Economic Substance Regulations

ESR have been introduced in countries with low or no corporate taxes, in order to comply with international initiatives to combat harmful tax practices including unlawful avoidance or evasion. ESR requires certain legal entities to demonstrate that they carry out substantial economic activities in these jurisdictions, in accordance with the Economic Substance Test (see Q7 below).

The UAE introduced the Economic Substance Regulations, applicable in free zones as well as on-shore, to honour its commitment as a member of the OECD Inclusive Framework on Base Erosion and Profit Shifting (“BEPS”), and in response to a review of the UAE tax reporting framework by the European Union (EU). The purpose of the Regulations is to ensure that UAE entities undertaking certain activities report actual profits that are commensurate with the economic activity undertaken within the UAE.

The UAE Economic Substance Regulations (Cabinet of Ministers Resolution 31 of 2019) came into force on 30 April 2019, and subsequent guidance (Ministerial decision No. 215 of 2019) on the regulations was issued on 11 September 2019.

In consultation with the OECD and the EU, amendments were made to this legislation by Cabinet of Ministers Resolution No. (57) of 2020 (“Amended ESR”) issued on 10 August 2020, which repealed and replaced Cabinet of Ministers Resolution No. 31 of 2019. Updated Guidance was also issued on 10 August 2020 (Ministerial Decision No. (100) of 2020, “Amended Guidance”), which contains an updated Relevant Activities Guide at Schedule 1.

Any updates to the Economic Substance Legislation will be posted on this website and on the Ministry’s website.

The Regulations apply to legal entities and unincorporated partnerships that carry out a ‘Relevant Activity’.

The Relevant Activities under the Economic Substance Regulations are:

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

Please refer to the UAE Economic Substance Relevant Activities Guide issued by the Ministry of Finance for further information and explanation on each of the above Relevant Activities.

The ESR applies in all UAE jurisdictions, including financial free zones such as the DIFC. The DIFC Registrar of Companies is the designated Regulatory Authority for ESR in the DIFC.

The Regulations apply everywhere in the UAE, including free zones and financial free zones. As such, all UAE entities that conduct a Relevant Activity, whether they are located onshore or in a free-zone are subject to the Regulations.

Accordingly, the Regulations apply to DIFC entities that conduct one or more Relevant Activities (refer to Q4 for a list of Relevant Activities). Therefore all DIFC entities (including regulated firms) that conduct a Relevant Activity, regardless of their legal type (eg Company, Partnership, Foundation or Non Profit Incorporated Organisation) are required to comply with the Regulations.

The Economic Substance Test set out in the Amended ESR requires firms to demonstrate that:

• the relevant Core Income Generating Activities (CIGAs) are being conducted in the UAE; and
• the DIFC entity and the Relevant Activity are being directed and managed in the UAE; and
• the DIFC entity has adequate employees, premises and expenditure in the UAE.

DIFC Firms that conduct a Relevant Activity and have a financial year starting on or after 1 January 2019 and ending on or before 30 June 2020, are required to file a Notification by 31 January 2021. Failure to file will result in a penalty of AED20,000 under Article 13 of the Amended ESR.

DIFC firms that conduct a Relevant Activity and have a financial year starting on or after 1 January 2019 and ending on or before 31 December 2019, are also required to file a Report on the MOF Portal (if applicable) by 31 January 2021. Failure to file will result in a penalty of AED50,000 under Article 14 of the Amended ESR. Exempted Licensees (see Q11) are not required to file a Report.

Notifications and Reports must be submitted electronically on the MOF Portal, which can be accessed here. DIFC has developed a quick guide to help you create a MOF portal account and access the MOF ESR Portal, including key guidelines, which you can view here.

Links to the Notification template and guidance are provided.

Links to the Report template and guidance are also provided.

Under the Amended ESR, all entities that conduct a Relevant Activity (even if they are an Exempted Licensee (see Q11)) are required to file a Notification on the MOF Portal, within 6 months of the end of their Reportable Period (see Q13 for more information on Reportable Period). The first deadline for filing Notifications on the MOF Portal is 31 December 2020, for firms that have a financial year commencing on or after 1 January 2019 and ending on or before 30 June 2020.

