The first structural decision for anyone establishing in the United Arab Emirates is whether to incorporate in a free zone or on the mainland. For years the answer was driven largely by ownership rules, since mainland companies generally required a local partner while free zone companies did not. That driver has largely gone, and the introduction of federal corporate tax has replaced it with a different and more consequential set of questions.
What changed
Two reforms reshaped the decision. The relaxation of foreign ownership restrictions on the mainland removed the historic reason many businesses chose a free zone by default. And the introduction of federal corporate tax, at a standard rate of nine per cent, created a meaningful distinction between a free zone entity that qualifies for the zero per cent rate on qualifying income and one that does not. The decision is now a tax and market-access decision rather than an ownership one.
The rate structure sits in Article 3 of Federal Decree-Law No. 47 of 2022 on the taxation of corporations and businesses, and it is two structures rather than one. An ordinary taxpayer pays nothing on the portion of taxable income below the amount the Cabinet sets and nine per cent on the excess, and that amount was fixed at 375,000 dirhams by Cabinet Resolution No. 116 of 2022, which also provides that where the authority finds that persons have separated a business or business activity in a fictitious manner, and the income of all of it taxed at zero exceeds that amount, this is deemed an arrangement to obtain a corporate tax advantage under the general anti-abuse article of the law. A qualifying free zone person is taxed on a different axis: zero on qualifying income, and nine per cent on the taxable income that is not qualifying income.
A later amendment added a third clause to the same article, directing the Cabinet to issue a decision regulating the imposition of a top-up tax on multinational enterprises, and the exemptions from it, so that the total effective rate imposed on them is fifteen per cent. The Cabinet has issued that decision. Cabinet Decision No. 142 of 2024 on the imposition of top-up tax on multinational enterprises imposes it in the cases and on the conditions set out in its annex, and applies to fiscal years beginning on or after 1 January 2025. For a group large enough to come within it, the free zone rate is not the last word on what the Emirates entity costs, and the structuring conversation has to start from the group rather than from the licence.
Who can own the mainland company
The ownership reform is real, and it is also narrower than the shorthand suggests. Article 10 of Federal Decree-Law No. 32 of 2021 on commercial companies does not state a national shareholding percentage. It states a mechanism. A committee including representatives of the competent authorities proposes the activities with a strategic impact and the controls required to license companies engaging in them, and the Cabinet then issues the resolution that defines those activities and those controls.
That resolution is Cabinet Resolution No. 55 of 2021, which sets out the list of activities with a strategic impact in two parts. The first part names, for each activity in it, the federal regulator whose approval conditions the licence; the second fixes the percentage of national participation in the resolution itself, with no regulator and no approval procedure under the resolution. The list is the authority on its own contents and is worth reading rather than paraphrasing; what carries across the first part is the procedure. A foreign investor who wishes to engage in an activity in that first part applies to the competent authority of the emirate, that authority passes a compliant application to the regulator within five working days, and the regulator has a maximum of fourteen working days from receipt, or from the point at which all conditions are met, to approve or refuse. Where it approves, it fixes the percentage of national participation itself, together with any further conditions it considers appropriate.
Two further features, one in Article 10 and one in the resolution, survive the reform and are easy to miss when a structure is being planned from outside. Subject to the powers the Cabinet exercises through that resolution, the competent authority of the emirate may determine a particular ratio for the contribution of UAE nationals to the capital or to the boards of directors of companies incorporated within the scope of its competence. And the resolution requires the competent authority to report to the committee every three months on licensed strategic projects and on any change that occurs in their ownership or shareholders. An ownership arrangement in one of these sectors is supervised over time, not approved once.
Where you can sell
The central practical difference remains market access. A mainland company can trade freely within the UAE domestic market. A free zone company faces restrictions on doing business directly in the mainland market, and typically serves it through a distributor or a mainland branch. For a business whose customers are inside the UAE, this alone frequently decides the question, regardless of tax.
Conversely, a business whose customers are outside the UAE, exporting services, trading internationally, holding assets, managing funds, may find the free zone regime aligns naturally with what it does, since the qualifying income rules are built around exactly that kind of outward-facing activity.
