The Ministry of Finance of the United Arab Emirates (UAE) announced on 31 January 2022 that it was introducing the first-ever corporate tax on business profits in the country’s history. As of 1 June 2023, taxable profits above Dh375,000 ($102,000) will be taxed at 9%.
For a country that has built its business community on a low to no-tax regime, the announcement represents a significant change in the way business will operate in the UAE.
The announcement has not come completely out of the blue, however, with the Ministry of Finance previously suggesting some sort of corporate tax scheme would be introduced in 2023, but no details had been released until now.
The new tax has been announced at a time when the UAE is riding a wave of foreign investment, having weathered the economic impacts of the Covid pandemic better than most countries.
So how much will this tax increase impact investment into the UAE and how does it change its international reputation?
International pressure on UAE over tax
In June 2021, members of the G7 reached an agreement in principle to introduce a global minimum corporate tax rate of 15%, which was subsequently signed off by 132 countries following a meeting of the G20 and the OECD the following month.
The provisional date for the introduction of this global corporate rate is 2023, although much still needs to be agreed about how exactly it will work, and the date could yet be pushed back.
Yet this historic agreement has put countries with low or no corporate tax rates on notice that they risk being outside the expected global norms, and could see credit ratings hit.
This initial tax rate of 9% in the UAE is lower than the proposed global minimum, although it would allow the country to reach 15% in stages rather than in one move, lessening the shock to local businesses.
With investment levels so high in the UAE, now is also a good time to introduce the tax.
Foreign direct investment (FDI) into the UAE far outstrips that seen in other Gulf nations, and Dubai’s open policy during the pandemic saw an increase in investment activity at a time when investment levels in other countries were retracting.
The Dubai Expo, which started in October 2021 and runs until March 2022, has further increased the volume of business travellers to the UAE. However, with more investors coming into the country, costs to residents and businesses have also been rising.
“It is not just prices that are going up, but daily traffic, rents and the value of real estate, and the costs of setting up company insurance is quite high,” says Dr Mazdak Rafaty, managing partner of UAE-based Ludwar International Consultancy and adviser to the joint Emirati-German Chamber of Commerce. “These are all indicators showing that the attractiveness of the destination is going up.”
A changing business culture
The introduction of a corporate tax is one of many ways the UAE is changing, fast. The government has a long-term goal of modernising the country's economy by diversifying away from a dependence on oil and gas, and is building its reputation as a tech and innovation hub.
The opening up of political and economic ties with Israel through the Abraham Accords, the first major overhaul of labour law in the UAE for more than 40 years, removing the requirement for a UAE national to own at least 51% of a UAE company, and changing the working week to Monday to Friday instead of Sunday to Thursday, are all signs of the UAE’s willingness to change its business culture and adhere to international norms.
Yet these rapid changes have been accompanied by an increase in the cost of living and doing business.
Only Qatar has a higher cost of living in the Gulf region than the UAE, according to data from Numbeo, and the country looks an increasingly expensive place to live in comparison with its neighbours. Back in 2012, Bahrain, Kuwait and Saudi Arabia all had higher costs of living than the UAE.
Business costs have also risen over recent years, not least following the 5% value-added tax that was introduced at the start of 2018.
Saudi Arabia’s economic vision looks to ape the UAE’s success and through its Project HQ initiative it hoped to push foreign companies to set up permanent in-country bases in Saudi Arabia. Saudi Arabia already has a corporate tax rate of 15%, although the introduction of a corporate tax in the UAE reduces a long-term advantage it has had over its neighbour.
Rafaty dismisses the notion, however, that this new tax rise would see investment diverted to Saudi Arabia. “I don’t think a foreign direct investor [in the UAE] would look at a 9% corporate tax and say: 'Let’s go to Saudi Arabia.' I don’t see that happening.
“[The two countries] are so significantly different, in terms of economic structure, domestic market, maturity, openness, attractiveness, and strategic planning and implementation.”
The finer details of the UAE tax rise still remain vague, however, and could be cause for investor concern. The Ministry of Finance suggests companies based in the UAE’s many free ports will be exempt from the new tax, although it is not clear if this exemption is permanent or applies to all businesses.
The Ministry of Finance said in its statement announcing the tax: “The UAE corporate tax regime will continue to honour the corporate tax incentives currently being offered to free zone businesses that comply with all regulatory requirements and that do not conduct business with mainland UAE.”
“Foreign investors are less worried about changes, as unprecedented as they may be, to taxation,” says Rafaty. “They are actually more worried about legal frameworks that have been in place but could be changed without warning.”
The importance of providing clarity to investors about how the tax will be implemented cannot be overstated, given how dependent the country's economy is on foreign companies and foreign workers.
A changing social contract?
Another issue raised by the introduction of the tax is what the proceeds will be spent on. By raising taxes in any country, the scrutiny on the public spending that is funded by that tax revenue increases.
“This corporation tax adds more expenses to the daily life of companies, and particularly small entrepreneurs,” says Rafaty. “How are you going to justify that? What services will you provide in return?”
This could be a particularly pressing issue for foreign residents working for foreign companies, who have long accepted fewer rights and freedoms than in Western economies in the UAE due to the low taxes on offer. As one side of that social contract is changed, it will impact expectations on the other.
The way FDI has grown in the UAE in recent years, despite the Covid pandemic, has put the UAE in a strong position to introduce this tax, but questions remain about how the country intends to structure its tax system in the long term, and what consequences higher taxes will have on those living in the UAE.