Is your company compliant with the new UAE Value Added Tax (VAT)? Be the hero by learning these 11 key facts to help make your company compliant and save money.
The What and Why of VAT in The UAE
The UAE Value Added Tax (VAT) is here and with it comes quite a few changes.
How businesses handle everything from accounting and finance to supply chain management and pricing structure are affected.
VAT is a type of “general consumption tax” that’s collected and paid incrementally based on the value added at each stage of the production and sale of products and services.
VAT is a consumer tax, imposed on most goods and services, that’s ultimately passed from business to business until it reaches the end consumer.
The goal is to help the government reduce its dependence on oil and other hydrocarbon products as a source of their revenue, so the country can be better equipped to handle market changes and provide better services to citizens and residents.
Since the changes affect most businesses, you’re probably wondering what impact they’ll have on yours and how you can help your company adapt.
This post will help you better understand exactly that.
Table of Content
- The What and Why of VAT in The UAE
- Fact #1: VAT is Neither a Revenue nor an Expense
- Fact #2: VAT Registration Might Be Optional, but You Should Probably Do It Anyway
- Fact #3. Your Prices Should Be VAT Inclusive
- Fact #4: Payable VAT = Output VAT – Input VAT
- Fact #5: Zero-Rated and tax-exempt Supplies Are Not the Same
- Fact #6: Importers: VAT Will Not Affect Your Expenses
- Fact #7: Keep Business and Personal Expenses Separated
- Fact #8: Record Keeping: What to Keep and for How Long
- Fact #9: Not Everything a School or Healthcare Facility Sells is Zero-Rated
- Fact #10: Don’t Charge VAT to a Sister Company
- Fact #11: Free Zone Companies are not Exempt from VAT
- Final Thoughts…
1. VAT is Neither a Revenue nor an Expense
It’s important to note that your business takes on the role of tax collector in VAT system.
The ultimate burden of VAT will be borne by the end consumer of the goods or services you provide; you’re simply collecting and holding the taxes they pay for a period of time.
Having said that, as your company’s accountant or financial manager, you’ll have to keep track of all VAT that you collect from customers and pay on purchases your company makes.
From this, you’ll calculate the “Payable VAT” to be transferred to tax authorities each month or quarter (depending on your VAT calendar period).
How do you account for this?
Well, VAT shouldn’t appear on your profit and loss statement as either a revenue or expense.
In theory, you never “own” VAT that you collect from your customers.
By the same token, you never “own” the expense of VAT you pay on the purchases you make to create taxable goods and services (also known as “taxable supplies”).
Again, VAT is meant to be paid by the end consumer, not by the businesses that serve them.
So how are VAT taxes recorded?
Any VAT you collect will be recorded as a liability to the Federal Tax Authority (FTA) to be paid at the end of the month or quarter.
And any VAT you pay to your suppliers for goods and services you use to create your taxable supplies will be recorded as an asset you can recover from the FTA when you file your taxes.
To illustrate, let’s say you issued an invoice to a customer for AED 1,050. The goods are 1000 dirhams and VAT (5% of the price) is 50 dirhams. On your records, you would record the transaction as follows:
Now let’s say you bought stock items for AED 5,250. The stock cost 5,000 dirhams VAT is 250 dirhams.You would record this purchase as follows:
We’ll explain what “Input VAT,” “Output VAT” and “Payable VAT” are later on.
2. VAT Registration Might Be Optional, but You Should Probably Do It Anyway
Unless your company is new, you’ve probably already registered for VAT.
Or perhaps you didn’t register because you didn’t think you had to.
Whatever the case, if you haven’t registered we strongly recommend you do so unless you don’t meet the registration threshold.
Two reasons why:
- Unless your business is so small it has an average revenue of less than AED 32K a month (375K/year), VAT registration required and there’s an AED 20,000 fine for not doing so.
- While you can get an exception from registration if all or most of your supplies (goods and services) are zero-rated, you won’t be able to claim back your input tax (the tax you pay to your suppliers).
