Taxation is essential to the global economy as it keeps the government operations and services to the people. Value Added Tax (VAT) is one of the most popular tax structures which are implemented among the numerous tax structures in use. VAT is not only efficient but it also maintains a predictable flow of revenue without overloading business or individuals.
VAT was first implemented in the United Arab Emirates (UAE) in 2018 as a component of a wider plan to shift the focus on the sources of income to include other models other than oil. VAT was a novel concept to many residents and companies and as a result, it necessitated changes in accounting, reporting and compliance. Even decades later the questions are still: What is VAT? How does it work in the UAE? What is its difference with GST? And business, what should it know of VAT returns, supplies and registration?
This in-depth guide will respond to these questions as it will discuss the advantages and disadvantages of VAT in UAE.
What is VAT?
Value added tax or VAT is an oblique tax imposed on the use of goods and services. VAT is imposed at every step of production and distribution unlike other direct tax like corporate or income tax which are paid by the final consumer.
The concept of VAT is a simple one; at every level of the value chain, companies contribute value to the services or products they are offering. Part of this value is taxed and this gives a system where the government receives money in bits.
As an illustration, a clothing company in Dubai. In cases when the manufacturer purchases fabric with a price of AED 1,000, he or she pays a VAT of AED 50. After this, they sell the finished clothes to a retailer at AED 2,000 and VAT of AED 100. The manufacturer remits only AED 50 to the government but the AED 50 it pays has been already paid by the government. When the retailer transacts with a customer the clothing at AED 3,000 and an additional VAT of AED 150, the retailer will also remit the difference between their input and the VAT charged on them. This chain is fair and it does not lead to taxation.
VAT in the UAE: An Overview
VAT was introduced in the UAE on 1 January 2018 and is currently being implemented at a standard rate of 5, one of the lowest rates in the world. The Federal Tax Authority is an institution that was formed with the view of controlling, collecting, and imposing VAT within the Emirates.
Why VAT was introduced
The UAE traditionally used the oil revenues to finance the infrastructure, healthcare and education. The world oil prices were fluctuating and the government realized that there was a necessity to have an even more stable and sustainable source of income. The introduction of VAT thus became a part of the GCC vat agreement signed between the Gulf nations.
How VAT affects daily life
VAT has been integrated into the economy of the UAE, whether it is in the form of groceries, or restaurant bills. A meal that may have cost AED 200 now has to be charged an extra AED 10 in VAT. In the case of businesses, VAT compliance now has become a part of the standard accounting practice and invoices, receipts, and records have to be handled with a lot of care.
How Does VAT Work in the UAE?
The VAT in UAE is a multi-stage tax, which is charged at all the levels of the supply chain but ends up being paid by the consumer.
Output VAT and Input VAT
Companies impose VAT on sales also known as output VAT. They also pay VAT on their personal purchases, termed input VAT. In the process of filing VAT returns, the business subtracts input VAT with the output VAT and forwards the difference to the FTA.
To illustrate, a Dubai based electronic store receives AED 5,000 of the VAT contribution in a given quarter but has already paid AED 3,000 of VAT to suppliers. All that the store should do is to pay AED 2,000 to FTA.
Exemptions and zero-rating
Not everything in the UAE is taxed. There are zero-rated and some are exempt. As an example, the exports are zero-rated, i.e. they do not claim VAT, yet businesses can claim input VAT. In comparison, some of the financial services are excluded and enterprises in the industries do not recover the input VAT.
VAT and GST Difference.
- VAT Defined
VAT is a value added tax that is imposed on every supply step and adjustments can be made by input and output credits.
- GST Defined
GST or Goods and Services Tax is a broad collusive tax used in India, Canada and Australia. It eliminates several forms of indirect taxes such as excise duty, sales tax and service tax in favor of a single and standard system.
Key Comparisons
VAT and GST are both aimed at consumption but they are different in their structures. GST is likely to make taxation easier by ensuring that various taxes are eliminated and amalgamated into one tax. The VAT that is implemented in the UAE is more straightforward in rate (only 5 percent) but it is more specific, as it only focuses on the consumption of goods and services.
To the businesses in the UAE, VAT is also relatively easy, as compared to GST in other countries, which has many rates (0, 5, 12, 18 and 28) and complicated state and federal branches.
What is a VAT Return?
VAT return can be defined as an official statement that is provided to the FTA and registered businesses; it is normally done on quarterly basis
Purpose of VAT returns
VAT return balances sales and purchases VAT collected and paid respectively. It guarantees transparency of businesses and the government gets proper revenue.
Filing process in the UAE
The VAT returns are submitted online at the FTA portal. Businesses register, report their sales, purchases, and VAT that they can pay and submit the form. Depending on the fact that output VAT is greater than input VAT or the opposite, payment or refund occurs.
