UAE resident alert: 5% VAT is officially coming by Jan 1, 2018, reads a headline in Khaleej Times (12 Feb 2018)
VAT is added on each layer of supply chain and is ultimately reflected in the final price. For example a 5% VAT on a good of cost AED 100 will cost the buyer AED 105, the seller will collect AED 5 and deposit with the government in their tax filings. Hence, businesses will have to become the tax collection arm for the government.
Impact of VAT on businesses
Profitability
VAT is borne by the end user, hence the gross profit of a business remains the same. The impact is shifted to the final customer of a good or service.
Prior to VAT, for example, a mobile retailer buys a mobile from the wholesaler for AED 100 and sells for AED 110, making a gross profit of 10% on the sale.
After VAT is introduced, the same mobile will cost the retailer AED 105 (input tax) and sell for AED 115.5 collecting AED 5.5 (output tax) from the end-customer. The difference between output and input tax AED 0.5 is the tax income for the government.
The above example is applicable to businesses who will register for tax filings. For unregistered companies, VAT will be paid on purchases, but no output tax will be collected, hence tax expense will become part of the cost of sales and this will affect the gross profits.
In summary, registered companies will not take a hit on their gross profits but unregistered companies will.
VAT will potentially increase the operating and admin expenses for the SMEs affecting their net profit margins. Cost of collecting taxes and compliance costs will add to the admin expenses. However, if these processes are electronic (quite possible) and training is made available, these costs can be kept on the lower side.
Pricing Strategies
A lot of the businesses who face intense competition and a 5% increase in their prices will affect the demand for their goods and services may decide to further lower the prices to remain competitive post-VAT. However, it can be argued that a VAT of as low as 5% may not have a significant impact on demand for certain consumer goods.
Liquidity
VAT will definitely affect the working capital of the SMEs. The timing difference between output and input tax will affect the liquidity of businesses. Businesses with poor credit control will be affected the most.
For businesses paying suppliers upfront and offering credit to customers should plan in advance on how to manage cash flows. On the contrary, businesses buying on credit and selling on cash basis will benefit.
ERP & Process flows
Businesses will have to bear costs in improving their financial reporting systems and hire/outsource accounting needs of the business.
Wages and Salaries
In the current economic conditions, payroll seems to be least affected as the labor supply exceeds demand for manpower.
Conclusively, VAT will create opportunities for government to switch to non-Oil sources of income. In the short run, jobs will be created in finance departments and a lot of audit and consultancy firms will start providing tax services to their existing clientele.
Information Available so far:
Rate: 5%
Implementation date: 1 Jan 2018
Minimum Turnover: AED 3.75 million per annum
Frequency of filing: Quarterly (3 months)
Registration opens: last quarter of 2017
Will tourists pay VAT: Yes
Businesses can only benefit out of VAT, by preparing towards it!
VAT is added on each layer of supply chain and is ultimately reflected in the final price. For example a 5% VAT on a good of cost AED 100 will cost the buyer AED 105, the seller will collect AED 5 and deposit with the government in their tax filings. Hence, businesses will have to become the tax collection arm for the government.
Impact of VAT on businesses
Profitability
VAT is borne by the end user, hence the gross profit of a business remains the same. The impact is shifted to the final customer of a good or service.
Prior to VAT, for example, a mobile retailer buys a mobile from the wholesaler for AED 100 and sells for AED 110, making a gross profit of 10% on the sale.
After VAT is introduced, the same mobile will cost the retailer AED 105 (input tax) and sell for AED 115.5 collecting AED 5.5 (output tax) from the end-customer. The difference between output and input tax AED 0.5 is the tax income for the government.
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| Source: Ministry of Finance, Government of Dubai website |
In summary, registered companies will not take a hit on their gross profits but unregistered companies will.
VAT will potentially increase the operating and admin expenses for the SMEs affecting their net profit margins. Cost of collecting taxes and compliance costs will add to the admin expenses. However, if these processes are electronic (quite possible) and training is made available, these costs can be kept on the lower side.
Pricing Strategies
A lot of the businesses who face intense competition and a 5% increase in their prices will affect the demand for their goods and services may decide to further lower the prices to remain competitive post-VAT. However, it can be argued that a VAT of as low as 5% may not have a significant impact on demand for certain consumer goods.
Liquidity
VAT will definitely affect the working capital of the SMEs. The timing difference between output and input tax will affect the liquidity of businesses. Businesses with poor credit control will be affected the most.
For businesses paying suppliers upfront and offering credit to customers should plan in advance on how to manage cash flows. On the contrary, businesses buying on credit and selling on cash basis will benefit.
ERP & Process flows
Businesses will have to bear costs in improving their financial reporting systems and hire/outsource accounting needs of the business.
Wages and Salaries
In the current economic conditions, payroll seems to be least affected as the labor supply exceeds demand for manpower.
Conclusively, VAT will create opportunities for government to switch to non-Oil sources of income. In the short run, jobs will be created in finance departments and a lot of audit and consultancy firms will start providing tax services to their existing clientele.
Information Available so far:
Rate: 5%
Implementation date: 1 Jan 2018
Minimum Turnover: AED 3.75 million per annum
Frequency of filing: Quarterly (3 months)
Registration opens: last quarter of 2017
Will tourists pay VAT: Yes
Businesses can only benefit out of VAT, by preparing towards it!
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