VAT Applicability On Dividends For Free Zone Companies


The implementation of VAT in UAE started on 1st January 2018, and numerous businesses in the Free Zone area had zero to minimal as to how this new implementation would affect their businesses, transactions, and relations with their abroad clients. Most of them were concerned about the application of VAT on their dividend income, and it is no doubt that VAT regulations on dividend income would adversely affect their income source if not studied thoroughly.

Dividend income is one of the biggest income sources for Free Zone companies. After VAT implementation, the receiving, recording, and accounting dividend incomes become the major concern for investors and business owners. For accurate records, one should know about the provisions included in VAT

Importance of VAT regulations on dividend income

Without proper and sufficient information, a business cannot analyze all the business transactions for correct accounting and recordings. This information is important in filing a VAT return and determining the eligibility of input VAT claims regarding all expenses in the transactions. Any errors, misleadings, or miscalculations in the tax classification can lead to major losses, penalties due to non-compliance with the regulations, and reconciliation errors with the other parties involved. Such penalties are no less than a nightmare for a business in the Free Zone countries.

Classification of dividend income in VAT regulations

As per the VAT regulations, dividend incomes come under financial services, and under certain conditions, financial services are exempted from VAT. The business needs to show a supply of services and goods for availing of an exemption. Dividend income is a category of passive income, as stated by the FTA in its public clarification, due to the absence of supply from the receiver's side and because dividend declaration solely depends on the company's profit. The absence of supply makes it non-taxable under VAT.

The general rule of VAT states that passive incomes are not within reach of VAT purposes. Passive incomes are those sources in which the receiving person or organization does not supply anything in return and simply receives the profit. Dividend income satisfies this condition, so it does not come under the taxable slot.

Reporting dividend income in the VAT return

The income reported in the VAT return should either be taxable at the standard or zero rate or be exempted from it. There is no compulsion or need to report dividend income in the VAT return once it is out of the scope of VAT. Therefore, it implies that a person, organization, business, or company that receives dividend income as a passive income form due to owning the shares of a company need not include it in the VAT return.

Management fee and dividend income

It is clear that dividend income is out of the scope of VAT, but the management fee is taxable as per the standard rates. For instance, if a team or group of business owners own a company and has subsidiaries, the team can charge a management fee from each subsidiary at the rate of 5%. Moreover, the team will have to issue a tax invoice mentioning the details of the management fee from the subsidiaries. This management fee is taxable as it is a supply of service by performing an act of management services, and all supplies of services are taxable under VAT. 

FlyingColour tax at your service

Multiple activities, transactions, and records occur in a business, and it is quite challenging for business owners to tackle them while filing tax returns. In such cases, it is always better to contact VAT experts who can do the hectic work for you soon. FlyingColour tax has years of experience in tax services, consultations, and financial statements for all types of organizations and businesses in the UAE.

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