Free Zone Entities & Corporate Tax in the UAE

The introduction of the UAE Corporate Tax (CT) regime, effective from 1 June 2023, has brought significant changes that continue to challenge Free Zone entities operating under outdated assumptions from the tax-free era. These misconceptions now pose serious risks, including non-compliance, penalties, and even the potential loss of the 0% tax benefit.

A crucial legal principle—Ignorantia juris non excusat (ignorance of the law excuses no one)—reminds us that understanding and adhering to Corporate Tax obligations is not optional. This is especially critical for entities that remain active on record but have not gone through formal legal liquidation and dissolution.

Below, we debunk the most common misconceptions about corporate tax in free zones and explain the actual legal and administrative obligations now in force.

1. Holding a Free Zone License Automatically Grants 0% Tax Rate
   • Misconception: Possessing a free zone license exempts us from corporate tax.
   • Clarification: All free zone entities are subject to UAE Corporate Tax. To benefit from the 0% rate, an entity must qualify as a “Qualifying Free Zone Person” (QFZP) with “Qualifying Income” and meet cumulative conditions under Article 18 of the Corporate Tax Law and Cabinet Decision No. 100 of 2023. Failing to meet even one condition—such as not complying with arm’s length pricing or earning too much non-qualifying income—means taxation at the standard 9%.
2. CT Registration is not mandatory, does not apply to FZ companies
   • Misconception: Free zone companies without income or activity don’t need to register.
   • Clarification: Every legal entity in a UAE free zone must register for Corporate Tax—even if it has no income, no operations, or is dormant. This includes offshore entities and free zone branches. Registration is done through the FTA online portal and must be completed within the deadline set by the FTA or risk administrative penalties.
3. Dormant or non-renewed entities are exempt from CT Obligations
   • Misconception: If the company has ceased operations or hasn’t renewed its license, no tax obligations exist.
   • Clarification: If your company is still legally active on the free zone registrar, and has not undergone legal liquidation and dissolution, you are still subject to Corporate Tax obligations, including registration on the FTA portal and annual filing—even if the entity has been dormant. Failure to dissolve the entity properly under commercial law does not excuse non-compliance under tax law.
4. Zero-Activity Entities are not required to file CT Returns
   • Misconception: No transactions mean nothing to file.
   • Clarification: Every registered free zone entity must file a Corporate Tax return, even if it has no income or no qualifying activity. This return must be submitted within 9 months of the end of the relevant (FY) financial year. Failure to file invites automatic penalties.
5. Audited Financial Statements are optional for entities below AED 50 Million turnover
   • Misconception: Companies with less than AED 50 million in turnover don’t need audited accounts.
   • Clarification: To qualify for the 0% rate, free zone entities must maintain and submit audited financial statements, regardless of turnover. This includes naming the appointed auditor during the annual filing.
6. Consolidated Financial Statements suffice for CT Reporting
   • Misconception: Our consolidated IFRS 10 group statements are sufficient for filing.
   • Clarification: Each UAE-licensed entity must file its own financial statements (based on IFRS or IRFS for SME) for Corporate Tax purposes—separate from any consolidated group reports unless part of an approved Tax Group. Entities cannot rely on global reports for UAE tax filings.
7. Designated Free Zone status guarantees 0% Tax
   • Misconception: Being in a designated free zone guarantees 0% tax.
   • Clarification: The 0% Corporate Tax rate is not automatic. Entities must opt in through the FTA, meet the set qualifying conditions, and annually maintain compliance to retain the benefit.
8. Licensed Activity ensures 0% Tax, regardless of actual operations
   • Misconception: Our licensed activity in a Free Zone guarantees 0% Corporate Tax—even if we do other work.
   • Clarification: 0% CT applies only if the entity conducts Qualifying Activities as defined by law (Ministerial Decision No. 265 of 2023). If actual activities differ from the licensed ones—especially if they involve mainland clients or unlisted services—the entity risks losing 0% eligibility and may be taxed at 9%. The FTA assesses “substance over form”, so operations must align with the license and qualifying activity list.
9. Holding Companies automatically qualify for 0% Tax on passive income
   • Misconception: A Free Zone Holding company automatically qualifies for 0% Corporate Tax on passive income.
   • Clarification: While passive income such as dividends, capital gains, interest, and royalties may fall under the Qualifying Income definition, a Free Zone holding company must still meet all preset conditions outlined in Ministerial Decision No. 265 of 2023 and Article 18 of Federal Decree-Law No. 47 of 2022 to be considered a Qualifying Free Zone Person (QFZP). This includes maintaining adequate economic substance in the UAE relative to the nature and level of the activities performed, filing a CT return, even with passive income only, submitting audited financial statements, and not electing to be subject to the standard 9% rate.
     Entities operating as shell companies with no physical presence, employees, or demonstrable control over income-generating assets are unlikely to meet the substance requirement and risk being disqualified from the 0% regime. If disqualified, they will be taxed at the standard 9% corporate tax rate, even if their income is passive in nature.
10. Services to Mainland Clients are exempt from CT
    • Misconception: Our consulting services to mainland clients are tax-free.
    • Clarification: Under the UAE Corporate Tax regime, income derived by Free Zone entities from providing services to clients outside the Free Zone—whether in the UAE mainland or abroad—is generally considered non-qualifying income and is subject to the standard 9% Corporate Tax rate.
      To maintain Qualifying Free Zone Person (QFZP) status and benefit from the 0% tax rate, a Free Zone entity must ensure that its non-qualifying income does not exceed the de minimis threshold, which is the lower of AED 5 million or 5% of total revenue. Exceeding this threshold results in the loss of QFZP status, making the entity liable for Corporate Tax on its entire taxable income.
11. Transfer Pricing Rules don’t apply to Free Zone entities
    • Misconception: We’re exempt from transfer pricing because we pay no tax.
    • Clarification: Transfer pricing and arm’s length rules apply to all related-party and connected-person transactions, regardless of whether the entity is subject to 0% or 9% Corporate Tax. Under Articles 34 and 55 of the Corporate Tax Law, all taxable persons—including Free Zone entities—must maintain appropriate documentation to substantiate compliance with the arm’s length principle.
12. Losing QFZP Status is temporary and easily reversible
    • Misconception: If we lose our Qualifying Free Zone Person (QFZP) status, we can requalify for the 0% tax rate as soon as we fix the issue.
    • Clarification: Under Ministerial Decision No. 265 of 2023, Article 5(2) it is clarified that once a Free Zone entity loses its QFZP status for failing to meet any required condition, it is disqualified from the 0% Corporate Tax rate for the current tax period and the following four tax periods—even if compliance is restored immediately.
      During this five-year disqualification window, the entity will be subject to the standard 9% Corporate Tax on all taxable income, including income that would otherwise be considered “qualifying.” Requalification is only possible after the end of the full disqualification period.
13. VAT Grouping Automatically Applies to Corporate Tax
    • Misconception: We’re in a VAT group, so we’re automatically grouped for CT.
    • Clarification: Clarification: VAT Groups and Corporate Tax (CT) Groups are governed by separate laws and serve different tax purposes, with distinct formation and filing requirements. VAT Grouping is regulated under Federal Decree-Law No. 8 of 2017 (VAT Law), while CT Grouping is governed by Federal Decree-Law No. 47 of 2022 (Corporate Tax Law).
      Being part of a VAT Group does not automatically grant eligibility for Corporate Tax Grouping. To form a Corporate Tax Group under the Corporate Tax Law, entities must meet specific criteria, including having at least 75% common ownership and being subject to the 9% corporate tax rate. Free Zone entities benefiting from the 0% Corporate Tax regime do not qualify for CT Grouping and must file their Corporate Tax returns individually, even if they are part of a VAT Group. This distinction ensures compliance with both tax regimes and requires businesses to meet separate requirements for each.

