Implications of VAT on Donations, Grants and Sponsorship

Before explaining in details let us understand one very important point that is VAT implications will only arise where the consideration paid is as a result of supply of goods and services. No supply no VAT and the transaction will fall outside the scope of VAT.

VAT on Donations:

Donations provided without any express or implied benefit are not consideration of any supply of goods and services and therefore fall outside the scope of VAT.

Federal Tax Authority has clarified that donations must be unconditional and unrestricted and following principles shall be considered:

  • Does any benefit is received by Donor?
  • Are there any other beneficiaries as a result of donation other than person receiving donation
  • Are there any conditions attached to the potential use of donations?
  • Is there any agreement between the parties making and receiving the donation and what are the conditions?

VAT on Sponsorship:

Sponsorship is generally subject to VAT since the person receiving the sponsorship provides some sort of services such as displaying logo of sponsor, providing free tickets or exclusive merchandise etc.

VAT on Grants:

As mentioned in the above two cases in order to understand the correct implications of VAT we need to determine whether the Grantor is getting any benefit as a result of donation. If there is no benefit the transaction fall outside the scope of VAT. In case there is any benefit the implications of VAT will arise.

 

VAT on Bank Interest and Dividends

Before going to the discussion let’s understand when VAT is applicable. VAT is a tax that is imposed on import or supply of goods and services. Or in other words in order for an income VAT is applicable only when it is in return of some supply of Goods and services.

So that means the implications of VAT will arise only when there is a supply, in case there is no supply there is no VAT. Let’s understand whether Interest earned or dividends yielded are the result of any supply or otherwise.

Interest Income from Bank Deposits:

Federal Tax Authority is of the view that interest income earned by individuals or businesses is merely the result of depositing an amount of money with Banks and not as a result of supply of Goods and services. Therefore there arises no supply of Goods and services in aforesaid case. That is why the transaction falls outside the scope of VAT and is not required to be shown in the VAT Return.

Dividend Income:

Like interest income Federal Tax Authority clarified that dividend income is simply a distribution of profit as a result of someone share in a business and not as result of supply of some goods and services. Therefore dividend income also falls outside the scope of VAT and there is no requirement to report such income in the return.

VAT On services of Independent Directors

Why it is important to determine date of supply for independent directors?

The answer to the question is very simple because VAT needs to be accounted for in the same month or quarter where the date of supply falls.

Possible Scenarios:

  1. Director Free is not known to the director at the outset and he became aware only upon conclusion of Annual General Meeting
  2. Director Fee is known to the director at the outset and periodic or multiple payments are made
  3. Director Fee is known to the director at the outset but there are no periodic or multiple payments

VAT Treatment of all three scenarios is highlighted below for the purpose of understanding

 

  1. Scenario 1: Director Free is not known to the director at the outset and he became aware only upon conclusion of Annual General Meeting:

In case the Board fee for independent director was known only at the conclusion of Annual General Meeting and the independent director has not issued any invoice nor received any payment prior to the date, date of supply shall be the date on which the services was completed in accordance with Article 25 of the VAT Law.

Federal Tax Authority has clarified that the provision of services is completed only when such fees is known to the director despite of the fact that provision of services continues throughout the year.

Therefore when fees is known to the director he shall issue an invoice within 14 days as per the VAT law and account for VAT in the same quarter.

  1. Scenario 2: Director Fee is known to the director at the outset and periodic or multiple payments are made:

Date of supply shall be determined in accordance with Article 26 of the VAT law i.e.

Earliest of:

  • Date of issuance of tax invoice
  • The date payment is shown as due on the tax invoice
  • Date of receipt of payment
  • In case none of the aforesaid events has taken place date of supply shall be triggered at the end of 12 months
  1. Scenario 3: Director Fee is known to the director at the outset but there are no periodic or multiple payments:

Date of supply shall be determined in accordance with the Article 25 of the VAT law i.e.

