Are you maintaining adequate substance in the Free Zone to be tax free?

Admin
10 Jan 2025

As a Qualifying Free Zone Person, it is important to maintain adequate substance in the Free Zone (or designated zone for distribution business) throughout the tax period. This is one of the requirements to continue to be a Qualifying Free Zone Person. Here we will discuss the basics of the substance and core income-generating activities in relation to the 9% corporate tax regime.

If a Qualifying Free Zone Person does not maintain adequate substance in the Free Zone, then it will have to pay 9% tax for 5 tax periods.

Bottom Line

The concept of substance and Core Income Generating Activities (or CIGA) is not new, this was discussed even during the implementation of ESR. CIGA are activities that are important and add value to generate revenue for the company.

The test for substance in every business will vary. To assess substance we must do the following:

1) Identify the CIGA related to the relevant Business that it performs to derive Qualifying Income.

2) Identify the assets, employees, and operational costs associated with each CIGA. When doing this the same employee must not be double counted for in different CIGA.

3) Evaluate whether those assets, employees, and operational costs are consistent with the nature, size, and Revenue of the activities and transactions generating Qualifying Income conducted in the Free Zone.

The last step involved some level of judgment and being practical. The test for a shipping company will be different from the test for a distribution company. This will also vary between companies in the same industry with different sizes or revenues.

Outsourcing activities that qualify as CIGA are also acceptable as long as

1) It is outsourced to an entity in a Free Zone (or Designated Zone)

2) The outsourced activity can be monitored, controlled and there is adequate supervision of the outsourced activity

3) The outsourced entity has adequate employees, expenditures, and physical assets to perform the outsourced activity

With the above information, we will be in a better position to ascertain if a qualifying free zone person has adequate substance in the Free Zone.