Guidelines for Calculating Taxable Income under UAE Corporate Tax Law

The UAE Corporate Tax is a tax imposed on the profits of corporations and other business entities registered in the UAE. This tax was announced in 2022, marking a significant shift as the UAE had traditionally been known for its zero corporate tax rate, which was a major attraction for international businesses.
This new tax framework is part of the UAE's broader efforts to meet international standards for tax transparency and prevent harmful tax practices.

Table of Contents

1. Introduction
2. Article 20: General Rules for Determining Taxable Income
3. Article 21: Small Business Relief

Check out Taxmann's Law & Practice Relating to UAE Corporate Tax which aims to analyse and elucidate the intricacies of UAE Corporate Tax [Federal Decree-Law No. 47 of 2022 as amended by Federal Decree-Law No. 60 of 2023] and their practical applications. It provides article-wise commentary on UAE Corporate Tax, supplemented with relevant Cabinet and Ministerial Decisions, case studies, illustrations, FAQs, charts, and tables. The book includes a guide on Free Zone Taxation and is designed as a comprehensive reference tool for tax professionals. It offers a clear, example-driven format to make complex tax concepts accessible and includes twenty chapters covering various aspects of UAE Corporate Tax.

1. Introduction

Chapter 6 of the CT Law deals with the rules and regulations for calculating taxable income. The provisions aim to reduce administrative complexity and compliance costs for UAE taxable persons by providing a clear computation mechanism. This article comprises the following two articles:

1. Article 20: General Rules for Determining Taxable Income
2. Article 21: Small Business Relief

Article 20 contains general rules for the computation of taxable income. The computation of taxable income starts with profits from the standalone financial statement as adjusted in accordance with Article 20. Article 21 grants relief to taxable persons running small businesses and deriving revenue less than the prescribed threshold.

2. Article 20: General Rules for Determining Taxable Income

Article 20 reads as follows:

1. The Taxable Income of each Taxable Person shall be determined separately, on the basis of adequate, standalone financial statements prepared for financial reporting purposes in accordance with accounting standards accepted in the State.

2. The Taxable Income for a Tax Period shall be the Accounting Income for that period, and to the extent applicable, adjusted for the following:

(a) Any unrealised gain or loss under Clause 3 of this Article.

(b) Exempt Income as specified in Chapter Seven of this Decree-Law.

(c) Reliefs as specified in Chapter Eight of this Decree-Law.

(d) Deductions as specified in Chapter Nine of this Decree-Law.

(e) Transactions with Related Parties and Connected Persons as specified in Chapter Ten of this Decree-Law.

(f) Tax Loss relief as specified in Chapter Eleven of this Decree-Law.

(g) Any incentives or special reliefs for a Qualifying Business Activity as specified in a decision issued by the Cabinet at the suggestion of the Minister.

(h) Any income or expenditure that has not otherwise been taken into account in determining the Taxable Income under the provisions of this Decree-Law as may be specified in a decision issued by the Cabinet at the suggestion of the Minister.

(i) Any other adjustments as may be specified by the Minister.

3. For the purposes of calculating the Taxable Income for the relevant Tax Period, and subject to any conditions that the Minister may prescribe, a Taxable Person that prepares financial statements on an accrual basis may elect to take into account gains and losses on a realisation basis in relation to:

(a) All assets and liabilities that are subject to fair value or impairment accounting under the applicable accounting standards; or

(b) All assets and liabilities held on capital account at the end of a Tax Period, whilst taking into account any unrealised gain or loss that arises in connection with assets and liabilities held on revenue account at the end of that period.

4. For the purposes of paragraph (b) of Clause 3 of this Article:

(a) “Assets held on capital account” refers to assets that the Person does not trade, assets that are eligible for depreciation, or assets treated under applicable accounting standards as property, plant and equipment, investment property, intangible assets, or other non-current assets.

