Today, we’re diving into a crucial aspect of the United Arab Emirates’ (UAE) evolving corporate tax landscape – the significance of ensuring arm’s length opening balances. These balances are the bedrock of fair, transparent, and compliant tax reporting not influenced by the relationship between the parties involved.
A Legal Imperative: Arm’s Length Opening Balances
Article 61(2) of the UAE Corporate Tax law is at the heart of the matter. This provision stipulates that the opening balance for the first tax period should adhere to arm’s length principles. This requirement safeguards against non-arm’s length transactions, arrangements, or balances that could have far-reaching consequences on taxable income in the future.
Alignment with International Standards: IFRS Compliance
To adhere to Article 61(2) of the law, taxable persons are mandated to prepare their financial statements in line with the applicable International Financial Reporting Standards (IFRS). Furthermore, balances carried forward for tax purposes, as seen in the latest financial year’s balance sheet, must faithfully reflect arm’s length prices.
Excluding Irrelevant Balances
While scrutiny is vital, it’s also important to identify balances that have no bearing on future taxable profits. For instance, cash and bank balances in the latest financial year’s balance sheet can often be excluded from the analysis.
Trustworthy Balances with Third Parties
Balances stemming from recent transactions with unrelated third parties often already comply with arm’s length principles. In many cases, they require minimal, if any, adjustments. Take, for example, machinery purchased from a third party just before entering the tax era – its value typically aligns with market prices.
Rigorous Analysis of Related Party Balances
For transactions with related parties, especially those in jurisdictions with transfer pricing rules, it’s reasonable to assume arm’s length pricing. Recent dealings with such parties frequently mirror fair market value.
Methods for Balancing Act
Certain balances may necessitate adjustment to meet arm’s length standards. Approaches can range from using fair market value to employing book value adjusted for impairments or revaluations. The method employed should be tailored to the specific circumstances of the taxable person.
Ensuring Arm’s Length Balances
No matter the chosen method, the paramount goal is to ensure that opening balances align with arm’s length prices. This alignment mirrors what independent parties would have charged or paid in similar transactions. Such diligence guarantees the accurate reflection of taxable profits and guards against unexpected tax liabilities.
Simplified Cluster Adjustments
Streamlining the process, particularly when dealing with numerous transactions with the same related party sharing similar characteristics and timing, can be achieved by making a single adjustment. This eliminates the need to evaluate fair market value for each transaction separately.
The Role of IFRS in Sound Financial Statements
Lastly, taxable persons should be aware of the critical role played by IFRS in preparing financial statements. These statements should align with IFRS for the financial year immediately preceding the commencement of their first tax period.
How TME Legal can support you
TME Legal is a team of 45 professionals in the field of legal-, tax-, accounting and compliance. We advised a significant number of SMEs in the context of the implementation of the tax framework in the UAE and KSA over the last decade to make sure that our clients are well oriented in the new and fast evolving tax landscape and to reduce the legal liability of managers which may arise in connection with non-compliance.
