LVAS-5%? can we apply it in UAE
The UAE Federal Tax Authority (FTA) follows the Arm's Length Principle (ALP), which requires that all related-party transactions be priced as if they were between independent parties. Here is how you should interpret the "5% rule" in the UAE
- The OECD “Safe Harbor” vs. UAE Law
While the UAE Corporate Tax Law nowhere explicitly state “you may charge 5%,” it adopts the OECD Transfer Pricing Guidelines as the primary framework for interpreting arm’s length outcomes. The OECD’s simplified approach for LVAS (which recommends a 5% mark-up on costs) is widely accepted as a reasonable proxy for market value for routine services, provided you can prove they are indeed “low value-adding.”
- Can you apply it?
Yes, you can apply a 5% mark-up, but only if you meet these four conditions:
Routine Nature: The services must be back-office, administrative, or supportive (e.g., routine IT support, basic accounting, HR payroll…refer the to OECD List…
Non-Core Status: The services must not be part of the group’s core revenue-generating activity. If the “service” is central to how the business makes money (e.g., specialized software development for a tech company), the 5% mark-up will likely be rejected, forget it , 100% it will be Rejected.
No Unique Intangibles: You cannot use this mark-up if the service involves the use or creation of unique intellectual property or highly proprietary trade secrets. ( trust me Intagible Value transfer is not so simple…)
The Benefit Test: You must document that the UAE entity actually derived a commercial benefit from these services. If the services are merely “shareholder activities” (e.g., managing the parent company’s share price or internal audit for the group), no charge—not even 5%—is permitted. ( you can push money so easily across juridictions…you see)
- Critical Compliance Warning (The “Accounting” Trap)
There is a common confusion between Transfer Pricing (TP) and VAT.
VAT (5%): Note that the 5% you often hear about in the UAE context is the Standard VAT Rate. This is entirely separate from your Transfer Pricing “mark-up.” ( dont bungle up this with 5% LVAS rate)
TP Mark-up: Your TP mark-up is your profit margin. If you choose a 5% margin for your management fee, you are charging: (Cost + 5% Margin) + 5% VAT (if applicable).
- How to protect yourself from an Audit
If you decide to adopt the 5% mark-up, do not just issue an invoice. To make it “audit-proof” for the FTA.
Draft an LVAS Memo: Create a simple document that explicitly identifies the services, explains why they are “low value,” and confirms they do not involve core IP or strategic risk.
Maintain a Cost Pool: Keep a clear calculation of the costs included in the recharge (e.g., Direct Salary + Benefits + IT overheads = Total Cost).
Use Allocation Keys: Clearly document the “Allocation Key” (e.g., “Costs are allocated based on headcount, as these are HR services”).
Avoid “Cost-Plus” on Pass-Throughs: If you are recharging costs paid to a third party (e.g., paying a software vendor on behalf of the group), do not add a 5% mark-up to the third-party invoice. You should only add the mark-up to your own internal service costs. Recharging third-party costs at a profit is a major audit red flag.
Recommendation: For a UAE entity, a 5% mark-up is a very defensible position for administrative services. However, if you are being charged a fee by a foreign parent( inter jurisdictional push) that is significantly higher than 5%, you are required to perform a benchmarking study to prove it remains at “arm’s length,” as the 5% “safe harbor” only works in your favor for low-value, routine services.