By Raman Ohri, Head of Direct Tax, Keypoint, Bahrain
Over 140 countries, including the Kingdom of Bahrain, have committed to promoting international tax transparency by implementing certain minimum standards. In 2021, the Organization for Economic Co-operation and Development (OECD) set a global minimum tax rate of 15% on worldwide profits for large multinational entities (MNEs), regardless of where they are headquartered. The inclusive framework global minimum tax agreement has created a dilemma for lower corporate tax regimes, such as some of the six countries—Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates—that make up the Cooperation Council for the Arab States of the Gulf (better known as the GCC). Current corporate income tax rates MNEs pay in the GCC countries that have signed up to the framework (Kuwait is the exception) are: Saudi Arabia – 20%; United Arab Emirates – 9% (from June 2023); Qatar – 10%; Bahrain – no corporate tax; and Oman – 15%.
Saudi Arabia and Oman meet the global minimum tax rate. At the time of the writing of this article, Bahrain doesn’t tax personal or corporate income (except on hydrocarbon-related activities) or foreign dividends or investments. Three questions spring to mind: What are the consequences if Bahrain doesn’t introduce a global minimum tax? How could the economy benefit if a corporate income tax is implemented? And would implementation change the attitude of foreign tax authorities towards Bahrain?
Loss of tax revenue
In January this year, the United Arab Emirates (UAE) announced it was introducing a corporate income tax for financial years commencing on or after June 1, 2023. A headline rate of 9% will apply across the board, except for MNEs who will pay a higher (as yet unclear) tax rate on their UAE profits, helping to ensure that taxed revenue on business activities remains in the UAE. Under the OECD’s two-pillar initiative, if Bahrain decides not to implement a corporate income tax, any tax revenue Bahraini companies generate could be collected in a foreign jurisdiction. To prevent that from happening, Bahrain could implement either a domestic tax regime for all businesses and across all sectors (with some exclusions) alongside a specific mechanism to collect top-up tax from MNEs (as the UAE has done) or a tax regime that only taxes MNEs doing business in Bahrain.
Irrespective of the method, the overriding objective of Bahrain’s tax authority (the National Bureau for Revenue or NBR) will be to ensure that the effective tax rate on MNEs’ profits meets the global minimum tax rate of 15%, avoiding tax revenue being lost to to foreign jurisdiction.
The government of Bahrain continues to make a concerted effort to diversify its economy from one that is heavily dependent on oil for government revenues by developing small and medium-size industries, supporting the commercial services sector, and encouraging greater private sector investment. The introduction of VAT in 2019 was an important statement of its intent—albeit as part of a GCC initiative. Taxing corporates would also bolster government finances—hard hit by the impact of COVID-19 over the last 30 months. However, it could also have a negative impact, leading to job losses in the private sector, less foreign direct investment, and a general economic downturn.
It is widely suggested that MNEs have been able to lower the effective tax rate on their global profits by shifting their overseas profits to the GCC, where historically they have had minimum economic activity or substance. Internationally, Bahrain’s tax regime is seen as relatively favourable—particularly when compared to mature tax jurisdictions. In fact, believing that MNEs were able to establish a presence in Bahrain and report profits despite minimum activity, the European Union blacklisted Bahrain as a non-cooperative jurisdiction in 2017. Bahrain made specific commitments to adhere to globally established norms, and consequently, in early 2018 Bahrain was removed from the list.
Introducing a corporate income tax will impact businesses that have a presence in the region for taxation purposes and could compel them to review existing business models and pricing strategies. Bahrain has already taken certain steps to demonstrate good taxation practice by introducing economic substance regulations, country-by-country reporting, and ultimate beneficial ownership rules. However, if, as anticipated, Bahrain does implement a corporate income tax, the announcement would be nothing short of seismic. Bahrain’s double tax treaty network is growing—more than 45 agreements are already in place. With the introduction of corporate income tax, the mutual agreement process, used to resolve cross-border disputes, should also be improved and updated, further strengthening Bahrain’s position in tax treaty negotiations.
Implementation of a corporate income tax will also, in all probability, lead to the introduction of transfer pricing—as it has in the UAE. Transfer pricing rules generally apply to cross-border intragroup transactions—but can also apply to domestic intragroup transactions in some jurisdictions. MNEs that have a presence in Bahrain would need to update their transfer pricing policies and documentation to align them with the OECD guidelines on the arm’s length principle. If Bahrain were no longer considered a low-tax jurisdiction, MNEs could make a good case to their home authorities on the commercial rationale of doing business here.
While there has been no official word from the Bahraini authorities, it now seems a matter of when—rather than if—a corporate income tax will be implemented. Having worked in multiple tax jurisdictions, the implementation of a new tax is rarely straightforward. Stakeholders—not just tax and finance functions—across all levels of organizations should assess the potential impact of these tax reforms. At the very minimum, businesses should budget for the expected tax cash-outflow in their forecasts and projections. The GCC tax regimes can, and are, changing very quickly. The extremely volatile global economic perspective—from the war in Ukraine to fluctuating prices of a range of commodities—suggests that the justification for change is starker than it may have ever been.
Raman Ohri is the head of direct tax at Keypoint in Bahrain.