Economic Substance Regulation; Old Vs New

UAE Cabinet Resolution 31 of 2019 Concerning Economic Substance Regulations (the UAE Economic Substance Regulations or the Regulations) was published in the Official Gazette on 30 April 2019 and came into effect the same day. However, in Cabinet Resolution No. 57 of 2020 of 10 August 2020, the updated Guidance in Ministerial Decision 100/2020 of 19 August 2020 (Amended ESRs), the UAE Ministry of Finance (MoF) has amended its original Economic Substance Regulations of 30 April 2019 and the related Guidance of 11 September 2019. The amendments introduce several substantive and clarificatory changes that should be taken into account by market participants in the assessment of their filing requirements.

Given Below is the comparison of New ESR Amendments with Original ESR:

Definition of the licensee and an exempted licensee

According to Old ESR, Licensee is a natural or juridical person licensed to carry out a relevant activity. This has been updated to include an unincorporated partnership (without separate legal personality) that carries a relevant activity. According to FAQs, a natural person, sole pr0prietership, trust, and foundation are no longer considered as Licensees. 

About Exempted Licensee Definition, it has been changed from only entities with at least 51% direct 0r indirect government ownership to include the subsequent entities:

• Investment Funds
• UAE branches of foreign companies whose entire relevant income is subject to tax in parent company jurisdiction.
• Licensees that are tax resident outside UAE
• UAE resident-owned businesses that are not part of an MNE group
• Any Licensee which the Ministry of Finance issues a decision to grant it the capacity of an ‘exempt licensee’

Government entities’ exemption has been withdrawn in New ESR, also the companies need to submit sufficient evidence to prove that they fall into the exempt licensee category. 

Holding Company -Change in Definition

Previously, Holding Company as per law was the one that has majority ownership and voting rights in its subsidy and has subsidies either in the UAE or outside the UAE. According to amendments, a holding company is only to be one that has its sole function the acquisition and holding of shares or equitable interest in other companies and only earns dividends from dividends and capital gains from its equitable interest. 

Definition of Connected Person and Group

A connected person was considered to be a natural or juridical person who is related to one or more juridical persons through direct or indirect ownership or control or common control. This has been modified to include an entity forming part of the same group to which the Licensee or Exempted Licensee Belongs. 

There was no proper definition of Group in Old ESR, thus in New ESR Group is defined as two or more entities related through ownership or control such that they are required to prepared consolidated financial statements. 

Definition of Distribution Business 

It has been made mandatory for the distribution business that Purchasing is done from a Foreign Connected Person. Also, the requirement of physical importation and storage in the UAE and resell outside the UAE has been removed in the new ESR. This means is that companies’ transhipments or drop shipment models where goods do not enter the UAE territory will also now be in scope.

Definition of Service Centre

Entities providing services to foreign connected persons in connection with their businesses in the UAE will now be considered as a Service Centre Business. 

Definition of High-Risk IP Business 

In the old ESR, the licensee that does not carry out research and development, or branding, marketing, and distribution as part of its State Core Income Generating Activity were considered to be a High-Risk IP Business. This has been removed from New ESR, which implies that if the entity does not carry out CIGAs then it will not automatically fall into this category, however, information with foreign authorities will still be exchanged in both cases. 

Change in the Meaning of Income 

Meaning of Income was not defined in the original ESR, in the new ESR relevant income has been defined to mean all gross income from a relevant activity that is recorded in the books and records of the licensee under the accounting standards applicable. So now the requirement for relevant income to mean gross income which is recorded in the books of accounts is important if the income has not been recorded in the books of accounts under applicable accounting standards doesn’t matter if the company has  carried on a relevant activity and earned consideration there from it will not be treated as relevant income and therefore, it will not be required to perform the tests

Change in National Assessing Authority from the Regulatory Authority to FDA 

In the ESR amendments, the FDA has been appointed as the national assessing authority that will be responsible for conducting audits and assessments, this was previously the role of the regulatory authority under the old regulations. Now the role of the regulatory authorities has been diluted their responsibility is merely to disseminate information about deadlines and due dates, collect the notifications and the reports, do basic accuracy, check on the accuracy of the information submitted and whether the forms have been completed properly and liaising with the licensee. FDA will have the responsibility to check whether the exemption related documentation has been filed along with the notification and whether that meets the criteria and FDA will be the one that will conduct the audits assessments

Modification in the content of ESR Notification/Report 

Important modification made in ESR is that the notification report should give detail of a parent company, ultimate parent company, and ultimate beneficial owner. previously this information had to be submitted in the notifications only if you are a high-risk IP licensee that has been replaced and now all licensees need to submit this information.

Change in Penalties

The penalty in case of failure to submit an ESR report or in case of inaccurate information was between ten and fifty thousand or fifty and three hundred thousand which now has been replaced by a flat fee of fifty thousand in the first year and four hundred thousand dirhams in the second year. 

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