What one needs to know about UAE agreements on avoidance of double taxation in 2019
The UAE provides its residents opportunities to use benefits of agreements on avoidance of double taxation that UAE concluded with many countries.
To use these benefits, it is necessary to obtain the certificate of tax resident UAE. Our company helps to obtain such a certificate as for natural persons, so as for legal entities registered in the UAE.
Changes regarding agreements on avoidance of double taxation UAE
On 27 June 2018 the UAE signed the Multilateral convention OECD (Convention MLI) on execution of measures regarding tax agreements, to prevent “Base erosion and profit shifting” (BEPS). The Convention is also known as the “Multilateral instrument” BEPS (BEPS Multilateral Instrument (MLI)) or the Convention BEPS.
Multilateral Convention MLI allows the signee jurisdictions to alter their mutual agreements on avoidance of double taxation (DTA) in sequential order.
Plan of the Organization for Economic Cooperation and Development (OECD)
Since OECD and countries of G20 had accepted in 2013 the plan of actions BEPS consisting of 15 items, countermeasures to BEPS remains the top priority fir governments all over the world. Conclusive reports made in 2015 represent a set of measures that governments should take for elimination of peculiarities of tax regimes that promote BEPS. The set includes a number of minimum standards.
In December 2017 the UAE government undertook to introduce the minimum standards for resisting BEPS till the end of 2018. As result, the European Union excluded the UAE from the black list of countries that, as it was believed, inadequately cooperate in promotion of global initiatives on prevention of BEPS.
In May 2018 the UAE became the 116th country that became the associated member of the inclusive structure BEPS. UAE undertook obligations on approval with the international consensus on international tax regulations. On 27 June 2018 the UAE signed the Convention MLI, which is an important step in realization of the minimum standard regarding misuse of agreements on avoidance of double taxation.
The one of the minimum standards BEPS (“Action 6”) provides prevention of misuse of agreements on avoidance of double taxation, when taxpayers claim for benefits that partner countries on the agreement did not plan to provide. “Treaty shopping” is one of examples when an international company can establish a passive holding company in any jurisdiction just to use beneficial agreed rates available for tax residents in this jurisdiction.
The minimum standard provided by the “Action 6” requires that countries introduced rules to their agreements, which would limit the misuse of the agreement. For applicable agreements this would be problematic, if bilateral solutions required (i.e. review of agreements). The Convention MLI was developed to solve this issue. The Convention MLI allows the signatory to state its agreements to which it will be applied. If a partner under the agreement is also a signatory and had stated the corresponding agreement, then provisions of the Convention MLI will be include in the bilateral agreement after the Convention MLI is ratified by both countries.
The UAE signed the Convention MLI on 27 June 2018, having preliminarily stated 114 agreements on the way, therefore the Convention has a significant effect.
Many provisions of the Convention MLI let every country either to take decision on accepting these provisions or to choose from multiple options on a certain issue. When the Convention MLI is applied to the agreement, the least from standards accepted by two countries will be applicable to the agreement.
Usually, when provisions of the Convention MLI are optional, the UAE do not accept them. On issues where each country should take a definite opinion, the UAE usually take a position with minimum effect on agreements. Many countries took a similar approach. Nevertheless, the UAE had to take a position on several key issues that may significantly influence the application of UAE agreements on avoidance of double taxation.
The Convention MLI requires that countries accepted the preamble that updates purposes of agreements on avoidance of double taxation:
- liquidate double taxation without providing possibilities for complete avoidance of taxation and without minimizing taxation by fiscal avoidance (including through agreements of “treaty-shopping” aimed at obtaining benefits provided as indirect profit of residents of third jurisdictions).
- further develop their economic relations and promote cooperation on tax issues.
As the preamble is the part of context of the agreement, statement and purposes must be considered when interpreting provisions of the agreement, including rules for prevention of misuse incorporated in the Convention MLI. The main purpose would still be to avoid double taxation, and it will be necessary to look how countries will interpret the item on prevention of possibilities for complete avoidance of taxation, because the corporate tax is absent in the UAE. Basically, the preamble should only evoke anxiety when a complete avoidance of taxation happens as result of fiscal avoidance, but this standard is not applied consistently all over the world.
“Test for main Purposes”
The main component of the “Action 6” is selecting between the approach “Limitation on Benefits”, (LOB) and the approach “Test for Main Purposes” to prevent misuse of the agreement:
- “Limitation on Benefits” restricts the availability of contractual preferences for companies, which meet certain requirements based on legal nature, participation in company ownership, and activity of the company.
