What are the UAE Economic Substance Regulations (ESR)?

The United Arab Emirates (UAE) has established a set of regulations known as the Economic Substance Regulations (ESR). Introduced in 2019, the ESR aims to combat profit shifting and ensure that businesses operating in the UAE demonstrate genuine economic activity. This translates to businesses having a physical presence and qualified personnel commensurate with the activities they undertake.

Who Needs to Comply with ESR in the UAE?

Not all businesses in the UAE are subject to ESR. The regulations apply specifically to businesses engaged in designated “relevant activities.” These activities encompass a broad range, including:

  • Banking Business
  • Insurance Business
  • Investment Fund Management Business
  • Lease-Finance Business
  • Headquarters Business
  • Shipping Business
  • Holding Company Business
  • Intellectual Property Business
  • Distribution and Service Center Business

If your business falls under any of these categories, it’s crucial to understand your ESR obligations.

What are the ESR Notification and Reporting Requirements?

Businesses that conduct relevant activities must comply with a two-step filing process:

  1. ESR Notification: The first step involves submitting an ESR Notification to the relevant authority. This notification serves as an initial declaration, outlining the relevant activities your business undertakes. It’s essential to file the notification within a specified timeframe, typically before the commencement of your financial year.
  2. ESR Report: Following the notification, businesses must prepare and submit a comprehensive Economic Substance Report (ESR Report) within 12 months of their financial year-end. This report details the activities conducted, the qualified personnel employed, and the expenditures incurred in the UAE related to the relevant activities.

Demonstrating Economic Substance in the UAE

The core principle of ESR compliance hinges on demonstrating “economic substance” in the UAE. This translates to businesses proving they have a genuine economic presence and conduct core business activities within the country. Here are some key factors that contribute to establishing economic substance:

  • Adequate qualified personnel: Businesses must employ a qualified workforce in the UAE with the necessary skills and expertise to manage the relevant activities.
  • Physical presence: Maintaining a physical office in the UAE that is commensurate with the scale of the relevant activities is crucial.
  • Incurring expenditure: Businesses should demonstrate that they are incurring appropriate operating expenses in the UAE to support the relevant activities.

Penalties for Non-Compliance with ESR

Failure to comply with ESR regulations can lead to significant penalties for businesses. These penalties may include:

  • Financial penalties
  • Suspension or revocation of trade licenses
  • Reputational damage

 

Failure to submit a Notification: AED 20,000/-

Failure to submit an Economic Substance Report: AED 50,000/-

Failure to provide accurate or complete information: Penalty of AED 50000/-

Failure to demonstrate sufficient Economic substance in the UAE: AED 50000/- on first instance and   AED 400,000/- with license suspension on repetitions.

ESR Appeals in UAE

A Licensee may appeal a decision of the Federal Tax Authority (National Assessing Authority) on the following grounds:

    • It did not commit a violation.

    • The penalty imposed is not proportionate to the violation.

    • The administrative penalty imposed exceeds the limit prescribed.

There is, in general, a six (6) year limitation period which applies to administrative penalties.

How to Achieve ESR Compliance in the UAE

Achieving ESR compliance requires a proactive approach. Here are some steps businesses can take:

    1. Identify Relevant Activities: The first step is to determine if your business conducts any of the designated relevant activities.

    1. Seek Professional Guidance: Consulting with tax advisors like ProAct or legal professionals experienced in ESR can provide valuable insights and ensure proper compliance.

    1. Maintain Detailed Records: Maintaining accurate and comprehensive records of personnel, expenditures, and activities is vital for demonstrating economic substance.

    1. Stay Updated: ESR regulations are subject to change. Businesses should stay informed about any updates or amendments to ensure continued compliance.

Conclusion

The UAE’s Economic Substance Regulations aim to promote transparency and strengthen the country’s position as a reputable financial hub. By understanding their ESR obligations and taking proactive steps towards compliance, businesses can operate with confidence in the UAE.

Ref: The-UAE-Economic-Substance-Regulations-Notification-Guidance.pdf (mof.gov.ae)