VAT was introduced just over a year ago in the UAE. The Federal Tax Authority (FTA) has published a VAT guide for the financial services industry.
Financial services involves lots of very complex transactions and consideration mechanisms such as margin and spread. It is globally a difficult industry to tax from a VAT perspective, with many regions opting to apply an exemption from VAT to most or even all transactions. Exemptions mean irrecoverable VAT, an increased cost base and often inflation in the short-term. Exemptions naturally work against the healthy functioning of a neutral VAT system.
The FTA guide says that the UAE "in conformity with the GCC VAT Agreement, has taken a very narrow approach to the use of VAT exemptions…the starting point for the UAE VAT treatment of financial services is that VAT should be charged...where it is practicable to do so."
As a result, financial services attract a charge to UAE VAT at the standard rate of 5% where they are carried out in return for an explicit fee, discount, commission, rebate or similar type of charge. All other transactions in the industry are exempt, zero-rated or outside the scope of VAT depending on the type of transaction and the status and location of the customer. With such a mix of VAT treatments, the industry has had an uphill battle in identifying the correct treatment of each transaction type in the absence of detailed FTA clarification.
To date, registered tax payers had access to the scope of the exemption as set out within the UAE VAT legislation, which gives 10–12 examples of what should be viewed as a financial service for VAT purposes and thereby exempt, unless carried out for an explicit fee or meeting the zero-rated exports criteria. In addition, the FTA held two financial services awareness workshops; one for banking; one for insurance services. Subsequently, they released the Insurance Guide in September 2018 and the Special Method Apportionment Guide in December 2018. Even with these informative mediums for tax payers, certain areas of ambiguity have remained leaving levels of VAT risk within the industry.
The key areas of interest for business within the new guide, include:
Transaction listing: a detailed appendix covering almost 150 types of transactions across eight different sub-sectors within the financial services industry, together with the FTA's view on their VAT treatment.
Multiple and composite supplies: a broad interpretation of the concept of "single composite supply" has been set out by the FTA.An example given within the guide is the provision of a loan product at a particular rate of interest (principal), together with a tablet (ancillary) to make the loan more attractive. In the guide, the FTA does not view this as a multiple supply or that deeming provisions would need to be applied, but instead sees it as a single composite supply with one VAT treatment.
This may be viewed as a broad application of the law - is a tablet really "necessary or essential" to the making of the loan product supply? Does the tablet not "constitute an aim in itself"? It is really a "means of better enjoying" the loan? Are a loan and a tablet so closely linked that it would be unnatural to split them?
These "tests" for multiple/composite supplies under Article 4(3) of the UAE VAT Regulations appear to have been disregarded with the sole application of Article 4(4) of the UAE VAT regulations - i.e. a single composite supply may exist where the price is not separated between the "bundled" goods/services, and all components of the supply are supplied by a single supplier.
In the event this example is replicated by the FTA across similar "bundled" supplies in the financial services or other industries, a number of consequences may arise:
- reduced burden on tax payers of having to split consideration and work out appropriate values of multiple supplies for certain "bundles"
- reduced cost on tax payers of having to account for VAT under deeming provisions on certain "free" gifts to customers
- previously categorised "multiple supplies" / "deemed supplies" may not be "correct" per the FTA's analysis and businesses will need to consider whether to perform a reclassification exercise, change their internal procedures and amend previous treatments
- opportunity for businesses to "bundle" goods/services together in a VAT efficient manner
Provision of credit: an indication within the guide that how the price is shown on the contract or invoice (i.e. a single price or a split price) shall determine the VAT treatment. This is another example of the sole application of Article 4(4) of the UAE VAT Regulations when dealing with the multiple and single composite supply rules by the FTA.
Apportionment Calculation: an emphasis in the guide that all businesses must take care when making use of an input tax apportionment method and should ensure that it is "fair and reasonable" for their particular circumstances. The FTA has highlighted that it "will closely examine the results of input tax apportionments methods used by businesses....and, where necessary, will intervene in order to ensure that a fair and reasonable outcome is secured".
Businesses which undertake financial services transactions, whether operating within the financial services sector or not, should review their transaction listing and associated tax determination, meaning the VAT treatment assigned in their systems, against the FTA guide in order to identify any inconsistencies and areas of risk. Companies should make corrections with the tax authorities and update internal processes and controls to mitigate this risk. Alternatively, clarification or dispute resolution steps may be taken where a tax payer has an alternative interpretation of the law which they wish to pursue.
All businesses with exempt activities, whether financial services, real estate or transportation, should be cautious and accurate with their apportionment exercise in order to avoid the need for the intervention of the FTA.
All businesses, regardless of industry sector, should undertake the same review exercise in the context of "bundled" supplies and the application of the multiple and composite supplies rules, following the FTA's interpretation of this area of law within this guide.
Joanne Clarke is a Middle East VAT expert at Pinsent Masons, the law firm behind Out-Law.com.