Inside, outside, or exempt? Tax implications of the movement of goods in UAE free zones

21/05/2025 02:32 AST

The introduction of Value Added Tax (VAT) in the UAE in 2018 marked a significant shift in the country's tax landscape. For businesses, particularly those operating in free zones, the change brought new responsibilities that requires careful navigation.

For entrepreneurs or established businesses in these zones, understanding how VAT applies is essential for compliance and efficient operations.

Designated zones are defined areas that meet conditions set by the UAE's Federal Tax Authority (FTA). Although these zones are geographically within the UAE, they are treated as being outside the country for certain VAT purposes, specifically with regard to the supply and movement of goods.

This classification creates unique scenarios that businesses must understand to ensure compliance.

VAT is a general consumption tax applied to most goods and services within the UAE. By default, VAT applies throughout the country. However, designated zones are subject to exceptions, particularly when it comes to how goods are treated for tax purposes.

Goods moved into, out of, or within these zones can fall either inside or outside the scope of VAT, depending on the transaction's nature.

Tax rules on supply of goods within designated zones
When goods are supplied within a designated zone, or between two designated zones, the VAT treatment depends on how the goods are used.

If the goods are bought for internal consumption-such as office furniture, food, or fuel-they are subject to the standard 5 percent VAT rate.

In contrast, if the goods are acquired for further production or resale and not consumed, the transaction may fall outside the scope of VAT. In such cases, the business must maintain proper documentation and ensure the goods are not altered during transfer.

The movement of goods between a Designated Zone and the UAE mainland has distinct VAT implications that businesses must understand. Goods entering the mainland are treated as imports and generally subject to 5% VAT. To avoid compliance issues, companies should maintain clear documentation and assess the VAT treatment of each transaction based on the final destination and use of the goods.

For example, a company based in a designated zone that purchases an office computer for daily use will need to pay VAT on that transaction. This is because the computer is being consumed by the business and is not being incorporated into another product.

On the other hand, a manufacturer purchasing steel to produce equipment for sale would not be charged VAT on the steel, provided the steel is part of a finished product sold to others and not used by the business itself.

Tax rules on supply of goods from designated zones to mainland
The tax rules become a bit complex when goods are transferred from a designated zone to the UAE mainland. In such cases, the movement is treated as an import. The importer that brings the goods into the mainland becomes responsible for accounting for the VAT, which is typically charged at 5 percent unless an exemption applies. Import VAT is payable at the time the goods enter the mainland, regardless of whether VAT was already charged on the goods inside the designated zone.

However, in some cases, goods purchased within a designated zone may be subject to VAT at the time of purchase and then taxed again when the same person imports them into the UAE mainland.

This situation can lead to double VAT charges on the same goods-once within the designated zone and again upon import into the mainland. However, businesses registered for VAT can recover the import VAT in full through their tax returns, provided certain conditions are met, according to the FTA's 'VAT Guide on Designated Zones'.

These include proving that the same goods were taxed initially, that no other party was involved in a resale or modification, and that the importer has adequate documentation to support the claim.

Understanding these scenarios is crucial for business owners, especially those planning to operate or already operating in designated zones. It's essential to maintain detailed records, ensure the correct classification of transactions, and be aware of how goods are being used or transferred.

Here are a few examples of how VAT may apply when goods move from a designated zone to the UAE mainland:

Example 1: Goods imported from a designated zone into the mainland are subject to import VAT. If the importer later sells the goods in the mainland, VAT is charged again on the taxable sale.

Example 2: Goods sold within a designated zone and not consumed by the buyer are outside the scope of VAT. But if the buyer imports them into the mainland, import VAT applies.

Example 3: If goods sold within a designated zone are meant for consumption, VAT is charged on the sale. If the buyer later imports them into the mainland, import VAT also applies but can be reclaimed through the VAT return.

In summary, the VAT framework in UAE designated free zones is nuanced. The key to managing VAT in designated zones lies in understanding the specific rules and applying them correctly to each transaction. Businesses should consider professional advice when in doubt, especially in cases involving cross-zone or cross-border transactions. Proper planning and compliance can help companies avoid tax complications and operate smoothly under the UAE's VAT regime.

Gulfnews