The branch route has its own legal basis. The commercial companies law does not apply to companies established in the free zones of the State in respect of matters for which the law or regulation of the zone concerned makes special provision, and where the legislation of the free zones and the financial free zones permits companies established there to conduct activities outside the boundaries of the zone and within the State, those companies may establish branches or representative offices in the State, which are then subject to that law. The same law allows a company to transfer its registration from a free zone to the competent authority and the other way round, on the conditions it sets for the transfer, including those for the authority being left and the authority being joined, so the choice made at incorporation is not irreversible.
The free zone is not a cheaper version of the mainland. It is a different proposition, built for businesses whose customers are somewhere else.
The qualifying free zone person test
A free zone entity does not obtain the zero per cent rate simply by being in a free zone. It has to meet the conditions to be a qualifying free zone person, which include maintaining adequate substance in the zone, earning income from qualifying activities, keeping non-qualifying revenue within the permitted limits, complying with transfer pricing requirements and preparing audited financial statements. Failing the test does not merely lose the benefit for one transaction; it can remove qualifying status for the period and those that follow. We set out the detail in our note on the qualifying free zone person and the zero per cent rate.
The conditions themselves are in Article 18 of the corporate tax law and they are cumulative. The entity must maintain adequate substance in the State, derive qualifying income as specified in a Cabinet decision, not have elected to be taxed at the ordinary rates, and comply with the arm’s length article and the transfer pricing documentation article, and it must meet any other condition the Minister prescribes. The Minister has used that last power. Ministerial Decision No. 229 of 2025, which replaced the 2023 decision on qualifying and excluded activities, adds a further two: non-qualifying revenue within the de minimis requirement, and audited financial statements prepared in accordance with the ministerial decision on that subject.
The consequence of failure is the part that is routinely underestimated. Article 18 provides that a qualifying free zone person which fails any of its conditions at any particular time during a tax period ceases to be one from the beginning of that period, and the ministerial decision extends the same consequence to the four tax periods that follow. A breach discovered in one year therefore reaches five periods rather than one, and it is not answered by putting the position right the following year. The election in Article 19 runs in the opposite direction and is voluntary: a qualifying free zone person may elect to be taxed at the ordinary rates, with effect from the beginning of the tax period in which the election is made or the beginning of the next one. Both the failure and the election change the entity’s treatment for years, which is why neither should be discovered after the event.
What counts as qualifying income
Cabinet Decision No. 100 of 2023 determines what qualifying income is, and it is built as a general rule with exclusions carved out of it rather than as a list of approved receipts. Income qualifies only if it is not attributable to a domestic permanent establishment or a foreign permanent establishment of the free zone person, not derived from the ownership or exploitation of immovable property in the terms of the decision’s own article on that subject, and not treated as taxable income by its article on intellectual property. A domestic permanent establishment, for this purpose, means a place of business or other form of presence of the qualifying free zone person outside the free zone but inside the State, so the mainland presence that solves the market access problem can also move income out of the zero rate.
What survives those exclusions qualifies under one of four headings: income from transactions with another free zone person, other than income from excluded activities; income from transactions with a person who is not a free zone person, but only in respect of qualifying activities that are not excluded activities; income from qualifying intellectual property, calculated as the ministerial decision directs; and any other income at all, provided the de minimis requirement is met. The second heading is the one exporters misread. A customer outside the Emirates is not a free zone person, because a free zone is a defined geographic area within the State, so selling abroad does not of itself produce qualifying income. For the second heading, the activity has to be one of the qualifying activities that the ministerial decision lists, and that list is where the answer for a particular business is found.
The first heading carries a condition of its own. Income counts as derived from a transaction with a free zone person only where that person is the beneficial recipient of the service or the goods, meaning the person who has the right to use and enjoy them and who has no contractual or legal obligation to supply them on to somebody else. Where the counterparty is a zone entity interposed to receive and pass on, it fails that description, and the qualifying free zone person’s income from that transaction falls outside the first heading. That revenue is then non-qualifying revenue for the limit described next, except where the decision removes it from both sides of that calculation. That does not by itself take the income out of the zero rate: the fourth heading still covers it while the limit is respected, unless one of the three exclusions set out above applies to it.
The de minimis requirement
The de minimis requirement is the release valve, and it is narrower than it sounds. Non-qualifying revenue in a tax period must not exceed five per cent of the entity’s total revenue for that period or five million dirhams, whichever of the two is the lower. For an entity with revenue above one hundred million dirhams the absolute figure is therefore the operative one, and the percentage stops helping exactly when the business is large enough to generate incidental income without noticing.