Let’s illustrate this with an example:
Dr. Matthews runs a medical clinic, and his supplies (healthcare services) are zero-rated – meaning they are considered taxable, but the tax rate is 0%.
So he applies for an exemption from registration because he doesn’t want the headache of filing his taxes, which is quite understandable.
However, Dr. Mathews will pay VAT on supplies in order to run his clinic – things like rent, insurance, and other similar supplies.
These could amount to tens of thousands of dirhams which he then can’t recover from the FTA.
So, unless your business doesn’t purchase any taxable supplies or your business can’t register because your income from taxable supplies is under AED 187,500 a year, we strongly suggest you look into it.
3. Your Prices Should Be VAT Inclusive
As part of your compliance with the law, your business is required to charge VAT for any taxable supplies you provide to customers.
So to make things easy, perhaps you decide you’ll just add the tax to a customer’s bill when it comes time to pay.
This, however, is against the law.
The prices you display on the shelf or menu and the price the customer pays at the counter should be inclusive of VAT.
Let’s say your grocery store used to sell cans of chickpeas for 20 dirhams each.
With VAT, the total price is now 21 (20 dirhams for the can + 1 dirhams 5% VAT).
To meet VAT requirements for transparency, your price on the shelf should now show 21, not 20.
And when the customer comes to the counter, your bill should show how much VAT the customer paid as a separate line item (1 dirham).
Here’s an example:
That being said, there are exceptions.
You can add VAT on top of the price of your goods or services in the following cases:
- Business to Business transactions if the buyer is VAT registered business (they have a Tax Registration Number [TRN])
- If the supplies are destined for export
In such cases, the invoice could look like this:
4. Payable VAT = Output VAT – Input VAT
Again, the burden of paying VAT falls on the final consumer of taxable goods and services.
As a business, for the most part, your company will be a transitional step in the delivery of goods and services from your suppliers to end consumers, so you should not be “paying” VAT.
But when you buy taxable supplies from your suppliers you will be charged VAT.
So how do you account for that?
As far as businesses are concerned, there are three types of VAT.
VAT you collect from your customers is called “Output VAT.”
VAT you pay to your suppliers is called “Input VAT.”
And when the time comes to pay VAT you owe to the FTA, “Payable VAT”, you’re only required to pay the difference between the two.
In other words:
Payable VAT= Output VAT – Input VAT
Keep in mind that not all VAT you pay on purchases your business makes is considered Input VAT.
Input VAT is paid on goods and services used in the making of taxable supplies.
So, if the goods or services you provide are not taxable or if the purchases you make are not for business use, you cannot recover the input tax.
For example, if your company sells certain financial services, local passenger transportation or tax-exempt residential real estate, then you cannot recover the input tax used to produce these services (see our chart below for a list of zero-rated and exempt goods and services).
Moreover, VAT you pay to entertain your staff or for goods and services for personal use of management are not recoverable.
5. Zero-Rated and tax-exempt Supplies Are Not the Same
As far as the final consumer is concerned, say a tenant of a residential building or a patient at a health clinic, zero-rated and tax-exempt goods and services are the same – in either case, he or she doesn’t have to pay VAT.
For businesses, however, there is a huge difference and not knowing this could get you in trouble.
First things first, you will need to know what supplies qualify as zero-rated, and what supplies qualify as tax-exempt. Here’s a chart for reference:
Second, as we explained in point #4, a business will only need to pay any Payable VAT they’ve accrued – which is where the difference between zero-rated and tax-exempt comes into play.
Whether the supplies a business creates are tax-exempt or zero-rated, some expenses will be incurred in the creation and provision of those supplies.
The major difference between tax-exempt and zero-rated is that a business can recover VAT it pays to create or provide zero-rated supplies, but not for tax-exempt supplies.
So, referring to the chart above, if your business provides zero-rated preventative healthcare services, you can recover any VAT paid to rent your office space.
If, however, your business provides tax-exempt domestic transport services, any VAT paid for real estate, insurance, etc. cannot be recovered.
As we alluded to above, another major difference between zero-rated and tax-exempt supplies is the registration threshold.