- more generalized approach “Test for Main Purposes” is based on the main purposes of transactions or arrangements. If one of the main purposes is obtaining contractual benefits, then such benefits may be denied, if it was not found that provision of such benefits correspond to purposes of the agreement.
The UAE accepted the regulation “Test for Main Purposes” in their agreements on avoidance of double taxation.
The “Test for Main Purposes” will most probably influence the outgoing investments. Currently, a UAE company usually may obtain a contractual benefit if it has demonstrated that it is the UAE tax resident (i.e. on the basis of the tax domicile certificate) and if necessary, has demonstrated that the beneficiary owner of the income is the UAE resident. Since coming into force of the “Test for Main Purposes”, investors of outgoing investments might also need to prove that arguments based on provisions of the agreement on avoidance of double taxation are not the basic motive for the investment structure. It is neither highly probable that countries will initially understand and apply the “Test for Main Purposes” consistently, so it may take some time before it will become clear which approach is taken by every country for applying the “Test for Main Purposes”.
Please contact us to obtain the Tax Domicile Certificate of the UAE tax resident for a company.
How innovations influence business in the UAE
The decision of the UAE government on joining the inclusive structure and undertaking obligations on implementation of the minimum standards of resistance BEPS will help to promote reputation of business and investments of the UAE in the Middle East.
Companies operating in the UAE must re-consider their holding structures, structures of intellectual property and supply chain, so that they remained valid within the context of current and potential developments on resisting BEPS, and also to minimize risk that the Convention MLI may influence the access to benefits of the UAE agreements on avoidance of double taxation. Investment structures should be stress tested to define the potential risk level and the need to apply new business models.
Companies must monitor how tax bodies in jurisdictions where UAE companies are investing apply the regulation of the “Test for Main Purposes”. Companies must also track how these jurisdictions solve a wider range of issues BEPS. Besides the minimum standards, several “Actions” are aimed at toughening rules on measuring income, such as interest rates. Initiatives on prevention of BEPS will create weighty problems for groups which incomes do not correlate with creation of the cost.
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Any country may choose provisions that it finds eligible (except mandatory provisions) at signing and ratifying the Convention
The purpose is that agreements on avoidance of double taxation would be interpreted and applied solely for avoidance of double taxation, not leading to complete absence of taxes or reduced taxation as result of fiscal avoidance, including using various schemes.
To let the effect of the Convention cover any agreement on avoidance of double taxation, it is necessary that a participating country-partner of the UAE under the agreementу also ratified the Convention and included the agreement with the UAE in its list of agreements which this country plans to put under the effect of the Convention.
Finally, old agreements on avoidance of double taxation now should be interpreted with account of alterations made by the Convention. Limitations and clauses for using which an enforcer had earlier to address the Model Convention OECD on tax on income and capital and commentaries, will now be directly stated in texts of agreements on avoidance of double taxation. This, probably, will mean even stricter approach of tax bodies to evaluation of legitimacy of application of significant for taxpayer benefits provided by the agreement on avoidance of double taxation.
The position document MLI of the Arab Emirates certifies the general approach that the UAE plan to apply regarding the offered changes, made by the Project OECD on prevention of “Base Erosion and Profit Shifting” (BEPS).
In particular, the UAE accepted the following key changes:
- UAE decided to include the additional definition in texts of preambles of their agreements on avoidance of double taxation, saying that these agreements should not lead to misuse of provisions of the agreement (BEPS “Action 6”).
- UAE decided to include the “Test for Main Purposes” (PPT) with the possibility to address the competent body for final evaluation of available contractual preferences (BEPS “Action 6”). The “Test for Main Purposes” is necessary to prevent provision of preferences, which are defined by the agreement on avoidance of double taxation, if the main or one of the main purposes to perform any deal is obtaining preferences.
- UAE decided to include the additional definition in their agreements on avoidance of double taxation to optimize the process of dispute settlement by “Mutual Agreement Procedures” (MAP) (BEPS “Action 14”).
- UAE decided to keep the existing definition of the “permanent mission” in their agreements on avoidance of double taxation, and did not accepted the definition of the “permanent mission”.
- UAE decided to keep their existing position on taxation of capital gains, realized for organizations with big scopes of real estate, and did not accepted the offered provisions for big scopes of real estate in their existing agreements on avoidance of double taxation.
Regarding other measures included in the position of the Arab Emirates on theо Convention MLI, the UAE decided to agree certain changes in their agreements on avoidance of double taxation using bilateral negotiations with other jurisdictions.
