"Free zone means no tax" was true for years. Under UAE Corporate Tax, it's more nuanced: a free-zone company can pay 0%, but only if it qualifies, and only on the right kind of income. Getting this wrong can mean a 9% tax bill on everything for five years.
Two rates for free-zone companies
A free-zone company that meets the conditions is a Qualifying Free Zone Person (QFZP). It pays:
- 0% on qualifying income
- 9% on taxable income that is not qualifying income
A free-zone company that doesn't meet the conditions is taxed like a mainland company: 0% on the first AED 375,000 of taxable income and 9% above.
The conditions to be a Qualifying Free Zone Person
A free-zone company must meet all of these:
- Adequate substance in the free zone: enough employees, assets and operating expenses in the UAE to carry out its core income-generating activities.
- Qualifying income: it earns income from qualifying sources (see below).
- The de minimis test: non-qualifying revenue stays within the limit.
- No election to be taxed at the standard rates.
- Transfer pricing compliance: related-party transactions at market value, with the required documentation.
- Audited financial statements for the tax period.
What counts as qualifying income?
Broadly, a QFZP's qualifying income is:
- Income from transactions with other free-zone persons (who are the beneficial recipients), except from excluded activities
- Income from qualifying activities carried out with anyone, including mainland and overseas customers, except from excluded activities
- Certain income from qualifying intellectual property
Qualifying activities include
- Manufacturing and processing of goods or materials
- Trading of qualifying commodities (such as metals, minerals, energy and agricultural commodities traded on recognised exchanges)
- Holding shares and other securities for investment
- Ship ownership, management and operation
- Reinsurance, fund management and wealth management services (subject to regulation)
- Headquarter, treasury and financing services to related parties
- Distribution of goods in or from a designated zone
- Logistics services
Excluded activities include
- Most transactions with natural persons (individuals), with limited exceptions
- Banking, and most insurance, finance and leasing activities
- Owning or exploiting UAE immovable property, other than certain commercial property in a free zone with other free-zone persons
Common surprise: many free-zone consultancies, agencies and IT service companies earn most of their income from mainland or overseas clients for services that are not qualifying activities. That income is non-qualifying, and may push the company over the de minimis limit.
The de minimis test
A QFZP can earn some non-qualifying revenue without losing its status, as long as it stays within the lower of 5% of total revenue or AED 5 million in the tax period. Certain revenue (such as some free-zone property income and revenue attributable to a permanent establishment) is left out of the calculation.
| Total revenue | 5% of revenue | Maximum non-qualifying revenue |
|---|---|---|
| AED 10 million | AED 500,000 | AED 500,000 |
| AED 60 million | AED 3 million | AED 3 million |
| AED 200 million | AED 10 million | AED 5 million (the cap) |
What happens if you fail
If a free-zone company fails any QFZP condition, including going over the de minimis limit, it loses its status for that tax period and the following four tax periods. During that time all its taxable income is taxed at the standard rates. That's why tracking qualifying and non-qualifying income every month, not at year-end, matters so much.
Practical steps for free-zone companies
- Register for Corporate Tax: every free-zone company must, even at 0%.
- Map every income stream: who the customer is, where they are, and which activity it comes from.
- Set up your chart of accounts to separate qualifying and non-qualifying revenue.
- Check substance: staff, premises and decision-making in the UAE.
- Plan for an annual audit.
- Remember: QFZPs can't claim Small Business Relief. A small free-zone company should compare both routes.
Read our free-zone guides for DMCC, IFZA, JAFZA and RAKEZ.
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