Companies operating in the Gulf region are being impacted by the introduction of value-added tax—a fundamental change to business operations in a region with little history of taxation.
Value-added tax (“VAT”) is being implemented in the Middle East pursuant to the regional VAT agreement signed by all six Gulf Cooperation Council (“GCC”) countries—United Arab Emirates (“UAE”), Kingdom of Saudi Arabia (“KSA”), Qatar, Oman, Bahrain and Kuwait.
The Common VAT Agreement, referred to as the “Framework Agreement” published in the KSA, is a landmark document for the Gulf region. It sets out the framework of a VAT system between the six GCC countries, and is binding on all GCC members, who will design their own VAT law within it.
The UAE and KSA were the first two countries which implemented VAT from January 1, 2018. Bahrain issued draft regulations with their intention to implement VAT from January 1, 2019. Oman has issued a press release with their intention to implement VAT from September 1, 2019.
The states of Qatar and Kuwait are yet to announce their go live dates. However, it looks like Qatar will introduce VAT either in the second or third quarter of 2019.
Uniform VAT Law in GCC
The GCC VAT framework is primarily based on the consumption model, wherein VAT is imposed on the consumption of goods and services. It is agreed that member states will enjoy special privileges in respect of transactions among members. VAT will be levied on the supply of goods and services, including the transfer of property and transfer of rights to use any property. Special cases of supply which may not conform to the definition of supply are to be defined and included or excluded for tax purposes in the VAT legislation of the respective countries.
VAT at a standard rate of 5 percent will apply unless special rates are notified by each jurisdiction. The value of supply will be the consideration paid for the supply. The GCC region understands the valuation principles from experience with Unified Customs legislation.
The value of the supply is based on the total consideration excluding VAT, but including all other expenses and duties. If all or part of the consideration is not monetary, then the value of the consideration is derived based on the monetary part of the consideration, and the fair market value of non-monetary consideration including expenses and duties excluding VAT.
VAT is chargeable on the fair market value of the supply for transactions between related parties. Transactions that are likely to miss the acceptable valuation are addressed by relying on measures available in the valuation provisions of the Customs legislation of the GCC.
A minimum registration threshold is prescribed for businesses to become liable to VAT and to comply with the requirements for registration. The UAE has a prescribed minimum threshold limit of 375,000 UAE dirham ($102,110), wherein supplies that will be liable to tax will include import of goods and services. Furthermore, a business may choose to register for VAT voluntarily if their supplies and imports are less than the mandatory registration threshold, but exceed the voluntary registration threshold of 187,500 UAE dirham.
In the KSA, while the standard VAT registration threshold is 375,000 Saudi Arabian riyal ($100,000), businesses with annual turnover less than 1 million Saudi Arabian riyal are initially exempt from the mandatory registration requirement until January 2019, giving the smallest businesses more time to prepare for the new rules.
The Kingdom of Bahrain has now notified that businesses with an annual turnover exceeding 5 million Bahraini dinar ($13,298 million) are obliged to register for VAT before January 1, 2019. This would mean that the introduction of VAT in Bahrain will be spread out and dependent on annual sales. The Finance Ministry has not outlined when businesses with an annual turnover below 5 million Bahraini dinar, but exceeding the mandatory VAT registration threshold of 37,700 Bahraini dinar, will be required to register for VAT.
The state of Qatar and the Sultanate of Oman have yet to release their VAT regulations.
“Goods” is defined to include all types of tangible property including water, and all forms of energy including electricity, gas, lighting, heating and air conditioning. “Services” includes everything that is not goods. Through these definitions, there is clarity in the categorization of supplies and application of the rules of place of supply.
Real estate transactions, excluding sale of barren land, are agreed to be brought within the scope of VAT not based on the completed property or land per se, but by imposing tax on the underlying economic activity of bringing together the real estate.
The services sector plays a significant role in the economic development of the region and hence it is not free from VAT. Services are subject to tax, except for instances where these were excluded due to their importance or strategic nature.
