What is Qualifying Income under UAE Corporate Tax?

The Ministry of Finance and the Federal Tax Authority (FTA) jointly introduced a 9% corporate tax system in the UAE in June 2023. Freezone businesses only have 0% corporate tax if they are QFZPs (Qualified FreeZone Persons). To be a QFZP, one has to meet certain criteria outlined by the Federal decree law of corporate tax. Business revenue must come under the Qualifying income regulations of CT law to get tax exemption in the UAE. In this article, you can get detailed information regarding Qualifying Income in the UAE.  

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What is Qualifying Income in UAE?

Qualifying Income refers to profits earned by businesses operating within designated Free Zones subject to a 0% tax rate. This benefit applies to income generated through specific activities, including transactions with other Free Zone businesses and certain qualifying activities with non-Free Zone entities. There are also exclusions, so not all Free Zone income qualifies for the tax exemption.

Categories of Qualifying Income in UAE

The following four income source categories are considered qualifying income and eligible for a 0% corporate tax rate. 

Category 1: Transactions Within the Free Zone

• Income from business dealings with other Free Zone companies, excluding those involved in "Excluded Activities."
• To qualify, the other company must be the true beneficiary of the goods or services.

Category 2: Qualifying Activities with Non-Free Zone Entities

• Income earned from specific "Qualifying Activities" conducted with companies outside the Free Zone, as long as these activities are not listed under "Excluded Activities."

Category 3: De Minimis Income

• Other income sources fall under the "de minimis" threshold, a minimal amount set by regulations.

Category 4: Incidental Income

• Any income earned from any source, as long as it's considered minor and supplementary to income from Category 1 or 2.

Also read: Corporate tax applicable for freezone companies

What are the Qualifying and Excluded Activities?

According to Ministerial Decision No. (139) of 2023, the following are the qualifying and excluded business activities that determine your income and whether it qualifies for a 0% tax rate. 

Qualifying Activities

• Manufacturing of goods or materials
• Processing of goods or materials
• Holding of shares and other securities
• Ownership, management and operation of ships
• Reinsurance services (regulated by UAE authorities)
• Fund management services (regulated by UAE authorities)
• Wealth and investment management services (regulated by UAE authorities)
• Headquarters services to related parties
• Treasury and financing services to related parties
• Financing and leasing of aircraft (including engines and components)
• Distribution of goods for resale, processing, or alteration
• Logistics services
• Any activities supporting the listed Qualifying Activities

Excluded Activities

• Transactions with individuals (except ship ownership, fund/wealth management, and distribution/logistics)
• Banking, insurance, and finance/leasing activities (unless regulated and permitted)
• Owning or exploiting immovable property except commercial property within the Free Zone for transactions with other Free Zone Persons.
• Owning or exploiting intellectual property assets
• Any activities supporting the listed Excluded Activities

If your income is derived from the excluded activities, it is considered taxable income subject to the standard 9% corporate tax rate.

Impact of Permanent Establishments on Qualifying Income for QFZPs

Any income derived from the domestic or foreign permanent establishments of the freezone business will not be considered Qualifying Income, and will be taxed as if it belongs to a separate and independent person related to the Qualifying Free Zone Person.

Qualifying Income from Immovable Property

Consider the following to know whether the income derived from immovable property is qualifying income or not.

• Location: The property must be located inside the Free Zone (QFZP).
• Designation: The property must be classified as commercial property.
• Source of Income: The income must originate from a Free Zone Person.

Restrictions on Qualifying Income from Property

• Non-Free Zone Person Income: Income from a commercial property within the Free Zone but derived from a Non-Free Zone Person is excluded.
• Non-Commercial Property: Income from any non-commercial property, regardless of location within the Free Zone or the origin of the income, is excluded.
• Property Outside Free Zone: Income from any property (commercial or non-commercial) located outside the Free Zone is excluded.
• Hospitality Properties: Income from hotels, motels, bed and breakfasts, and serviced apartments is specifically excluded, regardless of other criteria. This income is subject to the standard tax rate of 9%.

What is the De Minimis Rule?

Qualifying Free Zone Persons (QFZPs) can enjoy a 0% tax rate on their Qualifying Income. However, they can earn some income that doesn't qualify for the 0% rate as long as it stays within certain limits. The de minimis rule defines these limits.

• Threshold: A QFZP's total non-qualifying income is limited to 5% of its total revenue or AED 5 million (whichever is lower).
• Non-Qualifying Income: 
• Revenue from activities listed as Excluded Activities.
• Revenue from activities that aren't considered Qualifying Activities, but the other entity involved is a Non-Free Zone Person.
• Excluded from de minimis calculation: The following income types do not count towards the non-qualifying income limit:
• Income from renting commercial property within the Free Zone to Non-Free Zone Persons.
• Income from any non-commercial property within the Free Zone (regardless of the tenant).
• Income from the QFZP's own domestic or foreign permanent establishments.

If the de minimis threshold is exceeded, the Free Zone Peron's status as a QFZP will be lost. This means the Free Zone Person's income will be taxable and taxed according to Article 3 (1) of the CIT law. An income lower than AED 375,000 is taxable at 0%, while it is taxed at 9% if it is above the threshold. 

Conclusion 

In summary, Qualifying Income in the UAE refers to profits earned by Free Zone businesses that enjoy a 0% corporate tax rate. This applies to specific activities within the Free Zone, qualifying activities with non-Free Zone entities, and limited amounts of non-qualifying income. However, income from excluded activities, non-commercial properties, or outside the Free Zone is taxable at the standard 9% rate. Understanding these categories and the de minimis rule is crucial for Free Zone businesses to optimize their corporate tax benefits.

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