When calculating whether your business exceeds the registration threshold of AED 375,000 a year, revenues from zero-rated supplies are counted, while revenues from tax-exempt supplies are not.
If your company only provides zero-rated supplies, then you can apply for a VAT exception from the FTA, but you’ll still have to go through the initial registration process.
So, if you haven’t registered because all of your supplies are zero-rated, hurry and register as you might be penalized for failing to do so.
6. Importers: VAT Will Not Affect Your Expenses
Under the new tax structure, importers will now have to pay VAT on top of any customs duties; any supplies bought from abroad are treated the same as those from the local market.
But there is a difference in how these are recorded in your books that affects your Payable VAT.
As a business importing supplies from abroad, you’re not expected to carry the burden of VAT, as it is assumed you or another business will use those supplies to make other taxable supplies.
This is where the VAT “Reverse Charge” comes in.
The Reverse Charge is a mechanism by which importers recover any VAT they pay on their imports. Here’s how it works:
Your business charges itself both output tax and input tax for each transaction.
So if your business imports AED 5,000 worth of garments, your books would look something like this:
The net effect is that the transaction will incur no additional Payable VAT burden as the input and output taxes cancel each other out.
But, there are two cases where your business might be negatively affected in the process of importing supplies.
- Not registered for VAT: Again, if your business isn’t registered for VAT, then it will still be responsible for paying the Input VAT for the imported good but can’t then record the Output VAT for that same good in its books.
- Importing goods not used to make taxable supplies: If your business imports a good that isn’t sold or otherwise used to create a taxable supply, say, a Mercedes to use as a company car, then you will have to pay VAT on it before it will be cleared by customs.
This last point leads nicely into our next point.
7. Keep Business and Personal Expenses Separated
By now you know that your business can recover VAT on purchases made for the provision of taxable supplies (goods and services for which VAT is charged).
This means VAT paid for supplies your business purchases to make goods or provide services that are standard or zero-rated can be recovered.
But VAT paid for other supplies your business purchases can’t be recovered.
Here are a few examples for clarification:
- VAT paid to the organizer of the company annual gathering is not Input VAT, it’s an expense.
- If the owner of the business raids the stockroom and decides to take some inventory material home with him, then VAT on those items is not Input VAT but an expense.
- A car bought for the personal use of a manager (as a benefit of the job rather than as a necessary piece of equipment to deliver taxable supplies) is not Input VAT, it’s an expense.
The key thing to remember here is this: if you know that the purchase was made for personal use, a use not directly related to your company’s production or provision of a taxable supply, then don’t record VAT paid on the purchase as Input VAT, but include it as part of the expense of that purchase.
If you buy some supplies with the intention of using them for business, then change your mind later and use them for non-business purposes, then you will have to go back and adjust the input VAT paid on those purchases.
Are there more conditions and exceptions to this rule? Is the sky blue? Of course there are.
What we want to emphasize is that you should watch out for personal expenses and account for them to be on the safe side.
8. Record Keeping: What to Keep and for How Long
Consider this scenario: it’s been two years since you filed your taxes, closed your financial year and issued your audit report.
However, those old records are taking up a lot of space and your boss is asking you to make room for a new employee.
What should you do?
The easy answer is to throw away those old records and get rid of the filing cabinets to make the office more spacious.
This, however, could land you in a lot of trouble with the tax authorities.
The FTA requires that VAT records be kept for 15 years for real estate businesses and 5 years for all other businesses.
But what records do you need to keep?
Here’s a partial list.
Books of account and any information necessary to verify entries, including, but not limited to:
- Annual accounts
- General ledger
- Purchase day book
- Invoices issued or received
- Credit notes and debit notes
Invoices, credit/debit notes:
- All tax invoices and alternative documents related to receiving goods or services
- All tax credit notes and alternative documents received by your business
- All tax invoices and alternative documents issued by your business
- All tax credit notes and alternative documents issued by your business
- Imported of goods and services
- Exported goods and services
- Goods and services that have been disposed of or used for matters not related to business
- Goods and services purchased for which the input tax was not deducted
- VAT due on taxable supplies (including those related to the Reverse Charge mechanism)
- VAT due after error correction or adjustment
- VAT deductible after error correction or adjustment
- VAT deductible for supplies or imports
The penalty for not keeping the records is very steep: AED 10,000 for the first offense and AED 50,000 each for any more – so be sure to maintain accurate records for the full duration required by law.
