The United Arab Emirates (UAE) implemented the Value Added Tax (“VAT”) on 1 January 2018 under Federal Decree No. 8 of 2017 on Value-added Tax (“VAT Law”). Further guidance as to application of the VAT Law was provided by the Executive Regulations promulgated by Federal Decree Number 52 of 2017 (“Executive Regulations”) and Cabinet Resolution No. 59 of 2017. Unfortunately none of these documents clarifies the VAT status of offshore companies established in free zones in the UAE, which is the subject of this article.
An offshore company is similar to a free zone company in that both are registered with and licensed by a free zone authority and both can be fully owned by foreign owners. However, while free zone companies are primarily established to carry out trade and export activities, the purpose behind offshore companies is usually for asset diversification and investment protection. Offshore companies have the additional benefits of no minimum capital requirement, no requirement for physical office space coupled with eligibility to own real estate onshore in the designated areas and to open and operate bank accounts in the UAE. Offshore companies have a registered office address in the UAE, which is usually that of the registered agent, but are not entitled to conduct business activities in a free zone or onshore.
What factors are considered in assessing whether or not VAT law would apply to offshore companies?
The VAT Law requires any company providing Taxable Supplies within the UAE exceeding the Mandatory Threshold of AED 375,000 to register with the Federal Tax Authority (“FTA”) and obtain a Tax Registration Number (“TRN”). The question is whether this requirement applies to offshore companies established in free zones.
The Cabinet Resolution No. 59 of 2017 has named several free zones as Designated Zones, including the Jebel Ali Free Zone (where offshore companies may be incorporated) alongside other 19 free zones in the UAE (these are outside of the scope of VAT). Article 51(1) of the Executive Regulations expressly states that a Designated Zone shall be treated as being outside of the State and outside of the Implementing States for the purposes of VAT law. However, Article 51(9) stipulates that all companies incorporated within a Designated Zone to be treated as being inside the State. We see this as only a prima facie position and therefore we will not discuss this discrepancy.
Place of supply
The VAT treatment of a supply will be determined depending on the place of supply. The general rule is that the place of supply of services is determined by the place of residence of the supplier.
Offshore companies will generally face three scenarios which will be affected by the VAT regime:
i) Exporting goods and services outside the UAE
There is currently little distinction from a VAT standpoint between offshore companies registered in ‘Designated Zones’ and other free zone companies. Article 31 of the Executive Regulations provides that the export of services shall be zero-rated where the services are supplied to a non-resident recipient and who is outside the state at the time that the Services are performed. Therefore, a supply of services by an offshore company outside the VAT Implementing State (currently the UAE is the only Implementing State) will be zero-rated.
ii) Holding vehicle An offshore company is entitled to hold and own interests including real estate onshore.
If these interests are engaged in taxable supply, we would expect for such supply to trigger a tax liability. A distinction must be drawn between real estate being utilized for commercial activity which, will attract VAT (if above the mandatory threshold then registration with FTA is required), and for residential purposes (i.e. not used for a taxable supply). The latter is unlikely to attract VAT liability.
iii) Supply of services by onshore company to offshore companies
In the course of supplying services or holding assets, an offshore company may contract the services of onshore companies. For example, an offshore company may appoint lawyers or auditors who are based onshore. These suppliers will be entitled to charge VAT on invoices issued by them to the offshore company.
Furthermore, the supply of services directly in connection with real estate or personal moveable assets located onshore will also be taxable.
Below we consider the scenarios which would often arise in course of the operations of an offshore company.
a) Exemption to Article 31 of the Executive Regulations If the supply provided by an offshore company is intended to be received by a non-resident (a company that has no place of residence within the State), then ordinarily such supply will be zero-rated. However, if the non-resident has an employee or a director in the State who is receiving such supply, then standard rate VAT will apply to such services.
b) Another example
Given that offshore companies do not have an office space in the free zones, the registered agent offer the registered address service to such offshore companies. If the registered agent is an onshore company, two consequences would follows:
1) Services offered by the registered agent to the offshore company, including the annual agency fee, would be subject to VAT;
2) The law would still treat the principal as actual recipient of goods/services where the agent “regularly exercises the right of negotiation and enters into agreements in favor of the principal” (Article 33). Although, strictly speaking this does not make a difference from the VAT standpoint because regardless of whether the services are supplied to the agent (based onshore) or the principal (based in a Designated Zone) they will be subject to VAT.
In conclusion, the special status of offshore companies, which is different from both onshore and free zone companies, makes the application of the VAT principles somewhat difficult. The Executive Regulations provide some guidance in this regard but they do not specifically address offshore companies leaving some provisions open to interpretation. The above analysis demonstrates that there are situations where offshore companies would be making taxable supplies and therefore should consider tax registration. JAFZA has advised in a circular issued in November 2017 that the supply of goods and services in JAFZA at each stage of production and distribution shall be subject to standard 5 % VAT. Therefore, each offshore company would be advised to register a TRN to remain on the safe side.