(b) “Liabilities held on capital account” refers to liabilities, the incurring of which does not give rise to deductible expenditure under Chapter Nine of this Decree-Law, or liabilities treated under applicable accounting standards as non-current liabilities.

(c) “Assets and liabilities held on revenue account” refers to assets and liabilities other than those held on a capital account.

(d) An “unrealised gain or loss” includes an unrealised foreign exchange gain or loss.

5. Notwithstanding Clauses 1 and 3 of this Article, the Minister may prescribe any of the following for the purposes of this Decree-Law:

(a) The circumstances and conditions under which a person may prepare financial statements using the cash basis of accounting.

(b) Any adjustments to the accounting standards to be applied for the purposes of determining the Taxable Income for a Tax Period.

(c) A different basis for determining the Taxable Income of a Qualifying Business Activity.

6. Subject to any conditions prescribed under Clause 5 of this Article, a Taxable Person can make an application to the Authority to change its method of accounting from cash basis to accrual basis from the commencement of the Tax Period in which the application is made or from the commencement of a future Tax Period.

7. In the case of any conflict between the provisions of this Decree-Law and the applicable accounting standards, the provisions of this Decree-Law shall prevail to that extent.

2.1 Determination of taxable income

Article 20 sets out the approach to determine the taxable income that will be subject to tax under the CT regime. To reduce complexity and compliance costs, the CT regime requires the use of the accounting net profit (or loss) as stated in the financial statements of a business as the starting point for determining their taxable income.

Taxable income for each taxable person shall be determined separately for each tax period. The standalone financial statement shall form the basis for the computation of taxable income. The standalone financial statement shall be prepared in accordance with accounting standards and frameworks generally accepted in the UAE. The financial statement may be prepared on an accrual or cash basis.

2.2 Method of Accounting

The Ministry of Finance has issued a Ministerial Decision No. 114 of 2023 on the Accounting Standards and Methods for Preparing the Financial Statements, which states as under.

2.2a Accounting Standard

The Taxable Person shall prepare its Financial Statements as per the following Financial Reporting Standard based on its revenue:

2.2b Cash Basis of Accounting

The cash basis of accounting is a method of recording income and expenses when they are actually received or paid rather than when they are earned or incurred. A person can use the cash basis of accounting in any of the following instances:

• Revenue does not exceed AED 3 million; or
• In exceptional circumstances, if approval is obtained through an application to the Authority.

A taxable person may apply to the FTA to transition its accounting system from a cash basis to an accrual basis from the commencement of the tax period in which the application is made or the commencement of a future Tax Period.

2.2c Consolidated Financial Statement

The preparation of consolidated Financial Statements of a Tax Group (See Para 12.2) shall mean preparing standalone financial statements for a tax group by aggregating the standalone financial statements of the parent company and its subsidiaries and eliminating transactions between them as required by the Corporate Tax Law.

2.3 Adjustment from the standalone profit

The taxable income for a tax period shall be computed after making the following adjustments from the accounting income for that period:

2.3a Other adjustments, as suggested by Cabinet

The Cabinet, at the suggestions of the Minister, may specify financial incentives or special treatment for Qualifying Business activity. The Cabinet may also specify any income or expenditure that has not otherwise been considered in the computation of taxable income, which may be adjusted in the computation of taxable income.

As per Ministerial Decision No. 134 of 2023, the Accounting Income shall be adjusted with the following while calculating the Taxable Income:

• Include realised or unrealised gains and losses reported in the financial statements that would not be subsequently recognised in the statement of income;
• Substitute the effect of the equity method of accounting, if applied, with the effect of the cost method of accounting as allowed under the accounting standards.
• In case a Taxable Person that prepares financial statements on an accrual basis elects to take into account gains and losses on a realisation basis in relation to all assets and liabilities that are subject to fair value or impairment accounting and assets/liabilities held on capital account under the applicable accounting standards, the following adjustments shall be made:

1. 1. Exclude depreciation, amortisation, or other change in the value of assets other than financial assets, to the extent adjustment amount related to a change in the net book value exceeding the original cost of the asset;
   2. Exclude change in value, including amortisation of liability or a financial asset, except gain or loss arising upon realisation of liability or financial assets;
   3. Upon realisation of the assets and liabilities, including the unrecognised gains or loss, excluding those that arose before the most recent acquisition of assets/liability by a mode other than not considered as transfer within a qualifying group or business restructuring relief.