Earliest of:

  • Date of issuance of Tax Invoice
  • Date of Receipt of Payment
  • Date on which provision of services was completed

VAT Treatment of Farm Houses and Farm Land

Tax Treatment of Different Types of Land:

  • Bare land – Tax Treatment : Exempt from VAT – Article 52 of Cabinet Decision 0f 2017
  • Residential Land – Tax Treatment : First Sale within 3 Years of completion Zero Rate, After 3 Years of completion sale or lease exempt from VAT
  • Commercial Land : Tax Treatment – Standard Rate of VAT Applicable

Main Issue:

How to classify Farm land and Buildings in above 3 categories and applying the correct VAT Treatment?

Summary of the VAT Treatment of the issue:

  • Farm houses that meet the definition of residential building shall be either zero rated or exempt. The best indicator of the building being residential building is that it shall be principal place of residence of the person.
  • Other farm houses that are not used as principal place of residence shall be treated as commercial property and VAT at standard rate of 5% is applicable.
  • Farm Land that is covered with buildings and civil engineering works shall be treated as commercial and standard VAT is applied.
  • Farm Land that has no buildings or civil engineering works shall be treated as bare land and is exempt from VAT.
  • Important point to consider whether Farm House and Farm Land form Single Composite supply or Mixed Supply. In case of Composite supply the VAT treatment of predominant factor shall prevail otherwise in mixed supply every element shall be treated separately to determine the correct VAT treatment.

Some Important Points 

Farm Houses that meet the Definition of Residential Building:

Farm House shall be considered as Residential where it is:

  • Principal place of residence of the person

Farm House shall not be considered as Residential where it is:

  • A Place that is not a building fixed to the ground and can easily be moved without being damaged
  • Buildings that are used as hotel, motels or hospital etc.
  • Serviced Apartment
  • Unlawfully Constructed Building
  • Farm houses not used as principal place of residence such as weekend homes
  • In case part of the house is used as residential and part for other purposes, the part that is used for residence may qualify as residential house.

 

Application of VAT on Means of Transport

Relevant Section of Law: Article 34 of the Cabinet Decision No. 52 of 2017: Certain means of transport

The supply of the means of transport shall be subject to the zero rate in the following cases:

  1. A supply of an aircraft that is designed or adapted to be used for commercial transportation of passengers or Goods and which is not designed or adapted for recreation, pleasure or sports.
  2. A supply of a ship, boat or floating structure that is designed or adapted for use for commercial purposes and which is not designed or adapted for recreation, pleasure or sports.
  3. A supply of bus or train that is designed or adapted to be used for public transportation of (10) or more passengers.

The most important point to understand before reading the clarification is that the article is highlighting the VAT Treatment of Means of transport and not transport services. Means of transport are the sources through which transportation is provided such as buses and trains. Whereas transport services means carrying goods and passenger from one destination to another.

Main Issue:

The main issue in the above highlighted clause 3 of Article 34 of cabinet decision No. 52 of 2017 is that what exactly is meant by buses or trains designed or adapted to be used for public transportation of 10 0r more passengers.

Generally all the buses and trains are for transportation for passengers so does that mean all the buses and trains supply qualify for zero rating for the applicability of VAT?

Clarification Regarding Clause 3 highlighted above:

Federal Tax Authority has clarified that on the issue as under:

Only buses and trains that are designed or adapted to be used by public in general qualify for zero rating under this section. Any buses or trains that are restricted to specific group of people shall not qualify for zero rated under this section such as buses specifically designed to be used as School buses or Employees of a business etc.

Further Federal Tax Authority has also highlighted some features of Public Transportation buses and trains and features of buses and trains that are not used for public transportation that are mentioned below:

Features of Public transportation Buses or Trains:

  • The vehicles include features that allow the customers to pay or indicate that they possess tickets such as payment booth and ticket scanners etc.
  • Branding either inside or outside vehicle indicating that transportation is available to all.
  • There is branding or other means indicating that transportation is regulated by entity regulating public transportation in emirate.
  • There is evidence that vehicle complied with certain regulations necessary to be used for public transportation imposed by entity regulating public transportation in emirate where the means of transport is used.
  • Features exist that allows third party advertisement to be placed within means of transport.
  • The intended use of the means of transport was for public in general and not for any specific group.

