Relevant Activity Must Be Directed and Managed in The UAE to Comply with ESR and Avoid Penalty

UAE Economic Substance Regulations were rolled out by the UAE in April 2019 and amended afterward by Cabinet Resolution, 57 of 2020, and Ministerial Decision, 100 of 2020.

ESR is a comparatively new regulation and requires several reports for virtually all UAE private companies. Though it is a new regulation, the Ministry of Finance (MoF) has remained strongly committed to its effective implementation and started imposing hefty penalties on companies not complying with the ESR.

Tests specified in Article 6 for the Economic Substance in UAE are used to determine the monetary penalty by the MoF in case the companies fail to demonstrate the following.

• The core income-generating activity is conducted within the UAE
• The relevant activity is directed and managed in the UAE, and
• There are adequate assets and employees engaged within the UAE

The most specific about ESR’s deliberation is that the relevant activity is “directed and managed” in the UAE to be exhibited by the business entity.

A relevant activity to be “directed and managed” in the UAE, there must be an adequate number of meetings to be convened and attended in the UAE by the board of directors physically.

There is no specific mention of the number of board meetings that would make it adequate and satisfy the “directed and managed” condition except that the adequate number of meetings will be determined by the nature of the relevant activity being carried out in UAE and the amount of income generated from the relevant activity of the company.

Mere convening board meetings for the sake of fulfilling the requirement of the ESR test may not be sufficient to satisfy and convince the MoF that the relevant activity, conducted by an entity, is being directed and managed in the UAE and may attract more severe penalties.

To remain compliant with the ESR and avoid penalties, companies in the UAE must carry out their businesses in the UAE only. As UAE becomes an international financial hub, the regulation is only expected to intensify in the future with increased supervision from the MoF.