"Free zone means zero tax" is the single most repeated — and most misleading — sentence in the UAE setup market. Since June 2023 every UAE company, free zone or mainland, is within the corporate tax net. A free zone company can pay 0%, but only on income that qualifies, and only if it meets a list of conditions every year. For an Indian exporter or service business the difference between the two licences is therefore not the tax rate on the brochure; it is what the company will actually do and with whom.
The mainland baseline
A mainland company licensed by the Department of Economy of its emirate can trade anywhere in the UAE, sell to consumers, take government contracts and open branches. It pays corporate tax at 9% on taxable income above AED 375,000 each year, files a return within nine months of year-end, registers for VAT at 5% once taxable supplies exceed AED 375,000, and keeps audited or at least properly prepared accounts. Foreign ownership is 100% for most activities. For an Indian company that wants to sell physical goods to UAE retailers and distributors, or bid for Gulf infrastructure work, this is almost always the right answer, and the 9% is a modest cost against the market access.
The free zone offer, correctly stated
A free zone company is also a taxable person at 9%. It becomes a Qualifying Free Zone Person (QFZP) — 0% on qualifying income, 9% on the rest — only if, throughout the tax period, it:
- maintains adequate substance in the free zone: core income-generating activities carried out there, with adequate staff, premises and expenditure;
- earns qualifying income: broadly, income from transactions with other free zone persons (where they are the beneficial recipient), income from a list of qualifying activities with anyone, and income from qualifying intellectual property;
- keeps non-qualifying revenue within the de minimis threshold — the lower of AED 5 million or 5% of total revenue;
- prepares audited financial statements;
- complies with transfer pricing rules and documentation; and
- has not elected to be taxed at the standard rate.
Fail any one condition and the company loses QFZP status for that tax period and the following four — the whole of its income is taxed at 9% for five years.
What counts as a qualifying activity
The list is specific: manufacturing and processing of goods; trading of qualifying commodities; holding of shares and securities; ownership, management and operation of ships; reinsurance, fund management and wealth management services that are regulated; headquarter, treasury and financing services to related parties; financing and leasing of aircraft; distribution of goods from a designated zone to customers who resell or process them; logistics services; and activities ancillary to these. Notably absent is the ordinary service business — consulting, IT services, marketing, recruitment — sold to mainland UAE customers or to individuals. That income is non-qualifying. Excluded activities, which taint the whole position if they exceed de minimis, include transactions with natural persons (with limited exceptions), banking, insurance and finance activities, ownership of immovable property other than commercial property in the free zone, and non-qualifying intellectual property.
Three Indian businesses, three answers
| Business | Free zone outcome | Better choice |
|---|---|---|
| Textile exporter from Mumbai supplying UAE retailers | Sales to mainland retailers are non-qualifying; a designated-zone trading company distributing to resellers can qualify, but sales to end retailers on the mainland exceed de minimis quickly | Designated free zone (e.g. JAFZA) for re-export and distribution to resellers; mainland company or distributor for direct retail |
| IT services company billing clients in Europe, the US and India | Services to customers outside the UAE are not on the qualifying list — the income is taxed at 9%, though a free zone still gives low cost and 100% ownership | Free zone for cost and visas, budget for 9% on profits above AED 375,000; the real saving is against India's 25% plus, provided POEM and transfer pricing are handled |
| Holding company for Gulf and African subsidiaries | Holding of shares and securities is a qualifying activity; dividends and capital gains are also covered by the participation exemption | Free zone (ADGM, DIFC, RAK ICC or DMCC) — a genuine 0% position with modest substance |
Substance is not a form
The Federal Tax Authority looks at whether the activity is actually performed in the free zone. A flexi-desk, no employees and a manager who lives in Mumbai does not support 0% on trading income, and it does not support the company being non-resident in India either: a UAE company whose place of effective management is in India is taxed in India on its worldwide income. The same facts — resident manager, real premises, decisions taken and minuted in the UAE — resolve both the UAE qualifying test and the Indian residence test. Plan the substance budget before the licence, not after the first tax return.
VAT, customs and the designated zones
Free zone status does not remove VAT. Only "designated zones" — fenced customs areas such as JAFZA, KIZAD and Dubai Airport Free Zone — are outside the UAE for VAT on goods, which matters for re-export models. Goods moving from a designated zone to the mainland attract customs duty at 5% and VAT. Services are taxed normally wherever the free zone is.
The decision in one line
Sell to UAE businesses and consumers: mainland. Re-export, distribute to resellers, hold shares, or run a regional headquarters: free zone, with substance. Export services from the UAE to the world: free zone for cost and ownership, but plan for 9%, and plan the Indian transfer pricing with the same care as the UAE licence.
How we structure it
We map the company's planned revenue against the qualifying and excluded activity lists before choosing the zone, size the substance budget, and set up the Indian ODI and transfer pricing file in the same engagement. Read about our UAE service or contact us.
Tax, GST and business setup advisors — Mumbai and Thane. Contact us to discuss your situation.
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