• No deduction of expenditure or loss shall be allowed in the computation of taxable income unless it is otherwise allowed under Article 28 to Article 33 of Chapter 9.

2.3b Deduction of capital expenditure

Depreciation, amortisation, or other changes related to capital expenditures shall not be deductible if such expenditure would not have been deductible had it been classified as non-capital in nature. In other words, depreciation, amortisation, or any other capital expenditure-related deductions are not allowed if they would not have been deductible as regular expenses. These non-deductible capital expenditures shall be deducted from the computation of gains or losses arising upon the realisation of the respective asset or liability.

Classification of expenditure as capital expenditure or non-capital expenditure would depend upon treatment prescribed by the applicable accounting standards followed by the taxable person.

2.3c Conditions to elect the use of the realisation basis

Taxable persons who prepare financial statements on an accrual basis of accounting shall have the option to recognise gains and losses on a realisation basis or accrual basis. The taxable person may follow the realisation basis of accounting as a conservative and cautious approach. This option gives taxable persons flexibility in aligning their financial reporting with their business operations and preferences.

The taxable person shall elect to apply the realisation basis of accounting during the first tax period. The election, once exercised, cannot be changed later, except in exceptional circumstances. The requirement for an irrevocable election adds certainty to the tax reporting process while allowing for exceptional circumstances where a change may be warranted.

2.4 Option to tax ‘gains or loss’ on a realisation basis

A taxable person may prepare the financial statement on an accrual basis wherein the unrealised gains/loss are considered in the computation of taxable income. However, such a taxable person may offer the following gains or losses on a realisation basis:

• Gains or losses from assets or liabilities which are subject to fair value or impairment accounting under applicable accounting standards;
• Gains or losses from assets or liabilities held on capital accounts, namely:

1. Assets the taxable person does not trade;
2. Assets eligible for depreciation;
3. Assets treated under applicable accounting standards as property, plant and equipment, investment property, intangible assets, or other non-current assets;
4. Liabilities which does not give rise to deductible expenditure; or
5. Liabilities treated under applicable accounting standards as non-current liabilities.

• Gains or losses attributable to assets and liabilities that are kept on the revenue account at the end of the tax period.

As per Ministerial Decision No. 134 of 2023, the following transfers of assets or liabilities shall not be considered as a realisation of the assets or the liabilities:

• Transfers between taxable persons who are members of the same qualifying group;
• Transfers between a taxable person and any other person involving the transfer of an entire business or an independent part of the business that are exempt under Articles 26 and 27 of the CT Law.

The realisation of assets shall include sale, disposal, transfer, settlement, or complete worthlessness of an asset as per applicable accounting standards. The realisation of liability includes settlement, assignment, transfer, or forgiveness of liability as per the applicable accounting standards.

2.4a An illustrative list of unrealised gains or losses

Whether a particular accounting item represents unrealised gains/loss to be offered to tax on an accrual basis or on realisation will depend upon the accounting standards. Broadly, the following accounting items can be referred to as unrealised gain/loss:

• Provision for expected credit loss;
• Provision for slow-moving inventory;
• Derivate financial instruments;
• Impairment of property, plant and equipment;
• Impairment of Investment Property;
• Unrealised foreign exchange gain or loss;
• Financial assets or liabilities carried forward at fair value through profit or loss (FVTPL) – forward exchange contracts not used for hedging;
• Investment property fair value changes;
• Adjustment for loss due to revaluation of property, plant and equipment;
• Adjustment for loss on revaluation of intangible assets.