Final Takeaway: Corporate Tax obligations apply to Free Zone companies and Offshore entities

Entities incorporated or registered within UAE Free Zones—including Offshore Companies—are not automatically exempt from Corporate Tax obligations. While the regime provides for a 0% tax rate under specific conditions, such status is contingent upon meeting all qualifying criteria, including accurate registration, timely filing, and economic substance compliance. Failure to comply exposes these entities to the standard 9% rate, penalties, and potential disqualification from Free Zone benefits.

• Legal Compliance is not Optional
  The UAE Corporate Tax regime requires full transparency, registration, reporting, audited financials, meticulous record keeping. Misconceptions—especially those inherited from the pre-tax era—can lead to financial penalties, the loss of 0% tax benefits, or worse, retrospective tax assessments and legal exposure.
• No Excuse for Non-Compliance: Ignorance of the Law is not a defence
  The implementation of Corporate Tax in the UAE is governed by Federal Decree-Law No. 47 of 2022, along with its associated regulations and decisions, which mandate compliance from the date the law was enacted. This obligation applies to all entities, including those incorporated prior to the introduction of the law. Regardless of a business’s size, sector, or awareness, adherence to the law is mandatory. Under the legal doctrine Ignorantia juris non excusat (ignorance of the law excuses no one), failure to fulfil Corporate Tax registration, reporting, and other obligations will not be accepted as a defence. Non-compliance, even if due to a lack of knowledge, will subject the entity to penalties and enforcement actions under UAE Tax Law.

How Motei & Associates Can Help

At Motei & Associates, we assist clients in:

• Assessing eligibility for 0% Corporate Tax as a Qualifying Free Zone Person
• Registering for Corporate Tax with the FTA
• Preparing and submitting compliant financial statements and annual CT returns
• Structuring intra-group and cross-border transactions in line with transfer pricing rules
• Legally liquidating dormant entities to avoid penalties from the issuing authorities and the FTA
• Optimizing corporate structure to ensure compliance with UAE Corporate Tax laws, minimize tax exposure, and maintain eligibility for tax benefits.