News of the Federal Government’s plans to introduce a Value Added Tax (VAT) and Corporation Tax to the UAE has dominated the headlines in recent weeks. First reports of the move came in August, but what are the implications for UAE residents?

Taxes explained

Commonly used in Europe, VAT is best described as a type of consumption tax, or sales tax, that is applied on the added value of a good as it moves through the supply chain to the end consumer.

While it’s levied at each stage in the product’s chain, it’s the consumer that bears the brunt of the tax, as it is effectively a tax on the purchase price.

It means everything from your groceries to a new iPhone could become more expensive as retailers and suppliers pass on the charge to consumers to ensure they retain their margins. However, under the UAE’s proposals, VAT here would not apply to basic goods and essentials but only to luxury goods, alcohol and tobacco.

Corporation tax, on the other hand, applies to businesses rather than individuals and is a tax levied on any profits earned by a business.  The plans being drafted by the Ministry of Finance will see the tax applied to both domestic and foreign companies – it currently already applies to the banking sector.

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Why introduce these taxes

The proposed introduction of VAT is no surprise. The GCC region has been discussing this since before the financial crisis. While initially it was believed GCC members would introduce it at the same time to offset any disadvantages, the crash in oil prices – oil has fallen from about $115 per barrel in June 2014 to approximately $45 per barrel now – has seen the idea revived.

With government revenues affected by the low oil prices, the International Monetary Fund has been urging GCC nations to introduce VAT to help the region build more robust economies by diversifying away from hydrocarbons. If the UAE’s plans go ahead, it will become the first GCC nation to bring in an economy-wide indirect tax on consumption.

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How this affects us

There’s no doubt introducing taxes will change how the UAE is perceived globally. For decades, the nation has been a tax-free haven – where expatriates could earn more than they could in their home countries while only being subject to “lighter taxes” such as Salik, a tourism tax and the recent removal of subsidies on fuel.

But VAT will affect all of us as it’s applied at the point of sale. In the short-term experts predict consumer spending will reduce and there will be a drag on growth.  However, if VAT is applied to luxury items it means how a consumer is affected will depend entirely on their own spending patterns. Those with a penchant for luxury handbags will suffer more.

Another factor to consider is the rate of VAT applied. In the UK, consumers pay a hefty 20%; at that level many UAE residents would demand a pay-rise to offset inflation. But let’s say the government starts with a more modest 3 % – that’s a manageable amount that can be absorbed by minor cuts elsewhere in one’s spending pattern.

A corporation tax could have more of an effect. Shareholders would see their returns decrease as the government slices off a share of the wealth. They will naturally want to find a way to improve their margins again – this could see large organisations cutting annual salary increases or increasing the cost of goods and services to boost the top line and keep the bottom line steady.

Ultimately, if people’s discretionary spending is affected and they struggle to save there will be a natural migration in the jobs market to higher-paid roles to offset the increase. But some may just pay pack up and move on.

Until the finer details are revealed, all of this is speculative. Something that is worth considering though is that any new tax will go towards building a stronger UAE economy – something that can only benefit anyone choosing to live here.