2.5 Accounting Standards v. The CT Law

In case of any conflict between the accounting standards and provisions of the CT Law, the provisions of the CT Law shall prevail. For example, interest expense is deducted while computing the taxable income. However, Articles 29 to 31 restricts the deductions of interest in a certain scenario. Since the CT Law provisions override the accounting standards, the deduction shall be restricted even if the interest is deducted from deriving profits in the standalone financial statement.

2.6 Comprehensive Example

Determine the taxable income for XYZ Ltd. based on the given information:

Solution

3. Article 21: Small Business Relief

Article 21 reads as follows:

1.  A Taxable Person that is a Resident Person may elect to be treated as not having derived any Taxable Income for a Tax Period where:

(a) The Revenue of the Taxable Person for the relevant Tax Period and previous Tax Periods does not exceed a threshold to be set by the Minister; and

(b) The Taxable Person meets all other conditions prescribed by the Minister.

2. Where Clause 1 of this Article applies to a Taxable Person, the following provisions of this Decree-Law shall not apply:

(a) Exempt Income as specified in Chapter Seven of this Decree-Law.

(b) Reliefs as specified in Chapter Eight of this Decree-Law.

(c) Deductions as specified in Chapter Nine of this Decree-Law.

(d) Tax Loss relief as specified in Chapter Eleven of this Decree-Law.

(e) Article 55 of this Decree-Law.

3. The Authority may take the necessary measures to verify the compliance with the conditions of Clause 1 of this Article and may request any relevant information or records from the Taxable Person within the timeline prescribed by the Authority.

3.1 Overview

While a certain level of complexity is unavoidable in the corporate tax regime for a diversified and innovative economy such as the UAE, the Ministry of Finance intends to keep the CT regime as simple as possible to minimise the compliance cost for business.

While larger businesses would generally incur a higher absolute cost in complying with their CT obligations, in many tax systems worldwide, the relative tax compliance burden is disproportionately higher for small and medium-sized businesses. In order to support start-ups and small businesses in the UAE and to manage the compliance burden on small taxpayers, the CT regime provides relief for small businesses in the form of simplified financial and tax reporting obligations.

The CT Law grants an option to the taxable persons running small businesses to elect treated as not deriving any taxable income for a tax period. The taxable persons shall be allowed the exemption if the revenue derived during a tax period and previous tax periods does not exceed the threshold prescribed by the Minister.

3.2 Threshold limit for small businesses relief

The Ministerial Decision No. 73 of 2023, dated 3 April 2023, prescribed a revenue threshold of 3,000,000 AED for each tax period to avail the benefit of small business relief. The threshold shall apply to tax periods commencing on or after 1 June 2023 and shall continue to apply to subsequent tax periods that end on or before 31 December 2026. Hence, the gross revenue of the current as well as previous tax periods should be tested. A taxable person shall not be able to apply for the small business relief if its revenue in any relevant or previous tax period has exceeded 3,000,000 AED. The revenue shall be determined in accordance with the applicable accounting standards accepted in UAE.

3.3 Eligible person

The exemption shall be available only to resident-taxable persons. Further, the resident person should not be a Qualifying Free Zone Person or the constituent company of a Multinational Enterprises Group as defined in Cabinet Decision No. 44 of 2020 issued in respect of Country-by-Country Reporting.

3.3a Multinational Enterprises Group

‘Multinational Enterprises Group’ means any group that includes two or more companies, the tax residence of which is located in different jurisdictions, or one single company having its tax residence in one country and being subject to tax with respect to the activity it carries out through a permanent entity located in another country and has a total consolidated group revenue equal to or more than AED 3,150,000,000 (UAE Dirhams Only Three Billion One Hundred and Fifty Million) during the fiscal year immediately preceding the reporting fiscal year as indicated in its consolidated financial statements for that preceding fiscal year.

