Executive summary

On 29 July 2018, the United Arab Emirates (UAE) Federal Tax Authority (FTA) published its VAT Guide on Designated Zones (the guide). The guide discusses:

• Characteristics that a Free Zone must have to qualify as a Designated Zone
• Value Added Tax (VAT) treatment of transactions connected with a Designated Zone

The new guide is important for any UAE business that operates in a Free Zone, or that transacts with suppliers or customers located in a Free Zone.

Detailed discussion

Background

The general principle in the UAE VAT law is that a Designated Zone that meets certain regulatory conditions is treated as being outside the UAE for VAT purposes with respect to the supply of goods. However, there are a number of exceptions where normal VAT rules still apply, and this creates challenges in determining the correct VAT treatment for many transactions.

The FTA has released guidance on Designated Zones to help clarify matters. There are two key factors:

• Does a Designated Zone meet the criteria for special VAT rules to apply?
• If yes, what supplies are treated as occurring outside the UAE (i.e., not subject to VAT)?

Identification of Designated Zones

The FTA guidance confirms that a business operating in a Free Zone is generally treated no differently from a business operating in the Mainland. A Free Zone is treated as part of the UAE for VAT purposes, accordingly:

• An entity operating in a Free Zone needs to register and account for VAT on its transactions under normal VAT rules.
• Supplies to an entity in a Free Zone are subject to normal VAT rules.

Special rules apply only to a Free Zone that is specified in a Cabinet decision to be a Designated Zone. In addition, the Designated Zone must have:

• Security measures and Customs controls in place to monitor entry and exit of individuals and movement of goods
• Internal procedures regarding the method of keeping, storing and processing goods
• An operator that complies with any procedures set by the FTA

VAT on transactions with Designated Zones

The FTA guidance clarifies that the supply of services to, or within, a Designated Zone is not subject to any special rules and shall be treated in accordance with the general rules for the supply of such services.

When goods are sold within a Designated Zone, they will be treated as supplied outside the UAE (i.e., neither the supplier nor the purchaser will account for VAT) if the goods are:

• For resale within a Designated Zone
• Incorporated into products that are produced within a Designated Zone

Goods that will be consumed (e.g., for administrative processes) will be treated as supplied in the UAE and subject to normal VAT rules.

The following transactions within Designated Zones are also treated as outside the UAE:

• The supply of water and energy intended for trade (but not consumption) within a Designated Zone
• Sale or lease of real estate within a Designated Zone
• Supply of raw materials purchased within a Designated Zone for constructing real estate in the Designated Zone
• Transfer of goods between Designated Zones under customs suspension

Implications

The onus is on suppliers to ensure that they apply VAT correctly to transactions. In practice, this means that a business located in Designated Zones will need to:

• Familiarize itself with the special VAT rules
• Confirm that the Designated Zones meets the additional criteria before treating its supplies as outside the UAE
• Satisfy itself that the purchaser of the goods will not be consuming them
• For purchases, be able to clearly demonstrate to suppliers that the various criteria are met if the business wants its purchases to be treated as outside the UAE

It is worth noting that a business located in a Designated Zone is still treated as being in the UAE for VAT registration and tax filing purposes. This means that the business may still claim an input tax credit for any VAT incurred on its purchases (e.g., services).

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CONTACTS

For additional information with respect to this Alert, please contact the following:

Ernst & Young Middle East, Dubai

• David Stevens, EY VAT Implementation Leader
  david.stevens@ae.ey.com
• Nicola Butt
  nicola.butt@ae.ey.com
• Marc Collenette
  marc.collenette@ae.ey.com
• Engela Wiid
  engela.wiid@ae.ey.com
• Martin Lazaroff
  martin.lazaroff@ae.ey.com
• Mark McKay
  mark.mcKay@ae.ey.com
• David Betton
  david.betton@ae.ey.com
• Anthony Brown
  anthony.brown@ae.ey.com
• Javier Pardo
  javier.pardo@ae.ey.com
• Athar Fahim
  athar.fahim@ae.ey.com

Ernst & Young Middle East, Abu Dhabi

• James W Bryson
  james.bryson@ae.ey.com
• Sana Azam
  sana.azam@ae.ey.com
• Gordan Rotkvic
  gordan.rotkvic@ae.ey.com

Ernst & Young LLP, Middle East Tax Desk, Houston

• Gareth Lewis
  gareth.lewis1@ey.com

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ATTACHMENT

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