If office space is of concern to you, the tax authorities give you the option to keep digital copies of your records with certain conditions.
9. Not Everything a School or Healthcare Facility Sells is Zero-Rated
If you work for a nursery, school or government-funded university, you probably know your educational services are zero-rated supplies.
However, this doesn’t mean everything your school charges for is zero-rated.
Yes, as with so many VAT rules and regulations, it’s more complicated than that (did we mention that the regulations were written by lawyers?).
In general, when it comes to the tax status of the goods and services your school provides think of it this way: everything is standard-rated except tuition and curriculum-related teaching materials.
In other words, everything that is not either a school fee or teaching-related material like physical or electronic books is actually taxed at a 5% rate.
Here’s a partial list of what this might include:
- Non-curriculum related field trips
- Courses and lessons provided to non-registered students
- Notebook computers and iPads sold to students
- Extracurricular activities
This same logic applies to the supply of healthcare goods and services.
So be sure to thoroughly go through the list of all the things your business or organization sells and make sure you know which are zero-rated and which are not.
10. Don’t Charge VAT to a Sister Company
When it comes to VAT registration, a group of companies can register as one entity if they share “legal, economic, and regulatory status.”
This is most often the case when a group of companies is owned by the same owner or group of owners.
If your company is a part of such a group, you may apply for group registration or the FTA may register your group that way itself.
The whole group will then be issued a single Tax Registration Number (TRN) and will be represented by one company from the group.
That “representative company” will file a tax return on behalf of the whole group.
But how do you account for the Input and Output VAT for transactions within the group?
In other words, how much tax should one company in the group charge a sister company in the same group?
The answer is none!
See, transactions between a registered group of companies are treated as internal transactions, just as if they’re transactions within the same company.
So transactions within the group are outside the scope of VAT.
VAT comes back into play when any of these companies issues invoices to customers outside the group or purchases taxable supplies from a vendor.
In these cases, the Input or Output VAT should be paid, charged, and accounted for.
Let’s look at an example.
A bakery and a foodstuff supplier are part of the same tax group.
When the bakery buys flour from the foodstuff company, no VAT is charged.
But when the bakery sells bread and cakes to customers, the applicable VAT is charged to the customer.
And when the foodstuff company buys unprocessed wheat from a farmer, they should pay the applicable VAT.
11. Free Zone Companies are not Exempt from VAT
First of all, to clarify, what are commonly known as “Free Zones” are called “Designated Zones” in the tax regulations.
The official list includes 20 Designated Zones:
It’s a common misconception that companies established in these zones don’t have to register for and charge VAT. This is not true.
While there are exceptions, the same registration requirements apply to companies in these zones.
Those exceptions are a bit too complicated to go over here, but we’ll send you a list of the most common exceptions (plus a few less common ones) in one of our future emails.
So be sure to look for that in your inbox if your company does business in a Designated Zone or with a company that’s in one!
To some, VAT is a mystery. To others, it’s a challenge. And to the astute among us, it’s an opportunity.
A mystery because the concept of taxation is new to the region and hasn’t been dealt with before.
A challenge because, like it or not, every accountant and financial manager in the UAE has to acquire the knowledge and skills to make their business VAT compliant in a short amount of time.
But there’s an opportunity in mastering VAT.
It will mean impressing your boss and peers; it will mean excelling at your job and with that excellence, new career opportunities will open up for you as a taxation expert.
And those who master the knowledge first will have a head start.
We hope this post has helped you gain some of that knowledge and mastery beyond what you’ve found so far.
And if you have any questions about these facts or anything else VAT related – we want to hear from you!
Post your comments below, or contact us and we’ll get back to you with specific advice and resources to help you with anything and everything VAT!