Features of transportation Buses or Trains used for specific purpose and to be charged at standard rate of 5%:

Following are the examples:

  • School Buses
  • Buses use to transport employees or workers
  • Shuttle buses used by hotels

FTA Pubic Clarification Regarding Tax Invoices

Relevant Section of law: Article 59 of Cabinet Decision No. 52 of 2017: Tax Invoices

Summary:

In all cases where taxable supply is made it is mandatory to issue tax invoice. There are two type of tax invoices acceptable. (i) Normal Tax Invoice (ii) Simplified Tax Invoice.

The comparison between the two types of tax invoices is mentioned below for the purpose of understanding:

 

 

Normal Tax Invoice

 

Simplified Tax Invoice

 

 

Issued in case of Taxable Supply

 

 

Issued in case of Taxable Supply

 

Can be issued to both registered and unregistered recipients

 

 

Can only be issued in case the recipient of Goods is not registered for VAT

 

 

Can be issued for any amount

 

 

Can only be issued if recipient is unregistered and the consideration for supply is less the AED 10,000

 

 

Requirement to show net value of taxable supply i.e. Amount excluding VAT for each line item

 

 

No Requirement to show net value of taxable supply i.e. Amount excluding tax for each line item

 

Requirement to show net value (Amount excluding tax), tax value (Vat amount) there is no requirement to show gross amount for line items (Amount including VAT)

 

 

Simplified tax invoice values are always shown at gross amount i.e. amount including VAT

 

Requirement to convert invoices issued in foreign currency to AED and mention exchange rate used for conversion

 

 

Requirement to convert invoices issued in foreign currency to AED and mention exchange rate used for conversion

 

 

Rounding shall be performed on line item basis

 

 

Rounding shall be performed on the gross value of supplies

 

Format for Simplified Tax Invoice:

 

Tax Invoice
 

Name of Supplier:

 

 

Address of Supplier:

 

Tax Registration Number of Supplier:

 

 

Date of Invoice:

 

Description of Goods

 

 

Amount (AED)

 

Apple

 

 

10.00

 

Bananas

 

 

15.00

 

Milk

 

 

10.50

 

Total

 

 

35.50

 

VAT

 

1.69

 

 Format for Normal Tax Invoice:

 

Tax Invoice
 

Name of Supplier:

 

 

Address of Supplier:

 

Tax Registration Number of Supplier:

 

 

Date of Invoice:

 

 

Name of Customer:

 

 

 

Tax Registration Number of Customer:

 

Payment Terms:

 

Date of Supply:

 

 
 

Description of Goods

 

 

Unit Price (AED)

 

 

Quantity

 

Amount Excl VAT (AED)

 

 

VAT Rate

 

 

VAT Amount (AED)

 

Apple

 

 

10.00

 

1

 

10.00

 

5%

 

0.5

 

Bananas

 

 

20.00

 

1

 

20.00

 

5%

 

1.00

 

Milk

 

 

40.00

 

1

 

40.00

 

5%

 

2.00

 

 

Total

 

 

70.00

 

3.50

 

Gross Amount including VAT (AED)

 

 

73.50

 

Input tax incurred on Entertainment Expenses – FTA Public Clarification

Relevant Section of Law: Article 53 of the Cabinet Decision No. 52 of 2017: Non Recoverable Input Tax

Summary:

VAT on Incidental or Genuine Entertainment expenses is recoverable. Whereas if the hospitality itself becomes an end itself or reason to attend an event no VAT is recoverable.

Detailed Discussion:

Public clarification is divided into two parts for the purpose of understanding:

  1. Entertainment provided to non-Employees (Only Designated Government Entities can recover)
  2. Entertainment Provided to Employees (Both Designated and non-Designated Government Entities can recover.

