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28 March 2024

Inflation fears loom over introduction of VAT in UAE

(GERMAN FERNANDEZ)

Published
By Abdel Hai Mohamad

Value added tax (VAT) will definitely be introduced in the UAE but no date for its launch has yet been set, Abdulrahman Al Saleh, Executive Director of the Corporate Support Sector at Dubai Customs, has revealed.

"The Ministry of Finance is still studying VAT and the laws and mechanisms required for its implementation," he told Emirates Business.

Plans to introduce VAT have caused widespread controversy among officials and economists who are concerned about its possible effects, particularly on foreign investment.

But Al Saleh denied there would be a negative effect on foreign or local investment. He said the tax would encourage investment as it would not be imposed on investors and would be paid by the final consumer in an indirect way.

He confirmed VAT would be implemented at the federal level and there would not be a special tax law for each emirate.

Methods for collecting the tax were currently being examined.

Al Saleh, who supervised the preparation of a comprehensive study of which recommended the application of VAT in the GCC states, is one of the biggest supporters of the tax.

Al Saleh stressed VAT was imposed on the value paid by the consumer to obtain commodities and services.

It is a general tax that is applied to all local commodities and services as well as imported goods. In addition VAT is imposed on different phases of production. Imposing VAT on completed products might mean it is imposed many times during the different phases of production.

He said VAT would replace the existing Customs duty and would be applied at a lower rate than the five per cent Customs charge. The tax on locally produced items would be around two per cent lower.

"This move is supported by changes seen around the world as countries enter into regional and international agreements and duty free zones are established," he said.

"It will end the Customs duties applied currently and liberalise cross-border trade. This means that Customs duties imposed on commodities that governments required to achieve their development strategies will fall to very low levels. Therefore VAT is considered the most suitable and effective solution to generate revenues for governments.

Experience proves that countries which impose VAT on goods and services were positively affected as the tax attracted investment."

Al Saleh said there was no link between the application of VAT and inflation.

"Inflation rose very slightly in some countries that applied VAT only in the first year of application. Inflation then returned to its natural level the next year."

However, Dr Humam Al Shamaa, a financial consultant at Abu Dhabi- based Al Fajer Securities, said the UAE would not introduce VAT. He said only Dubai Customs was calling for its implementation while the remaining emirates, especially Abu Dhabi, did not approve of the tax.

"VAT is a complementary tax applied in some countries to control tax evasion problems," he told Emirates Business.

"The situation is very different in the UAE which does not have direct taxes. In addition the Government rejected last year's calls by the International Monetary Fund to establish a tax system.

In principle the establishment of a tax system in the UAE is an economically positive step. No economy in the world is free from taxes, which are the main and permanent tool to finance government activities.

However, due to the UAE's peculiarity, in terms of the abundance of resources compared to population, the absence of taxes has become one of the important drivers of economic development, especially in Dubai which has attracted trade and realty activities because of the scarcity of oil resources."

Asked about the likely consequences of the lack of an effective tax system, Al Shamaa said: "The Government's continuing dependence on oil resources to finance its expenditure, which increases when oil prices rise, will lead to harmful results, especially inflation.

The introduction of a tax system providing the state with most of its financial needs will form a guarantee against the threat of rising inflation. Resources coming from taxes do not have inflationary effects."

The neutral effect of indirect taxes such as charges, Customs duties, sale taxes and VAT might replace oil revenues could alleviate inflation. Therefore imposing VAT at five per cent would not push up inflation in the UAE by the same percentage – the increase would be less.

But is it appropriate to impose a tax that will increase prices paid by consumers at a time when inflation has reached 11 per cent according to official statistics?

"Definitely not," said Al Shamaa. "A tax system originally depends on direct taxes. Then VAT and sales tax are intriduced to control evasion of direct tax. As long as there is no intention in the UAE currently to impose an integral tax system depending basically in direct taxes – income tax – it is better to avoid the imposition of indirect taxes, which will not produce major big benefits in the provision of finance for the state. It is better to keep customs duties."

He said a VAT regime monitored businesses in detail so the body applying the tax would know the smallest details about investors.

"This will reduce the margin of economic freedom. The reduction of economic freedom might be necessary in countries have gone a long way in economic development but it is unsuitable in an economy that still has many things to achieve."

Dr Najeeb Al Shamsi, an economist and the Director of the Studies and Research Department at the GCC Secretariat-General, agreed with Al Shamaa. He said VAT should not be applied because of its negative effects on foreign investment or its introduction should at least be postponed until its effects are examined in detail.

"The UAE has had an attractive investment environment over recent years because it has not imposed direct taxes on income," said Al Shamsi. "VAT will increase the cost in some ways for investors.

In addition it will harm consumers and increase cost of living burdens and inflation, though we urgently need to lower inflation to at least five per cent so we continue to attract national and foreign investment."