If I cancel a tenancy contract mid-term that includes a penalty of two months rent, is the penalty payment eligible for VAT? I am aware that there is no VAT on residential rent, but my landlord says the penalty is not rent. He uses the two months' rent as a denominational factor only to calculate the penalty and says he must therefore apply VAT. Is this correct? SB,Dubai
This question affects many people renting residential accommodation in the UAE. The Federal Tax Authority recently issued VAT P001 - a Public Clarification document on this very subject. Guidance on this can be found on the FTA website and it starts by stating: "VAT is a tax on supplies of goods and services. Therefore, no VAT is due if no supply takes place. As part of business arrangements, businesses will often make payments to compensate each other for any loss, omissions or other wrongdoings. A question arises whether VAT is due on such payments."
Although the residential lease is not contracted between two businesses, it is a commercial arrangement that will follow the FTA guidance, which specifically covers fines and penalties and compensation for loss of earnings. The two months’ rent, included in your contract for early termination, is clearly compensation for loss of earnings while the landlord finds a replacement tenant and as such is outside of the scope of VAT. Therefore, your landlord is not entitled to charge you VAT on this amount.
Other examples of payments covered by this guidance and considered outside the scope of VAT, are late payment interest charges or penalties; any compensation for loss of earnings; most fines and penalties, including speeding or parking fines and payments for damaging or losing someone else’s property, for example damage to a hire car. None of these should have VAT applied.
The guidance also gives specific examples of payments that appear similar but are deemed to be a taxable supply and therefore subject to VAT. These include where you break something in a shop and are required to then purchase it, and a hotel cancellation charge. Both of these are considered to be supplies of a good or service and subject to VAT.
I have a small PR consultancy business that I started in 2017. By the end of September I expect I will have reached the threshold for VAT registration. When exactly should I register for VAT and what records do I need to keep? I currently use excel to record payments and receipts, but I doubt this is sufficient for the FTA. BB, Sharjah
Do not wait until your turnover has reached Dh375,000 before registering for VAT. The law says you need to look back over the previous 11 months and forward for the next month, obviously using anticipated turnover for the future month. If this total exceeds the registration threshold you should register. So, if you get to the end of August and expect your projected revenues in September - when added to your actual revenues since you started the business - will take you over the limit, you should then register immediately. Any delay may result in your being fined for late registration.
The Decree Law and Executive regulations are quite prescriptive about the records you need to keep and you are right to think your Excel spreadsheet is not going to be compliant. The record keeping requirement is covered in Articles 2, 3 and 4 of the Executive Regulation of Federal Law on Tax Procedures and in Article 78 of the Decree Law and Articles 71 and 72 of the Executive Regulations to the Decree Law. Read through these thoroughly to ensure that any accounting system you select will be compliant. I know of someone who was sold a US version of an accounting software that could deal only with sales tax and not with VAT (which is a sales and purchase tax). It was a very costly mistake.
To summarise the requirements, you must run a proper accounting system that includes details of all your payments and receipts, purchases and sales. The system must be capable of holding records of staff costs, fixed assets and producing profit and loss statements, balance sheets and detailed reports to support your quarterly VAT returns. You must issue VAT compliant sales invoices. All records must be kept for five years although electronic copies are acceptable. If you are in any doubt of what records you to keep, seek professional help. The fines and penalties for non-compliance are significant and ignorance of the law or inexperience will not be accepted as an excuse for getting it wrong. It’s advisable to get set up properly from the start.
Lisa Martin, a chartered accountant with more than 20 years commercial finance experience, is the founder of accounting, auditing and VAT consultancy, The Counting House. Email any VAT queries to email@example.com