Entertainment provided to non-Employees:

Designated Government Entities

Article 53 has provided specific privileges to the Designated Government entities to recover even input tax incurred on the entertainment provided to non-employees. Example of such entertainment services are:

  • Input tax incurred on meeting with delegations from other countries
  • Input tax incurred on meeting with Government representatives from other departments
  • Input tax incurred on ceremonies held to mark significant political events

Entities other than Designated Government Entities

All other types of organizations are not allowed to recover entertainment expenses provided to non-staff members. Examples include:

  • Customers
  • Potential Customers
  • Officials
  • Shareholders

Entertainment Provided to Employees:

Entertainment provided to employees can both be recoverable and non-recoverable depending upon the circumstances:

Entertainment Expenses where input tax is recoverable:

  1. Input tax on foods and Drinks in the normal course of a meeting are recoverable.
  2. Input tax on hospitality provided at the venue of the meeting such as tea and coffee is recoverable.
  3. Input tax on hospitality provide in short breaks during meeting such as lunch break is also recoverable if such costs does not exceed internal policy the business normally has in place.
  4. Input tax on goods and services purchased to be used by the employees free of cost is also recoverable when following situations exist:
  • Where it is legal obligation to provide those goods and service
  • It is contractual obligation or document policy to provide those goods and services which is a normal business practice in such business
  • Where provision of goods and services is deemed supply as per the provisions of Federal Decree Law.
  1. Similarly in case of conferences and business events whereby fee is charged to Employees and Vat is accounted for any input tax incurred on catering services is fully recoverable.
  2. Input tax on incidental normal office expenses for general use by both employees and visitors are recoverable. Examples of such expenses are:
  • Tea, water and coffee used in office by staff and visitors
  • Flowers for display at the reception
  • Dates, chocolates and snacks etc.
  1. Expenses funded or reimbursed to employees for business purposes are also recoverable expenses for the purpose of VAT such as hotel stay or foods and drinks consumed during official business trips.

Entertainment Expenses where input tax is non-recoverable:

  1. Where goods and services are purchased by employer to be used by staff free of cost except situations highlighted above.
  2. Where foods and refreshments are so substantial that they would constitute and end in themselves or may have encouraged someone to attend the meeting.
  3. Where no fee is charged for attending conference and business events, input tax incurred on entertainment for such events will be also non-recoverable.
  4. Where events are held purely for the purpose of entertainment of staff input tax incurred shall also be non-recoverable.
  5. Goods and services purchased to be provided to staff free of charge in order to award them for long term service such as long service awards, retirements gifts, Eid gifts etc. also give rise to non-recoverable input tax.
  6. Input tax on expenses incurred by employee on entertainment of current or potential customers are also non recoverable.

Use of Exchange Rates for VAT Purposes

Federal Tax Authority issued Public clarification regarding use of exchange rate that was a question of great concern for business engaged in import and export activities:

Relevant Reference to the Law:

Article 69 of Federal Decree-Law No. (8) Of 2017 requires that where a supply is made in a currency other than UAE Dirham the amount stated on the tax invoice shall be converted into UAE Dirham at exchange rates approved by UAE Central Bank at the date of supply.

Main Issues:

  • UAE Central Bank did not publish any exchange rates up to May 16, 2018 so how to determine exchange rates up to May 16, 2018.
  • How to use the exchange rates published by UAE Central Bank from May 17, 2018 onward. Important points to consider.
  • Use of Exchange Rate for Import of Services
  • Use of Exchange Rate for Import of Goods

The points are explained below for the purpose of understanding:

UAE Central Bank did not publish any exchange rates up to May 16, 2018 so how to determine exchange rates up to May 16, 2018:

Where tax invoice was issued before May 17, 2018 the amount on the invoice should have been:

  • Converted using a reliable source
  • Consistently used by the supplier from January 01, 2019 to May 16, 2018

Examples of Reliable Sources for the purpose of exchange rates are:

  • Thomson Reuters
  • Oanda
  • Exchange Rates Published by any UAE Bank

How to use the exchange rates published by UAE Central Bank from May 17, 2018 onwards. Important points to consider:

  • Businesses must use exact exchange rates published by UAE Central Bank, that should include the same number of decimals as published e.g. 3.6725000 exactly same shall be used and not rounded off to 3.67
  • UAE Central Bank publishes rate 6.00 pm every day where tax invoice needs to be issued before that rates published on Central Bank website can be used at the time of issue of tax invoice.