3.3b ‘Constituent of Multinational Enterprises Group’

A person shall be a ‘Constituent of Multinational Enterprises Group’ if such person falls in either of the following categories:

• Any separate business unit of an MNE Group that is included in the Consolidated Financial Statements of the MNE Group for the purposes of preparing the financial reports or would be so included therein if equity interests therein were traded on a public securities exchange;
• Any business unit excluded from the MNE Group’s Consolidated Financial Statements solely on size or materiality grounds;
• Any permanent establishment pertaining to any separate business unit of the MNE Group referred to above, provided that the said business unit prepares separate financial statements for such permanent establishment for the purposes of financial reporting, preparation, regulatory, tax reporting, or internal management control purposes.

3.4 Treatment of tax losses

When the taxable person elects for small business relief in respect of a tax period, any tax losses incurred in such tax period cannot be carried forward to any subsequent tax periods.

Any unutilised tax losses incurred in previous tax periods when small business relief was not applied may be carried forward to subsequent tax periods in which an election to apply the small business relief is not made.

3.5 Limitation on deduction for net interest

The taxable person opting for small business relief cannot carry forward the net interest expenditure incurred of such tax period to any subsequent tax periods.

Any net interest expenditure incurred in previous tax periods when small business relief was not applied can be carried forward to subsequent tax periods in which small business relief is not applied. It may be noted that the net interest expenditure can be carried forward up to 10 years.

3.6 Consequences of artificial separation of business

For the purposes of determining whether the business or business activity has been artificially separated, the FTA shall consider the commercial purpose of such an arrangement. The FTA shall also check whether the persons carry on substantially the same business or business activity by taking into account all relevant facts and circumstances, including but not limited to their financial, economic and organisational links.

Where the FTA establishes that one or more persons have artificially separated their business or business activity and the aggregate amount of revenue across the persons’ entire business or business activity exceeds the threshold of 3,000,000 AED in any tax period, and such one or more persons have elected to apply the small business relief, such artificial separation shall be regarded as tax abusive arrangement attracting provisions of General Anti-Abuse Rules under Article 50

3.7 Certain provisions shall not apply

The following provisions of the UAE CT Law shall not apply to taxable persons electing for small business relief:

• Exempt Income (see Chapter 7);
• Reliefs (see Chapter 8);
• Deductions (see Chapter 9);
• Tax loss relief (see Chapter 11); and
• Transfer Pricing compliance requirements (see Para 10.2)

3.8 Illustration

Whether the small business relief shall be available in the following case.

Note 1: Since the revenue of B LLC and C LLC in one of the tax periods exceeds 3,000,000 AED, small business relief shall not be available.

Note 2: Since the taxable person has received revenue during the previous tax period in excess of 3,000,000 AED, the small business relief shall not be available.

3.9 Comprehensive Example

ABC Company starts operations as a resident person in the UAE. Calculate its eligibility for small business relief based on the threshold limit and other conditions mentioned in this Article.

Treatment of Tax Losses and Net Interest Expenditure

Since ABC Company elected for small business relief in Tax Period 1, any tax losses incurred during that period cannot be carried forward to subsequent tax periods. However, any unutilised tax losses incurred in Tax Period 1 when small business relief was not applied can be carried forward to future tax periods where the relief is not elected. Similarly, the net interest expenditure incurred during the Tax Period 1, when small business relief was applied cannot be carried forward to future tax periods.

Consequences of Artificial Separation of Business

The Federal Tax Authority will assess whether ABC Company has artificially separated its business or business activity. Suppose the FTA determines that artificial separation has occurred and the aggregate revenue across the entire business or business activity exceeds the threshold of 3,000,000 AED in any tax period where small business relief is elected. In that case, the artificial separation will be considered a tax-abusive arrangement and subject to provisions of General Anti-Abuse Rules under Article 50.