DIFC entities that are in the process of liquidation (or under dissolution) are still required to file a Notification in respect of Reportable Periods ending on or before the completion of the liquidation / dissolution process.

Only DIFC entities that have been dissolved, struck-off or liquidated prior to the deadline for submission of the Notification, are not required to file a Notification.

All other entities that conduct a Relevant Activity are required to file Economic Substance Notification, including Exempted Licensees and those that are currently in the process of dissolution / liquidation.

The following entities are considered to be “Exempt Licensees” under the Amended ESR and are not required to file a Report:

• Entities that are tax resident outside the UAE; 
• Investment Funds;
• Entities that are wholly owned by UAE residents, that: 
  • are not part of a multinational group; and
  • only carry out business activities in the UAE; 
• A branch of a foreign entity whose relevant income is subject to corporate tax in a jurisdiction other than the UAE.

Exempted Licensees are not required to file a Report but are required to file a Notification, to confirm and substantiate their exempt status. Please refer to the Amended Guidance for more information on Exempt Licensees under the Amended ESR.

UAE entities with UAE branches are able to file a single Notification and Report (if applicable), to report the relevant activities of itself and all of its UAE branches. All other entities are required to file Notifications and Reports on a stand-alone basis, irrespective of whether the entity is part of a consolidated group, for accounting purposes.

The Reportable Period is the financial period commencing after 1 January 2019 to which the Notification relates. Entities are required to include the "start" and "end" date of the Reportable Period on the MOF Portal. Please refer to the examples below:

A DIFC entity incorporated on 12 February 2010 with a 31 December financial year end, would have the following Reportable Period:

• Start date: 1 January 2019
• End date: 31 December 2019

A DIFC entity incorporated on 1 July 2019 with a 31 March 2020 financial year end, would have the following Reportable Period:

• Start date: 1 July 2019
• End date: 31 March 2020

A DIFC entity incorporated on 1 June 2018 with a long financial year ending on 31 December 2019, would have the following Reportable Period:

• Start date: 1 January 2020 (which is the first Reportable Period commencing on or after 1 January 2019)
• End date: 31 December 2020

An entity carrying out Relevant Activities must:

• demonstrate economic substance in the DIFC in accordance with the economic substance test (see Q7);
• file a Notification within 6 months of the end of its Reportable Period on the MOF Portal, which can be accessed here (see links to the Notification template and guidance); and
• file a Report containing all requisite information on an annual basis, on the MOF Portal, which can be accessed here, within 12 months of the end of a relevant financial period. (See links to the Report template and guidance).

• Failure to file a Notification – penalty of AED20,000
• Failure to submit a Report and any information or documentation required in connection with the Report - penalty of AED50,000
• Failure to meet Economic Substance Test for each relevant Financial Year - penalty of AED50, 000
• Providing inaccurate information - penalty of AED50,000

The penalty for the second consecutive year of failure:

• penalty of AED400, 000; and
• any administrative action the National Assessing Authority may impose, including the suspension, withdrawal or non renewal of the entity’s commercial license.

With respect to the filing of the first Notifications and Reports on the MOF Portal under the Amended ESR Regulations, by the deadline of 31 December 2019, only DIFC entities that conduct a Relevant Activity and have a Reportable Period that ends:

• on or before 30 June 2020 are subject to the fine for failure to file a Notification (even if the entity is an Exempted Licensee); and
• on or before 31 December 2019, are subject to the fine for failure to file a Report.

At the Ministry of Finance’s Economic Substance Regulations page, which includes additional FAQs and other useful background information.

In addition, you may find the resources below helpful:

• UAE Amended ESR – Cabinet of Ministers Resolution No. (57) of 2020
•  UAE Amended Guidance & Relevant Activities Guide – Ministerial Decision No. 100 of 2020
•  UAE Economic Substance Flowchart
• UAE Relevant Activities Summary
• MOF Notice of COVID-19
• MOF Notice regarding ESR Filing Requirements and Deadlines
• Economic Substance – Notifications Template
• Economic Substance – Report Template
• OECD Inclusive Framework on Base Erosion and Profit Sharing (BEPS)
• The Council of the EU – Code of Conduct Group (Business Taxation)