Zero rating of Services
One of the first updates to the UAE VAT Executive Regulations since they were published towards the end of 2017 relates to the zero-rating of exported services. This change in 2020 only involved changing the word ‘or’ to ‘and’, but caused a profound shock in the UAE market for exported services and left a lot of questions open. Given the lack of clarity regarding the update, the FTA subsequently published a VAT Public Clarification on the zero-rating of export of services (“VTP019”) to provide its opinion on the impact of the change.
Prior to the change, Article 31(2) of the Executive Regulations read:
‘For the purpose of paragraph (a) of Clause 1 of this Article, a Person shall be considered as being “outside the State” if they only have a short-term presence in the State of less than a month or the presence is not effectively connected with the supply.’ [Emphasis added]
Following the change in law, this article read as follows:
‘For the purpose of paragraph (a) of Clause 1 of this Article, a Person shall be considered as being “outside the State” if they only have a short-term presence in the State of less than a month and the presence is not effectively connected with the supply.’ [Emphasis added]
Impact of Change
Prima facie this change appeared to significantly restrict the zero-rating, meaning that if an employee or director of a business entered the UAE for a period exceeding a month, all supplies to that business by UAE suppliers would be subject to VAT. Furthermore, where an employee or director came to the UAE for less than a month, but this was even tangentially connected with the supply, the supply would also be subject to VAT. Finally, and potentially most concerningly, the change in law appeared to mean that businesses with branches in the UAE could never benefit from zero-rating, even where this branch had nothing to do with the supply concerned.
Clearly this would have significantly widened the scope of tax and would have caused significant difficulties for suppliers in monitoring staff movements for all their customers.
Once the uncertainty among exporting businesses became clear, the FTA released VTP019 to clarify its position on the meaning of the change, in which the FTA considered the place of residence of the recipient of exported services.
A recipient of services is regarded as having a place of residence in the UAE if they have either a place of establishment or fixed establishment in the UAE. Where a recipient has establishments in multiple jurisdictions, the establishment most closely related to the supply of services must be determined and it is this establishment that will drive the VAT treatment.
UAE suppliers are only entitled to apply the zero rate of VAT on services supplied to customers without a UAE place of residence under the above rules.
The Public Clarification sets out the FTA’s interpretation of the criteria to consider in determining the establishment most closely related to the supply, where there is uncertainty regarding whether a supply of services is received by a foreign or UAE establishment of a recipient. These include the following:
Furthermore, the FTA stated that only the physical presence of the recipient during the period of supply and consumption needs to be taken into account; the location of the recipient before and after performance and consumption of the services should not be taken into account for the purposes of residency in relation to the supply.
Importantly, VATP019 states that when determining the location of the recipient, only the establishment most closely related to the supply should be considered. This means that if a recipient has both UAE and non-UAE establishments, and the non-UAE establishment is most closely related to the supply, the condition that the recipient is outside the UAE may still be met, despite the recipient having a UAE establishment.
While the FTA Clarification provided some welcome clarity in relation pre/post-supply visits to the UAE, as well as in relation to UAE branches and visits exceeding a month not effectively connected to the supply, there are still uncertainties despite the clarification.
For example, the FTA confirmed that a non-UAE recipient of services (including one which already has a UAE establishment) could potentially no longer be considered ‘outside the UAE’ if employees or directors come to the UAE during the period in which the services are performed, and this visit relates to the supply being made.
The problem in this case is that there is no de minimis limit and no concept of scale. For example, a director coming to the UAE for one day for an annual management meeting or in order to sign a contract for the supply could potentially prevent zero-rating. This would be a harsh interpretation of the law, but based on currently available information is perfectly possible.
In summary, UAE businesses involved in the export of services should continue to be careful, especially where customer staff are likely to visit the UAE, as certain seemingly insignificant trips could inadvertently cause previously zero-rated supplies to become standard-rated. Where there is any doubt, professional advice or a private clarification from the FTA should be sought.