Concepts such as the reverse mechanism of tax collection and deduction of taxes are agreed. The reverse charge mechanism is applicable when a taxable supply takes place where administration of tax through the customer is more prompt than through the supplier. The Framework Agreement permits states to determine cases where use of this form of tax collection may be more efficient and to place this obligation on the customer.
Deduction of taxes is a progressive step. Taxes payable on outward supplies are required to be remitted to the state but after deducting the taxes already paid on inward supplies. It would require a thorough understanding of the eligible inward supplies measures to eliminate ineligible input VAT credits. Taxes paid on capital assets are permissible to participate in this arrangement of deduction of taxes.
Nexus between inward supplies and outward supplies exists, wherein deduction of tax is acceptable only if the inward supplies continue to participate in taxable outward supplies. Some inward supplies paid for benefit of employees are ineligible inward supplies.
Supplies to free zone and duty-free shops are treated as exports and supplies into the mainland from these areas as imports. Free zones need to comply with the rules and regulations designed by the state for implementation and availing of the special status.
There are special provisions for leasing of transportation services, supply of goods and passenger transportation services, real estate related services, wired and wireless telecommunication services and electronically supplied services.
Where there is an intra-GCC cross-border sale of goods, VAT is accounted under the reverse charge in the GCC member state of destination. Where the customer is not a taxable person, there will be distance selling rules that apply once the local VAT registration threshold is exceeded, requiring the supplier to account for VAT in the destination country. For suppliers not exceeding that threshold of distance sales, the place of supply will be in the supplier’s GCC country.
VAT in the GCC is inevitable. It is being implemented eventually in 2019 by all GCC members except Kuwait. The Framework Agreement, along with regulations in the UAE, KSA, and draft regulation of Bahrain, provides enough information for businesses to start planning for VAT in the three remaining GCC countries—Oman, Bahrain and Qatar.
VAT will lead to significant change in the operations of a company. Some basic planning that businesses can start immediately includes:
- Identify how VAT will influence the business model and operations. A line-by-line analysis of the business area affected by VAT, either directly or indirectly, could be undertaken now. This being functional analysis, it takes considerable time to assess the impact. Once the detailed impact analysis is complete, IT and enterprise resource planning (“ERP”) changes could be undertaken at later stage, after go live dates are notified. It is understood, from various discussions with the Ministry in Oman and Qatar, that six months will be allowed for business to implement VAT.
- After completion of the impact analysis, investigate whether current IT systems can support VAT. Do current IT and accounting systems recognize input taxes, to enable business to claim credit on purchases that the business makes? Will the business be able to obtain the equipment and information necessary to issue special VAT invoices and, if so, what measures are required to control issues related to special VAT invoices? If there were sub-systems interfaced with accounting ERP, would the sub-systems be able to generate tax invoices and capture all VAT-related information? Is the present IT system capable of generating reports for VAT compliance? Detailed business requirements documents (“BRD”) can be prepared in advance to assess IT system requirements.
- Perform detailed analysis of any existing long-term contracts that span the period after the introduction of VAT. Are there contractual provisions within those contracts which would allow the business to pass on the impact of a new tax to the customer? If the business is entering into new contracts with suppliers to purchase goods or services, do the contracts enable suppliers to pass on the impact of the tax? This analysis can be undertaken well in advance, and necessary tax clauses can be included in the contract after discussing with suppliers and customers.
- Assess the impact of VAT on closing stock of goods. How will the transition provision impact the business? Are there any employee benefits provided by the business which will have VAT impact, such as free or subsidized food and transportation to employees, etc? Policy decisions need to be taken by the human resources department on the impact of VAT on fringe benefits provided to employees.
- Examine the impact of VAT on cash flow. How does the business ensure it receives payments from customers before it is required to remit VAT and, equally, minimize the time frame between paying VAT on purchases and claiming input VAT credit?
Rajeev Agarwal is Head of Global Tax with Qatar Navigation QPSC.
He may be contacted at: firstname.lastname@example.org
Disclaimer: The content of this article is intended for general information purposes. You should always seek professional advice before acting. No responsibility is taken for any loss because of any action taken or refrained from in consequence of its contents.