Deadlines and penalties
The normal payment time of the returns is 28 days at the end of every tax period. Failure to meet the deadline may be followed by a fine, starting with AED 1,000 in the first case and increasing drastically upon occurrence of recurrence.
Types of VAT Supply in the UAE
- Taxable supplies
Taxable supplies in the UAE mostly include most goods and services and they are subject to the normal 5 percent VAT. These are electronics, clothing, dining and entertainment.
- Zero-rated supplies
The tax on exports, international transport, some healthcare services and educational services is 0%. Zero-rating is still useful to businesses operating in these industries because they can claim back VAT on purchases.
- Exempt supplies
There are supplies leading to exemption of VAT like residential property rentals and certain financial services. With such cases, businesses are not able to claim input VAT.
- Out-of-scope supplies
There are transactions which are not subjected to VAT at all, including salaries, donations, supplies that are outside of the jurisdiction of the UAE.
VAT Registration in the UAE
- Mandatory registration
VAT registration is required of businesses having yearly taxable turnover that is over AED375,000.
- Voluntary registration
Firms whose turnover exceeds AED 187,500 are free to be registered on a voluntary basis. This can be quite appealing to the SMEs who would also like to receive input VAT and credit enhancements with partners.
- Registration process
The FTA has completely computerized the process. Businesses register via the portal and deliver such documents as trade licenses, financial statements, bank account details and Emirates IDs of the owners. After the FTA approves it, a Tax Registration Number (TRN) is issued to the person, and it must be stated on all invoices and official documents.
Importance of compliance
Businesses have to pay VAT, maintain comprehensive financial documentation, issue invoices that are compliant with VAT and file VAT returns on a regular basis, once registered. Failure to comply results in fines that may have a dire effect on profitability.
Pros of VAT in the UAE
- Perpetual government income.
VAT has established a stable flow of revenue to the UAE to finance infrastructure development and government services.
- Transparency in business
The need to have precise records will make business more transparent, prevent fraud and enhance corporate governance.
- Low burden on consumers
The VAT rate in UAE is at 5 which is low compared to most countries making it affordable to the consumers.
- Encouragement for SMEs
Voluntary registration enables SMEs to refund the input VAT and to position themselves as professional businesses that are compliant.
Cons of VAT in the UAE
- Higher consumer prices
VAT increases the cost of goods and services even at 5% and this can accumulate with time to households.
- Administrative challenges
Small enterprises usually find it hard to comprehend the needs of accounting and filing in VAT and require new systems and professional help.
- Penalties for errors
Late submissions or misclassification of supplies may lead to penalties with heavy penalties being paid and this presents a risk to the businesses who do not understand the VAT regulations.
- Regressive nature
Since VAT is imposed in the same way, it does not make differentiations between consumers with high-income and low-income, with the latter being more affected.
Case Study: VAT on the UAE Retail Industry.
The effect of VAT can be well traced in the retail industry. Until 2018, Dubai mall shoppers used to pay the price tags only. Each purchase will contain an additional 5% after VAT. To retailers, this implied a revision of point-of-sale systems, personnel training, and accounting reorganization. Although this came with some challenges, the majority of the retailers adapted and VAT has become an accepted aspect of the shopping process.
Future of VAT in the UAE
The UAE currently has a 5 percent VAT, although some analysts believe that UAE can contemplate increasing the VAT rates in future because other nations have also been increasing the VAT rates to diversify their revenue. The only way that businesses can be ready to face such changes in policies is to have strong VAT systems and processes.
Conclusion
Since its introduction in 2018, VAT has essentially transformed the economic environment of the UAE. The government has been able to develop a long lasting source of revenue by implementing a low and manageable rate of 5, and by doing so the cost burden has been left within reach.
Compliance under VAT to the businesses to business means knowledge of taxable, zero rated, exempt supplies and out of scope supply, filing of proper VAT returns and maintaining of good financial records. VAT has improved transparency, accountability and economic resiliency in the UAE in spite of the challenges that still prevail particularly against the SMEs, as the nation expands and diversifies further. The companies thereby that will adopt compliance and incorporate VAT in their day-to-day activities will end up not only evading penalties but also in the long run have the benefit of credibility as well as efficiency.
FAQ
The UAE has a 5% tax on goods and services (VAT) which was implemented in 2018 and controlled by the Federal Tax Authority.
VAT (Value Added Tax) is a consumption tax that is imposed on every one of the supply chain stages and that is paid by the final consumer.
VAT is determined as 5 percent of the sales (output VAT) less the VAT that has been paid on purchases (input VAT).
These are the three categories, namely, standard rated (5%), zero rated (0% and input recovery), and exempt (no VAT, no recovery).
