In this article, we break down how taxable income is calculated under the UAE Corporate Tax Law—and which deductions are allowed, restricted, or outright disallowed. You’ll also learn how special rules like unrealized gains, small business relief, and interest deduction limitations play a role in determining your final tax bill. Whether you’re a business owner, CFO, or tax advisor, this blog gives you a clear understanding of how taxable income really works in practice.
Determination of Taxable Income
Every taxable person under UAE law has to calculate their taxable income separately. This isn’t done arbitrarily—it’s grounded in the standalone financial statements prepared using UAE-accepted accounting standards (mostly IFRS). These serve as the base, but adjustments are required before you land at your actual taxable figure.
So, what kind of adjustments are we talking about?
- Unrealized gains or losses
- Exempt income (discussed in Alert #4)
- Reliefs like business restructuring or intra-group transfers
- Deductions and disallowances
- Transfer pricing to ensure arms-length standards
- Tax loss relief
- Government-specified incentives for qualifying businesses
There’s also flexibility built into the system—the Cabinet and Finance Minister can notify further adjustments in the future. This ensures the law can evolve as the economy does.
One area where businesses often get caught off guard is unrealized gains and losses. If you use the accrual basis of accounting, you’re generally expected to recognize income and expenses when they’re incurred—not when the cash comes in or goes out.
But here’s the relief: UAE tax law gives you the option to consider realization-based treatment for certain items like:
- Assets or liabilities marked to market or subject to fair value accounting
- Capital account assets (think long-term investments, property, intangibles)
Why is this helpful? Because it aligns tax obligations with actual cash flow—you don’t pay tax on gains that haven’t been realized yet.
And there’s more: The Finance Minister has the power to:
- Introduce cash basis accounting in specific cases
- Prescribe different income computation methods for special business activities
- Clarify that tax law overrides accounting standards if there’s ever a conflict
The takeaway? While accounting rules give you a starting point, the tax rules have the final say.
Now let’s talk about Small Business Relief, one of the most business-friendly features of the law.
If you’re a resident person with gross revenue under AED 3 million in the current and previous tax periods, you may elect to be treated as having no taxable income—effectively exempting you from the tax net.
But, of course, there are conditions:
- The relief applies for tax periods from June 1, 2023, to December 31, 2026
- The following won’t apply if you opt for the relief:
- Exempt income benefits
- Intra-group and restructuring relief
- Interest deduction carryforwards
- Loss set-offs
- Transfer pricing documentation
And who’s left out?
- Free Zone Persons
- Members of Multinational Enterprise (MNE) Groups with revenues over AED 3.15 billion
Also, artificially splitting businesses to stay under the AED 3 million threshold? That’s a red flag. Authorities will treat it as tax abuse, and penalties will apply.
In essence, small businesses get a break—but not a loophole.
Deductions – Deductible Expenditure
Here’s the general rule: If you spend money wholly and exclusively for your business, it’s deductible in the year it’s incurred.
However, there are some practical rules for shared expenses:
A. Identifiable Business Costs
If the expense clearly supports your taxable business income—like employee salaries or rent—it’s fully deductible.
B. Mixed-Use Costs
For expenses that serve both business and personal purposes (like a shared phone line or travel), only the appropriate proportion related to business can be deducted. This has to be based on a fair, reasonable basis, considering the nature of your operations.
This approach keeps the system fair and prevents misuse without punishing legitimate business costs.
Deductions – Expenditure Not Deductible
Of course, not everything is deductible. The law lists out several specific exclusions:
- Expenses unrelated to business (personal spending, for example)
- Costs incurred to generate exempt income
- Entertainment and hospitality expenses — only 50% of these are allowed
- Donations or gifts to non-qualifying public benefit entities
- Fines, penalties, bribes, or any illicit payments
- Dividends or profit distributions
- Drawings by owners or partners in unincorporated partnerships
- Corporate Tax paid in the UAE or foreign countries
- Recoverable VAT
The logic here is clear: only business-related, transparent, and justifiable expenses are allowed. Anything with personal, penal, or exempt income connections is out.
Deductions – Interest Expenditure
Interest on loans taken for business is usually deductible—but there are guardrails, especially when related parties are involved.
Here’s how the specific interest deduction limitation works:
If a loan is taken from a related party for any of the following:
- Dividend payments
- Capital return or repurchase
- Capital contributions
- Purchase of ownership interests
…then the interest cannot be deducted, unless you can prove that the main purpose of the loan was not to avoid tax.
Even better, if the lender is paying tax at 9% or more—either in the UAE or abroad—then it’s assumed there’s no tax advantage, and you can deduct the interest normally.
This rule targets thinly-veiled tax planning, not genuine financial structuring.
Then we have the general interest deduction limitation—also known as the thin capitalization rule. It applies regardless of whether the loan is from a related party or not.
Here’s how it works:
- Deductible net interest is capped at 30% of EBITDA (Earnings Before Interest, Tax, Depreciation & Amortization)
- EBITDA must be adjusted to exclude exempt income
- Disallowed interest can be carried forward for up to 10 years
- But in the year you want to set it off, you must still meet the 30% EBITDA cap
There might be a threshold limit under which these restrictions don’t apply—the Finance Minister can notify such exemptions.
And importantly, the following are exempt from these rules:
- Banks
- Insurance companies
- Natural persons running businesses
This setup reflects global norms from the OECD’s BEPS (Base Erosion and Profit Shifting) Action Plan 4, aimed at curbing excessive debt-driven tax reductions.
A key insight? These rules apply even to third-party debt, not just intra-group loans. That’s big news for capital-heavy industries, where debt is often essential.
Final Thoughts
Determining taxable income isn’t just a math problem—it’s a regulatory framework that balances economic fairness with business efficiency.
The UAE’s Corporate Tax Law takes a thoughtful approach. It sets up a solid foundation through accounting standards, then refines it through targeted adjustments, allowable deductions, and practical limitations like those on interest or entertainment costs.
Reliefs like the small business exemption offer breathing room for startups and micro-businesses, while the thin capitalization rules prevent larger firms from gaming the system through excessive debt.