Non-qualifying revenue is defined rather than left to impression. It is revenue from excluded activities, revenue from activities that are not qualifying activities where the other party is not a free zone person, and revenue from transactions with a free zone person who is not the beneficial recipient. Total revenue is everything the entity derives in the period. The decision then removes certain revenue from both sides of that comparison rather than moving it from one side to the other, including revenue attributable to a domestic or foreign permanent establishment and the free zone immovable property revenue that is taxed under its own article. Income taken out of the numerator and the denominator together does not consume the allowance, but it also drops out of the total revenue against which the percentage is measured, and the decision treats it as taxable income under its own articles on those items, which is a mechanical point with real consequences for how a year is planned.
Substance is now examined
The economic substance expectations that applied before corporate tax have been joined by the substance requirements inside the corporate tax regime itself, and the direction of travel is clear: the regime is for businesses that genuinely operate from the Emirates. A company with a licence, a desk it never uses and management that lives elsewhere is exactly the arrangement the reforms were designed to address. This matters beyond the UAE, because a European counterparty or tax authority assessing the group will apply its own substance test, as we describe in our note on Dutch substance requirements.
Inside the corporate tax regime the requirement has a defined shape. The qualifying free zone person must undertake its core income-generating activities in a free zone or a designated zone, depending on where the activity is required to be conducted, and, having regard to the level of the activities carried out, must have adequate assets, an adequate number of qualified full-time employees there and an adequate amount of operating expenditure in relation to each activity. Core income-generating activities may vary with the activity, but mainly consist of the significant functions that drive the business value of each activity and are not exclusively or mostly support activities. Adequacy is measured activity by activity rather than for the entity as a whole.
Outsourcing is permitted rather than fatal, which matters for a group that runs shared functions from one place. Core income-generating activities may be outsourced to another person in a free zone or a designated zone, provided the qualifying free zone person has adequate supervision of the outsourced activity, and in the case of qualifying intellectual property they may be outsourced to any other person in the State and to any unrelated person outside it, on the same supervision condition. Supervision is the condition the decision names, and it is the one a file has to be able to evidence.
Filing, documentation and the file behind them
None of this is self-executing. A taxable person must file its return no later than nine months from the end of the relevant tax period, or by such other date as the authority directs, and that deadline is the same whether the entity expects to pay nine per cent or nothing at all. Records and documents supporting the return, and enabling taxable income to be readily ascertained, must be kept for seven years following the end of the period to which they relate. A qualifying free zone person that has lost its status for five periods will still be inside that record-keeping window when the consequences arrive.
The arm’s length and documentation conditions are the ones that fail quietly, because nothing happens on the day they are missed. Transactions and arrangements between related parties must meet the arm’s length standard, and the arm’s length result must be determined by applying one or a combination of the five transfer pricing methods the law names, unless the taxable person can demonstrate that none of them can reasonably be applied and that the other method it uses produces an arm’s length result. Where the conditions the Minister prescribes are met, the taxable person must maintain both a master file and a local file, and must submit them within thirty days of a request by the authority, or by any later date the authority directs. The same thirty days, with the same possibility of a later date, applies to any other information the authority asks for to support the arm’s length nature of the taxable person’s transactions or arrangements with its related parties and connected persons. Thirty days is enough to produce a file that already exists and not enough to build one.
How it fits a European structure
For a group with both Gulf and European activity, the UAE entity and the European holding have to be designed together rather than separately, and the reform has changed how they interact. We deal with this in our note on UAE corporate tax and your European structure. The short version is that a UAE entity is now a taxpayer with its own substance obligations, and a European structure that was built assuming otherwise deserves a review.
The examination runs in both directions, which is the part that tends to be planned for only once. The questions a European counterparty, bank or tax authority asks about an Emirates entity are close to the questions the free zone regime asks of it: where the decisions are taken, by whom, what the entity is actually paid for and whether the documentation supports the price. We look at the other side of the same structure in our note on a Dutch holding above a UAE company. Treating the free zone question and the holding question as one decision taken twice is usually cheaper than reconciling two answers later.
Montclare runs a dedicated Middle East desk, structuring the corporate, tax and holding architecture for groups and families entering Europe through the Netherlands. Our services are set out on our services page.
This article is informational and does not constitute tax or legal advice. The treatment of any structure depends on its facts and on the law of each jurisdiction involved. Each engagement is subject to scope and applicable regulation.