What is a Tax Deduction or Deductible Expenditure?
A tax deduction (or deductible expenditure) is an allowable expense that a business can claim to reduce its overall tax liability. These expenses reduce the income that is subject to taxation and thus decrease the overall tax liability of the business. These deductions are as per the relevant tax laws and regulations and vary from country to country.
In the UAE, Article 28 of the Tax Law, Federal Decree-Law No. 47 of 2022, describes tax deductions. It describes a tax deduction or a deductible expenditure as an expense incurred wholly and exclusively for the business. Furthermore, the expense should not be a capital expenditure in nature. Note that the tax laws are subject to change, and therefore, experts recommend consulting with a tax professional. Creative Zone Tax & Accounting is one of the best tax professionals for consultation.
Interest Expense:
As per Article 29, interest expenses are deductible. However, it should be wholly and exclusively for business purposes. However, there are rules that limit the amount of the interest expense deduction. Therefore, businesses should be aware of these rules. Let’s discuss these rules as per the tax law.
General Interest Deduction Limitation Rule:
Article 30 provides information on the general interest deduction limitation rule.
1) As a business, you can deduct up to 30% of your accounting earnings before interest, taxes, depreciation, and amortization (EBITDA) as net interest expenditure for the relevant tax period. However, this deduction cannot include any tax-exempt income.
2) In order to calculate your net interest expenditure, subtract the interest income from the interest expense for the tax period. However, you should also include any carryforward net interest expenditure from previous tax periods. Mathematically, we can write the equation for a tax period as:
Net Interest Expenditure = Interest Expense + Carry Forward Net Interest Expenditure – Interest Income
3) The 30% deduction limit does not apply if net interest expenditure for a tax period does not exceed AED 12,000,000. This is as per Ministerial Decision No. 126 of 2023.
4) If the deduction limit excludes any portion of your net interest expenditure, you can carry it forward. You can then deduct carryforward net interest expenditure from future taxable income for up to ten tax periods. However, you must carry forward the amount in the same order in which you incurred it.
5) Any interest expenditure that is not allowed under any other provision of tax law should not be considered when calculating net interest expenditure.
These rules do not hold for banks, insurance providers, individuals conducting business in the State, or any other person as per the Minister.
Specific Interest Deduction Limitation Rule:
As per Article 31, you cannot deduct interest expenses on a loan from a related party for certain transactions. These transactions include paying dividends or distributing profits to a related party. Also, buying back, redeeming, reducing, or returning share capital to a related party. Making a capital contribution to a related party is also included. Lastly, acquiring ownership in a Person who becomes a related party after the acquisition.
The restriction does not apply if the main purpose of the transaction is not to gain a corporate tax advantage. However, the taxable person needs to demonstrate that the main purpose is not corporate tax advantage.
Conclusion:
In conclusion, under the new corporate tax regime in the UAE, interest expenses are generally deductible for tax purposes. However, there are rules that limit the amount of interest expense allowable for a deduction. The general interest deduction limitation rule allows a net interest expenditure deduction of up to 30% of EBITDA. On the other hand, the specific interest deduction limitation rule restricts deductions for certain transactions with related parties. Understanding and adhering to these rules is vital for businesses to effectively manage their tax deductions and tax compliance. Seeking advice from tax professionals can provide valuable guidance in navigating these complexities and optimizing tax positions.
Consult Creative Zone Tax & Accounting (CZTA) for Taxation Matters:
There is no doubt that certain tax rules are complex and need careful application. Therefore, it is always worthwhile to consult an expert to avoid hefty penalties and fines. In the UAE, there are strong repercussions for non-compliance. We have a skilled team of tax experts that are always ready to assist you with business tax matters. Contact us now for any of your taxation needs.