To let provisions of the Convention MLI be applied to the UAE and their agreements on avoidance of double taxation with other jurisdictions, the UAE ratified changes through their internal legislative process.
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The purpose of the agreement on avoidance of double taxation
The UAE agreement on avoidance of double taxation will include, as an expressed purpose, the following:
Endeavour to eliminate double taxation regarding taxes covered by the agreement, without creating possibilities of fiscal avoidance or reduction of taxation by avoiding payment of tax (including by conclusion of agreements of “treaty shopping” aimed at obtaining benefits provided in this agreement, for indirect benefit of residents of the third jurisdictions).
Inclusion of the above-mentioned updated definition in the preamble is considered enough for satisfying one of the minimum standards BEPS «Action 6» (preventing misuse of the agreement).
Preventing misuse of agreements by introduction of targeted provisions on prevention of avoidance
As most jurisdictions participating in the Convention MLI, the UAE decided to accept the “substance”-approach when evaluating the possibility of provision of preferences under the agreement by implementation of the “Test for Main Purposes” with possible addressing of a competent body for final evaluation of availability of contractual benefits regarding the agreement on avoidance of double taxation.
If a partner of the UAE under the agreement accepted other basis for evaluating the availability of benefits (i.e. using the “Test for Main Purposes” without possible addressing of a competent body for final approval, or accepting the approach based on the test by the “Limitation on Benefits” (LOB) in the simplified edition (simplified LOB, S-LOB) or in more detailed format), then the «Test for Main Purposes» (without possibility of addressing a competent body for final evaluation) will prevail.
Acceptance by the UAE of the position on evaluation of possibility of a benefit under the agreement (or using the «Test for Main Purposes», or using the test of the “Limitation on Benefits”) meets the minimum standard BEPS “Action 6” (Preventing misuse of the agreement).
“Mutual Agreement Procedures” (MAP) and corresponding adjustments
The UAE decided to provide that all the applicable agreements on avoidance of double taxation would include provisions on the process “Mutual Agreement Procedures”, which would effectively settle the dispute regarding application of provisions of the agreement on avoidance of double taxation.
Most UAE agreements on avoidance of double taxation include the following:
- A taxpayer who initiates the procedure MAP will have a certain period (i.e. 3 years) to provide his case to a corresponding competent body.
- A taxpayer may provide his case to any competent body under the agreement on avoidance of double taxation.
- In cases where competent bodies cannot settle the dispute, it can be officially settled within the procedure, regardless of any internal terms.
The UAE did not accept provisions related to measures on prevention of artificial avoidance of the status of permanent mission
The UAE also decided to keep their existing position regarding the definition of permanent mission in agreements on avoidance of double taxation, and did not change the definition of permanent mission:
- did not account cases where an agent usually plays a major role leading to conclusion of contracts, which are usually concluded without significant changes by a company;
- did not shorten the list of specially exempted types of activity that would not result in occurrence of the status of “permanent mission”;
- did not account cases where the status of “permanent mission” is moderated by division of contracts;
- did not include the definition of closely related entities.
As the Convention MLI requires mutual agreement until making amendments to the agreement on avoidance of double taxation, the UAE position on the agreement on avoidance of double taxation regarding this issue will not be updated, independently of positions of other partners.
The UAE did not accept provisions related to capital gain in alienation of entities with “high-priced real estate”
In the position document MLI, the UAE decided to keep the existing position of agreements on avoidance of double taxation regarding taxation of capital gain that is realized from entities with “high-priced real estate”.
This means that UAE agreements on avoidance of double taxation will not be updated to reflect the offered changes by the plan BEPS regarding alienation of entities with “high-priced real estate” to the source jurisdiction.
Certain existing UAE agreements on avoidance of double taxation already contain provisions that describe tax rights in alienation of entities with “high-priced real estate” д to the source jurisdiction; such provisions will be further applied.
As the Convention MLI требует взаимного согласия до внесения поправок в agreement on avoidance of double taxation, requires mutual agreement until making amendments to the agreement on avoidance of double taxation, the UAE position on these issues will not be updated, independent from positions of other partners under the agreement.
Coming into force of amendments
Since 1 July 2018, the Convention MLI is applicable for jurisdictions that have already introduced the Convention MLI in OECD and ratified the position through their internal legislative process.
On 29 May 2019, the UAE implemented their ratification instrument of the Convention MLI. Based on the implementation date, the Convention MLI comes into force on 1 September 2019, although its coming into force for UAE agreements on avoidance of double taxation will depend on the ratification of the Convention MLI by other partners under certain agreements.
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