Understanding The UAE Free Trade Zone Vs. UAE Mainland Establishment Investment Structure Options

Overseas businesses with plans to launch in the UAE are not taking a wait-and-watch approach on taking a free zone license until the full updates on the corporate tax are revealed. Instead, many foreign investors are signing up to set up their businesses, as the UAE anyway offers some of the most compelling rates and incentives to businesses in the world market at present.

The UAE operates a ‘zoned’ approach to business establishment, with varying benefits depending upon whether the entity is to be based on the mainland (essentially downtown city areas) or in free trade zones (which suits import-export manufacturing and assembly driven operations) and tend to be based outside the city limits where land is less expensive yet close to logistics and shipping operators.

Q1 2023 has already seen most of the larger free trade zones in the UAE report increased numbers of newly licensed businesses – many of whom have existing operations on the UAE mainland. Among the new business categories showing the greatest interest in obtaining FTZ licenses are businesses in the crypto space, fintech and other digital technology focused entities, and also those in industrial activities.

UAE Free Trade Zones have already reduced their costs in recent years and will continue to do so to remain competitive with both the mainland and other free trade zones establishment options. Many clients are opting for mainland set ups with 100% ownership (versus the free zone option) – as this is a significant benefit.

The mainland seems to be the most compelling option for companies setting up in the UAE. This is mainly from ease of doing business, bidding for government contracts, generally reduced formation costs, transparent business set up costs, lower office rents, compliance when dealing with other mainland clients, and of course the ability to be 100% foreign-owned now for most activities in mainland UAE.

Mainland UAE versus Free Trade UAE

The UAE decision to open up 100% ownership (and without the need for a UAE National sponsor) has opened up a variety of possibilities for foreign investors to consider, and especially so for new market entrants launching operations in the Middle East.

The big factor in the free zone license vs. a mainland one relates to the corporate tax. A free zone enterprise will be exempt from the coming (June 1, 2023) 9% corporate tax rate if they are in compliance with a prescribed set of requirements. If they are not and they derive extensive income from mainland operations, then the 9% corporate tax automatically kicks in.

While UAE free trade zones formation costs are generally lower, the office space requirements can be costly. Free trade zones are struggling a little to compete with what mainland can offer. The UAE mainland provides more flexibility for location, scope of work, government contact bids and no restrictions on trading, import and dealing with other mainland clients.

Qualifying Income

This is where it is important to understand the concept of ‘qualifying income’. According to the UAE corporate tax laws, will be income derived by a free zone entity from any transactions it may have with businesses outside of the UAE, or with another enterprise based in the same free zone, or in one of the UAE’s 40 odd free zone clusters.

This qualifying income will be taxed at zero per cent.

This means that businesses need to await the UAE cabinet decision for guidance on this aspect, which remains pending. Where part of the free zone business’s revenue (say 25%) is from UAE mainland entities, then the balance would be considered as ‘qualifying income’. Such businesses have to allocate and justify the relevant expenses towards such qualifying and non-qualifying to the satisfaction of the FTA (Federal Tax Authority).

The Federal Tax Authority allows free trade zone entities’ mainland branch to be taxed separately, although for practical purposes it is difficult to open a branch of a free trade zone company in the UAE mainland. However, it is also possible that the UAE Economic Ministry may allow such branch licenses on the mainland in the near future.

Pay Attention

This is why Free Trade Zone businesses need to watch this regulatory space closely. Currently, free trade zone entities that have qualifying income (benefit) will be exempt from the CT regime. However, if it is conducting any operations on the mainland, they would need to be wary of being subject to CT on the entirety of their free zone operations.

This means that foreign investors are looking at their overall structure and potentially looking to set up in the mainland where required – either a branch, subsidiary or a completely new entity.

It is important to consider whether a Free Zone or Mainland entity set up – or a combination of both – is the best option for your business. For advise, please contact Maria Kotova of Dezan Shira & Associates Dubai office. The firm has 38 offices throughout Asia and 31 years’ experience of handling foreign investment into the region. Please email dubai@dezshira.com

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