer that resells such goods or materials, or parts thereof or processes or alters such goods or materials or parts thereof for the purposes of sale or resale. Any ancillary activity related to these activities except the ancillary activity of distribution of goods or materials in or from a designated zone, shall be considered qualifying activities. Out of these activities, some activities are subject to certain conditions.

QFZPs should calculate and apply the de minimis test very wisely, and where they are meeting the de minimis test, they should apply zero percent corporate tax on their NQI.

Mahar Afzal is a managing partner at Kress Cooper Management Consultants. The above is not an official opinion of the Khaleej Times but a personal opinion of the writer. For any queries/clarifications, please write to the writer at?[email protected]