Use of Exchange Rate for Import of Services:

Import of services are accounted for in the return under reverse charge mechanism normally. These invoices as mentioned above needs to be converted at UAE Central Bank rate into Dirhams at the date of invoice.

Use of Exchange Rate for Import of Goods

In case of import of Goods, the value of goods is converted intro Dirhams by custom department in customs declaration form. The same value is automatically populated in Box 6 of VAT Return. So taxpayers can use the same value and there is no need to convert again using the UAE Central Bank Rate.

VAT Treatment of Residential and Serviced Accommodations

Main Issues:

  • Accommodation Provided to labor shall be classified as Residential or Serviced accommodation
  • Services Provided in addition to the accommodation shall be treated a single composite supply or mix supply

Impact on VAT Treatment of above two main issues:

  • Residential Accommodation – No VAT Charged
  • Serviced Accommodation – VAT at standard rate 5%
  • Composite Supply – Tax Treatment is same as for Principal Component
  • Mix Supply – Tax Treatment of each item is separate

Detailed Discussion on Accommodation provided to labor shall be classified as Residential or Serviced accommodation:

As per the applicable VAT laws in United Arab Emirates Residential buildings are exempt from Value Added Tax other than first sale of Residential Building which is zero rated.

Whereas

Commercial or other types of buildings shall include VAT at standard rate which is 5% as of April 2019.

So now the main question that arises is that Labor Accommodation provided by companies shall be treated as Residential or Commercial and other types of Buildings and standard VAT rates need to be charged.

Federal Tax Authority highlighted some of the conditions stated below for the purpose of proper VAT classification of labor accommodations which are:

Labor accommodation as Residential Property (Exempt or Zero Rated):

Following factors should be considered:

  1. Building shall be principal place of residence of the labors
  2. It is a building that is fixed to the ground and cannot be move
  3. The building is constructed or converted with lawful authority
  4. The building shall be not be similar to hotel, motel or serviced apartments for which services in addition to accommodation are provided.

Labor accommodation as Serviced Property (Standard Rated 5%):

Often residents are provided additional services on top of residence in such cases extent of additional services provided needs to be considered carefully in order to classify the building as either residential or commercial or serviced accommodation.

Services provided normally with residential accommodation

Following services are generally provided with residential buildings and shall not change the tax treatment of the property from residential to commercial:

  1. Cleaning of communal areas
  2. Maintenance
  3. Pest control
  4. Security
  5. Utilities
  6. Access to facilities within Building such as Gym and swimming pools etc.

Services provided indicating serviced accommodation

Additional services that may indicate that accommodation to be treated as serviced accommodation and charged at standard rate of 5% are:

  1. Telephone and Internet access
  2. Cleaning of rooms other than cleaning of communal areas
  3. Laundry services, including regular changing of bed linen
  4. Maintenance services other than those that are required for general upkeep of property’

Detailed Discussion on VAT treatment of additional services provided on top of accommodation:

Another important factor that needs to be considered in proper VAT treatment of labor accommodation is whether the services provided in addition to the accommodation are to be classified under single composite supply or as separate supplies. Reason

If the supply is single composite supply all the services are to be treated the same way as building either residential or serviced accommodation

In other case the services provided in addition to accommodation shall be treated separately. In that case there can be a situation where building is classified as residential and no VAT is charge however additional services provided are taxed at the standard rate of 5%.

Composite supply is defined by Federal Decree-Law No. 8 and cabinet decision 52 as:

  1. Composite supply exist where there is a supply of the following:
  2. Principal Component
  3. Component or components that are incidental to the main principal component but do not constitute item themselves.
  4. Price of different components are not separately charged by supplier
  5. All Components of supply are provided by a single supplier

Or

Where there is a supply that has two or more elements and it is impossible or unnatural to split them.

