The UAE’s implementation of the Economic Substance Regulations (ESR) has become vital for businesses operating within its jurisdiction. The ESR ensures fair economic practices and compliance with international standards. The ESR applies to entities engaged in Relevant Activities such as banking, insurance, and investment fund management. Businesses must undergo ESR compliance phases, including ESR notification, testing, and reporting. Compliance with ESR not only ensures transparency and credibility but also helps businesses avoid penalties and reputational risks. Partnering with experts in ESR compliance is essential for businesses in the UAE’s global business landscape.
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In recent years, the UAE has established itself as an international economic hub, attracting businesses from around the world. As part of its commitment to international standards, the UAE implemented the Economic Substance Regulations to ensure fair and transparent economic practices within its jurisdiction. Economic Substance Regulation compliance has become increasingly important for businesses operating in the UAE, regardless of their size or industry. In this article, we will explore the significance of Economic Substance Regulation compliance and other key factors that highlight its importance in the UAE.
What is the background of the ESR in the UAE?
The Economic Substance Regulation was introduced by the UAE government to demonstrate its membership in the Organization for Economic Co-operation and Development (OECD) and as a response to the evaluation of the tax environment by the European Union (EU).
The UAE implemented the Economic Substance Regulation to comply with the standards of profit shifting and base erosion. It was enacted on 30 April 2019 to ensure that UAE companies are not used for the purpose of attracting profits that do not align with the economic activity they carry out within the UAE.
What activities fall under the scope of the ESR?
- Banking
- Shipping
- Insurance
- Lease-Finance
- Headquarters
- Holding Companies
- Intellectual Property
- Investment Fund Management
- Distribution and Service Centers
Entities engaged in Relevant Activities must comply with the Economic Substance requirements. However, entities that are directly or indirectly owned by the UAE government are exempt from the scope of Economic Substance.
What are the essential phases of ESR compliance for companies in the UAE?
There are three crucial phases of Economic Substance Regulation compliance that companies in the UAE must undertake:
ESR Notification
All businesses in the UAE are required to submit an Economic Substance Regulation Notification to the relevant regulatory authority. The businesses must inform the authority whether they are engaged in relevant economic activities in the UAE and earn income from those activities.
For example, a company operating in the Ajman Free Zone, Dubai, must file the UAE Economic Substance Notification with the Ajman Free Zone Authority (AFZA), the regulatory authority. If the business is found to be engaged in relevant activities, the UAE Economic Substance Regulations are applied, and the business must undergo the Economic Substance Test in the UAE.
ESR Test
After submitting the Economic Substance Regulation Notification, businesses must undergo the UAE Economic Substance Regulation Test to demonstrate appropriate economic substance in the relevant activities they carry out within the UAE. During the ESR Test, businesses in UAE free zones or mainland must demonstrate:
- Being managed and controlled in the UAE
- Having an adequate number of full-time employees to conduct the Core Income-Generating Activities (CIGA)
- Incurring operational expenditure to conduct the CIGA
- Possessing physical assets to conduct the CIGA
- Conducting the Core Income-Generating Activity (CIGA) within the UAE
- Failure to demonstrate sufficient Economic Substance in the UAE during the Economic Substance Regulation Test may result in hefty fines and other consequences.
ESR Reporting
Once businesses have validated suitable economic substance in the Economic Substance Test, they must submit the Annual Economic Substance Regulation Report to the regulatory authority. The UAE Economic Substance Reporting should include details related to:
- Relevant Economic Activity
- Income
- Expenses
- Assets
The report must state whether the economic substance test has been fulfilled or not. The Annual Economic Substance Regulation report must be submitted within 12 months of the end of each financial year. The Economic Substance Regulation report must be prepared to comply with the mandatory standards as it will impact the operations of the business in the UAE. Therefore, the assistance of efficient Economic Substance Regulation service providers in Dubai may be required.
The Annual ESR report must include the following information regarding the Relevant Activity:
- The type of activity conducted.
- Amount and type of operating assets and expenses.
- Location of the business.
- Amount and type of income.
- Statement on whether the licensee satisfies the Economic Substance Regulation test.
- Number of full-time employees with qualifications.
- Information on Core Income-Generating Activity (CIGA).
- Entity’s financial year-end.
- Gross income from a Relevant Activity subject to tax outside the UAE.
Conclusion
Economic Substance Regulation compliance has become an essential aspect of conducting business in the UAE. Compliance with the Economic Substance Regulations not only ensures transparency and credibility but also helps businesses avoid penalties and reputational risks. As the UAE continues to strengthen its position as a global business hub, it is crucial for businesses to partner with experts in Economic Substance Regulation compliance. Economic Substance Regulations, a leading firm in the UAE, provides comprehensive guidance and support to businesses. Their team assists businesses in navigating the complexities of Economic Substance RegulationR compliance and maintaining a competitive edge in the evolving landscape of international taxation.