Tax Loss Carryforward Rules in the UAE: A Comprehensive Guide

Written By Akshaya Ashok, Reviewed By Nouphal P C

Published on 29/11/2024

Recently the UAE had great mileage with modernisation of its tax framework and implementation of the Corporate Tax Law on their journey towards economic growth and transparency. The termination and demerger of financier corporations are required for these changes. Tax loss carry-forward rules are necessary to allow businesses to efficiently translate financial losses into taxable income using efficient tax filing. This step allows enterprises to set losses off against future taxable income through loss carry forward. This blog is an analytical study of the rules about tax loss carried forward in the UAE, including eligibility, calculation, documentation, and key considerations. By understanding these concepts, businesses can easily navigate the tax landscape in the UAE with confidence, and without breaches or errors.

What is Tax Loss Carryforward?

Tax loss carried forward in UAE eligibility, calculation, documentation & what to consider Understanding these concepts can help businesses steer their way through the tax landscape of UAE without flaws and breaches.

How Tax Loss Carryforward Works?

When a taxpayer has a loss in excess of the taxable income of a particular year, he or she is allowed to carry that loss forward to later years. For instance, if an entity incurs a net operating loss of $100,000 in Year 1 and realizes $150,000 in Year 2, it would be permitted to use the carryforward to offset its income in Year 2. Given that the tax law would permit it, there is a possibility that only $50,000 of income is taxed in Year 2.

Advantages of Tax Loss Carryforward

• Tax Relief: It provides prompt tax relief by allowing the business to offset future profits with past losses, thereby reducing their overall tax burden.
• Cash Flow Management: Reducing taxes required to be paid in better years always aids in the cash flow and reinvestment into the business.
• Reducing  Tax Burden: This is useful in balancing the tax rates within different years so much so it assists business operations that have unstable income because of some factors such as seasonal or cyclical production.

UAE Tax Loss Carryforward Rules

The UAE implemented corporate tax by the Federal Decree-Law No. 47 of 2022, outlining the taxing corporations within this jurisdiction. The law frames the taxation of corporations and its losses carryforward provision.

Under the UAE corporate tax framework

• Carryforward Period: Tax losses can be carried forward indefinitely until they are fully utilised against future taxable profits.
• Utilisation: Businesses can offset their carried-forward losses against taxable income in subsequent years without any time limit, promoting long-term financial stability.

Eligibility Criteria for Tax Loss Carryforward

Tax loss carryforwards under UAE law are eligible only if:

• Business Operations: The entity is carrying out business activities subject to corporate tax.
• Filing Requirements: The company should file correct and on-time tax returns to note the losses incurred.
• Continuity of Business: The business should carry on its operations and not make any significant changes that would alter the business's status for utilising loss.

Key Considerations

Types of Losses Eligible for Carryforward

When calculating tax loss carryforwards, two major types of losses can be carried forward; these include the following types of losses:

• Business Losses; net operating losses (NOLs) made from regular business operations; they can easily be found and are most possibly common to any business.
• Capital Losses: Losses from the sale of capital assets-for example, stocks, and real estate are also available for carryforward but under specific rules imposed under local tax laws.

Carry Forward Losses Time Limits

In most jurisdictions, a specified period applies to carrying forward losses, for example:

• Carryforward without Time Limit: In some jurisdictions, losses can be carried forward without any time bar. For example, this is the law applicable in the UAE.
• Carryforward with Fixed Time Limits: Some jurisdictions limit the carryforward period to a given span; it could be any range between 5 and 7 years.

Limitations on Using Carried-Forward Losses

Use of carried-forward losses is sometimes restricted to the extent that can be used each year :

• Percentage Limitations: Certain tax systems limit loss carryforwards to percentages of taxable income (50%, for example). This means that a business with extraordinary losses might be able to offset only half of its taxable income in any given year.

Effect of Changes in Ownership or Business Structure

Conversion or significant changes in the business structure may also have a bearing on carried-forward losses.

• Ownership Changes: In some countries, a company may lose the right to carry over losses when it undergoes an ownership change; this is popularly known as "change of control" rules.
• Business Restructuring: A merger, acquisition, or business restructuring could prevent certain loss utilization under some countries' local legislation and regulation.

Calculation and Recording

How to Compute Income Loss Carryforward

Computing income loss carryforward is a multi-step procedure as follows:

• Compute Gross Earnings: Compute gross earnings realized during the tax year.
• Deduct Admissible Expenses: Subtract all admissible business expenses incurred during the tax year. This includes operating costs, salaries, and other deductible expenses.
• Identify Non-allowable Items: Exclusions of non-allowable items. Some fines or penalties are non-allowable deductions.
• Calculation of Net Operating Loss: Where total cost exceeds total income, the outcome is known as a net operating loss that can be carried forward.

Documents Required

For proof before the tax authorities on tax loss carryforwards, a business will require the following documentation:

• Financial Statements: Correct income statement and balance sheet that depicts financial position and performance.
• Tax Returns: Tax returns submitted showing losses incurred and supporting schedules needful for submitting to the tax authority.
• Supporting Documentation: All documents that made up the declared losses such as invoices, receipts, and expense reports

Record-Keeping Requirement

Record-keeping is useful for corporate compliance and audit:

• Retention Period: Maintain records related to tax losses for a minimum period as specified by local tax laws (often 5 to 7 years).
• Maintained Organised Records: All records should be kept in a way that they can be easily retrieved by tax authorities in case they wish to view them.

Common Errors in Tax Loss Carryforward

• Insufficient or incomplete records may result in disallowed claims or even audits.
• Computing tax losses incorrectly may also result in incorrect carryforward amounts.
• Failure to comply with eligibility requirements may also make tax losses not qualified for carry forward.
• Missing possession of records for the minimum period may result in lost opportunities for tax loss carry forward.
• Basic misapplication or misinterpretation of UAE tax laws and regulations can also lead to an incorrect tax loss carry forward.
• Tax loss carryforward availability can be affected by failure to report changes in the business form or ownership structure.
• There may be errors on the financial statements which can reflect a tax loss mistakenly calculated.
• If the firm fails to meet regulatory conditions, it will suffer penalties and fines.

Conclusion

Master tax loss carryforward rules in the UAE require one to have great expertise and strategic planning. Don't forget to consider qualifications, computation, documentation, and time limits. Reyson Badger said, "Professional advice is necessary to avoid costly errors." Protect your business by Tax Consultation. To optimise your tax strategy and reduce your risks, contact Reyson Badger tax experts book an appointment, and save your financial future today!

Written By

Akshaya Ashok

Akshaya Ashok is a content writer specializing in creating content focused on accounting and auditing. With over two years of experience, she has developed expertise in crafting professional content for the financial sector.