Application of VAT under Profit Margin Scheme

Before discussing clarification issued by Federal Tax Authority regarding Profit Margin Scheme it is important to understand what is Profit Margin Scheme?

  • Profit Margin Scheme:

Profit Margin scheme is an option available to businesses where they are allowed to charge VAT only on the profits earned rather than on the full selling prices of the Goods. Profit means difference between Buying and Selling Prices of the Goods.

Federal Tax Authority has issued a public clarification whereby they have highlighted the conditions and Goods eligible to tax under the Profit Margin Scheme.

The primary condition for Goods in order to be eligible for profit margin scheme is that Goods should have been subject to VAT before the supply in Question. Means at the time when Goods were purchased or acquired VAT was applicable. This further means the Goods that were acquired before January 01, 2018 (The date VAT Law became effective) are not eligible for Profit Margin Scheme.

  • Goods Eligible for Profit Margin Scheme:
  1. Second Hand Goods (Movable)
  2. Antiques (More than 50 Years Old)
  3. Collector Items (Such as stamps, Coins etc.)
  • Conditions to Apply Profit Margin Scheme:

Goods are acquired from:

  1. A person not registered for VAT
  2. Taxable Person who applied Profit Margin Scheme OR
  3. The supply was made by a taxable person that never recovered the input tax on those Goods in accordance with Article 53 of cabinet decision No 52 of 2017.

Federal Tax Authority further stressed that those businesses should keep proper documents to support their claims that goods were purchased under profit margin scheme or acquired after January 01, 2018.

 

Applicability of VAT on Compensation Type Payments

A general perception regarding VAT is that any payment that businesses made to each other should have VAT applicable on it disregarding the nature of payment. However the aforesaid perception is totally wrong. Federal Tax Authority has issued public clarification regarding applicability of VAT on compensation type payments but it can be applied to any situation where circumstances suggest that no supply of Goods and services has taken place.

Before commenting on the Public Clarification regarding compensation type payments lets understand what VAT is.

VAT is a tax applicable on the supply of Goods and Services or in other words it can also be stated that where there is no supply of Goods and Services there is no VAT.

Therefore in order to understand whether VAT is applicable on any payment, the main and only issue to define is that whether it is consideration for any supply of Goods and services or not. If the payment is consideration for any supply of goods and services VAT is applicable otherwise no VAT is applicable.

Federal Tax Authority presented certain examples for understanding of applicability of VAT on compensation type payments:

  • Contractual Payment to compensate Loss

Liquidated damages in the most accurate example of compensation type payments where VAT will not be applicable.Liquidated damages are payments that one party agrees to pay other in case any of the terms mentioned in the contract are violated. For example if a particular job is not completed within the agreed time frame or the work does not meet the quality standards agreed. VAT will not be applicable in such situations as the payments are made to compensate the loss the other party may have suffer and not against provision of Goods and services.However payment made by a Guest to hotel for cancellation of Booking will have VAT applicable on it as this cessation of right that falls under the definition of provision of services.

  • Payments Made for Settlement of Disputes

Where payments are agreed between the parties as a result of settlement of disputes it is important to consider the facts of the transaction in order to conclude whether VAT is applicable or not. For example

  1. Where the payment is made to enforce a contractual term let’s say to agree to certain price or certain percentage of advance, such payments are as obvious against the Goods and Services mentioned in the contract and VAT is applicable.
  2. Where payments are made to compensate damages as mentioned in Point 1 not VAT is applicable.
  3. Likewise where payments are made to grant a right such payments will have VAT applicable on them, as granting of rights falls under the definition of supply of services.
  • Payment of Fines and Penalties

Fines and Penalties imposed under Private Contracts and or by Government are for the purpose of compensation to other party or to punish someone for unlawful actions and not against providing Goods and services and therefore no VAT is applicable.

Summarizing in deciding applicability of VAT on compensation type payments or in any similar situation it is very important to understand the legal and contractual terms of the agreement. If the payment is against supply of Goods and Services only in that case VAT is applicable.