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How Do Economic Substance Regulations Impact SMEs and What are Their Obligations?

The UAE enacted the Economic Substance Regulations (ESR) to ensure that business entities in the country are not used to artificially attract profits that do not commensurate with their economic activities undertaken in the UAE. The main objective is to prohibit companies from benefiting by shifting their profits to jurisdictions where they aren’t required to pay any tax or where they can reduce their tax burden.

ESR applies to onshore and free zone business enterprises, which are engaged in any of the nine ‘Relevant Activities’ listed below, within UAE jurisdiction. The concerned business entities have to submit duly filled economic substance Notification Form before the specified deadline. They also have to file their annual Economic Substance Returns within 12 months after the end of their financial year. The nine ‘Relevant Activities’ specified are Banking Business, Insurance Business, Investment Fund Management Business, Lease-Finance Business, Headquarters Business, Shipping Business, Holding Company Business, Intellectual Property Business as well as Distribution and Service Center Business.

Only those licensees earning income from above Relevant Activities and who are not exempt from the Regulations are required to file an Economic Substance Return. Depending on the nature and level of activities, and the income earned by the Licensee, ESR will be applicable. Under the ESR, the SMEs should ensure that they comply with the following requirements before the end of the financial year:

Have an appropriate number of qualified employees in the UAE

Incur an adequate amount of operating expenditure in the UAE

Have sufficient physical assets in the UAE

Assess Relevant Activities performed during the financial period

Assess the amount and type of income earned from the Relevant Activity during the fiscal period

Hold board meetings with a quorum of directors who are present in the UAE

Ensure board meeting minutes are signed and maintained in the UAE

The Regulatory Authority can impose a penalty ranging between AED 10,000 and AED 50,000 for failure to comply with the above in any Financial Year.