Understanding the intricacies of withholding tax in UAE within the comprehensive scale of corporate tax is vital for adhering to the evolving tax laws of the country. The Federal Tax Authority, in December 2022, released a law specifying the obligations related to withholding tax within the legal framework of corporate tax in the UAE. This exhaustive guide will explain what is withholding tax, providing valuable insights and addressing queries concerning the withholding tax in UAE.
What is Withholding Tax in UAE?
Withholding tax is a portion of the employee’s income deducted at the source by the employer. The deducted amount serves as advance payment towards the annual income tax liability of the individual. Therefore, it is the primary responsibility of the employer to calculate the Withholding tax correctly and remit it to the tax authorities.
The Withholding tax from the corporate tax perspective applies to various incomes, such as dividends, royalties, interest, and other incomes, and usually affects cross-border payments.
Implications of withholding tax in UAE
The Ministry of Finance (MoF), in collaboration with the Federal Tax Authority (FTA), introduced Federal Decree-Law No. 47 on December 9, 2022, outlining the current guidelines governing corporate tax and withholding tax in UAE. According to the decree, withholding tax will be applied at 0% with effect from June 1, 2023, and the subsequentfinancial years.
At present, the following income sources fall under withholding tax exemptions:
- State-sourced income earned by a non-resident that is not attributed to its Permanent Establishment (PE) in the UAE.
- Transactions that are conducted through an onshore branch.
- Dividends or other profit distributions issued by a Free Zone Person to mainland shareholders.
- Any other income proposed in the Cabinet Decision by the Minister.
If any withholding tax is applied to the income, it should be reduced from the gross amount and paid directly to the FTA within the specified time limit.
Determining state-sourced income
Article 13 of the UAE corporate tax law specifies the details about the circumstances that determine UAE-sourced income.
- If the income is earned by a UAE resident
- If the income is earned by a non-resident, linked to a permanent establishment in the State of the individual
- The income generated from activities conducted, assets situated, investments made, rights utilized, or services provided or enjoyed within the country
The law also rolls out a non-exhaustive list of UAE-sourced incomes that are without any restrictions:-
- Income earned from the sale of goods and provision of services within the UAE.
- Income generated from the contract that is fully or partially performed or profited from the UAE.
- Income generated from the property in the country.
- Sale of shares of a resident.
- Income earned from intangible assets, such as intellectual property, from the UAE.
- Interest income and Insurance income (subject to conditions)
Implementing withholding tax in UAE: Primary Benefits
The implementation of withholding tax brings about numerous advantages for governments and businesses, offering financial stability and regulatory compliance.
- Regulatory Compliance Assurance: Withholding tax ensures that companies stay compliant with local laws and regulations and shields them from potential fines or penalties that may arise due to non-compliance.
- Enhanced Accountability: WTH promotes transparency and encourages tax adherence by holding non-residents liable for income earned within the UAE’s borders.
- Prevention of Double Taxation: The withholding tax system efficiently checks and collects taxes from non-residents, thereby preventing the risk of double taxation and related conflicts.
- Countering tax evasion: Withholding tax prevents tax evasion, thus contributing to additional revenue for the government and boosting financial sustainability.
- Employee incentives: Withholding tax is like an employee incentive where employers deduct taxes from their salaries and reward them with additional benefits, such as bonuses.
- Credits and refunds: If excessive tax is withheld over the fiscal year, the individual or the entity could be eligible for a refund of the excess amount, thus ensuring fairness and efficient tax collection.
- Tax treaty benefits: The UAE has signed tax treaties with several countries. This can help prevent the double taxation of the same income, significantly reducing withholding tax burdens for the individual or firm operating across borders.
- Simplified tax management: Withholding tax offers great flexibility to businesses, helping them manage their tax liabilities. Besides, the simplified tax collection lowers the administrative burden on the business as well as the government.
- Efficient cash flow: WTH facilitates enhanced cash flow management, allowing business owners to calculate and assess their tax liabilities effectively.
Withholding Tax vs Value-Added Tax in the UAE
The Withholding Tax and Value-Added Tax (VAT) are two significant tax systems that are prevailing in the United Arab Emirates. However, both these taxes are different in terms of implementation, scope, and business impact. Here are some of the key differences between VAT and Withholding tax in UAE –
Implementation:
VAT was introduced in 2018, whereas WTH was introduced earlier than that.
Scope of taxation:
The Withholding tax is levied on certain types of income in the UAE, whereas VAT is imposed on the sale of goods and services.
Method of collection:
WTH is deducted at the source of income, while VAT is added to the value of goods and services.
Responsibility of the taxpayer:
The VAT is collected by the company from the end consumer to whom the product is sold. On the other hand, businesses pay the withholding tax on behalf of employees and remit to the tax authorities.
Tax rates:
The VAT is fixed at a standard rate of 5%, whereas WTH varies depending on income type.
Registration requirements:
Registration for VAT is mandatory for businesses that exceed the specified threshold. However, withholding tax does not apply to most businesses.
Impact on Businesses:
The application of withholding tax directly affects income payments and cash flow of the businesses in the UAE, whereas VAT affects their pricing and profit margins.
How can you manage withholding tax obligations: Effective strategies
Here are some significant tips for managing withholding tax responsibilities:-
- Stay on course with the changing tax rules and obligations.
- Seek assistance from experts who possess in-depth knowledge and proficiency in the UAE’s business tax to effectively navigate the compliance regulations and obligations of withholding tax.
- Maintain accurate records and timely payments of tax liabilities to ensure compliance and simplify the claiming of refunds in case of excessive deductions.
- Pick an appropriate business structure after careful analysis of the tax benefits and restrictions to save more money on the tax.
- Apply for the tax residency certificate from the Ministry of Finance (MoF) to claim the benefits of the Double Taxation Avoidance Agreement (DTAA), such as reduced tax rates, exemption from certain types of income, etc.
- Keep detailed records of transfer pricing transactions, prepare relevant documents, and use arm’s length pricing for all transactions.
