What is permanent establishment, and how it attracts tax

The Permanent Establishment is usually a fixed or permanent place of business, other than a subsidiary in any other country or state, and the income from the PE is usually subject to tax in the same state or jurisdiction from where the income is being derived

By Mahar Afzal/Compliance Corner

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The OECD model is the most common basis for defining Permanent Establishment internationally and is implemented in nearly three thousand tax treaties.
The OECD model is the most common basis for defining Permanent Establishment internationally and is implemented in nearly three thousand tax treaties.

Published: Sun 15 Jan 2023, 3:40 PM

Permanent Establishment (PE) is an especially important concept in corporate tax and a key determinant for applying corporate tax.

The PE is usually a fixed or permanent place of business, other than a subsidiary in any other country or state, and the income from the PE is usually subject to tax in the same state or jurisdiction from where the income is being derived.


The original concept of PE can be traced back to Germany. In 1845, the concept was first seen in the Prussian Industrial Code, but it was not used for tax purposes at that time.

Later in 1869, Prussia and Saxony (two German states) concluded the first-ever tax treaty, which specified the conditions for taxation as a stehendes Gewerbe (standing operation).


According to article 2(1) of the treaty signed between two German states, a non-citizen was taxable in a state where an enterprise used a gewerblichen oder Handels-Anlage (business establishment). The Prussian concept of a standing operation was a general limitation of source-state taxation as it required a fixed location and intention to perform the business activities in the state to tax income in the state.

In 1909, the word PE was used in the German double taxation Act to stop double tax between the German states. In 1928, the League of Nations developed a model to tackle cross-border double taxation and to counter tax evasion. Since then, extensive work has been done on the tax treaties under the OECD Model Tax Convention on Income and on Capital (OECD model) and the United Nations Model Double Taxation Convention between Developed and Developing Countries (United Nations model).

The OECD model is the most common basis for defining PE internationally and is implemented in nearly three thousand tax treaties. Article 5 of the OECD model conventions deals with PE, and the same basis has been used to determine PE in the United Arab Emirates (UAE).

Article 14 of the law says that a non-resident shall have a PE in the UAE if the nonresident person has (i) a fixed or permanent place of business in the UAE, (ii) a person who conducts business or business activity on behalf of a non-resident person in the UAE or (iii) any other form of nexus in the UAE as specified in a decision issued by the Cabinet.

If there is a fixed or permanent place in the UAE through which the business of the non-resident person, or any part thereof, is conducted, it shall be assumed that the non-resident person has PE in the UAE. The fixed or permanent place includes the place of management, branch, office, factory, workshop, land, building and other real property.

The building sites, construction projects, place of assembly or installation or supervisory activities in connection therewith shall be considered PE if these are carried out for more than six months. Installations and structures used in the exploration of natural resources, as well as mines, oil or gas wells, quarries, and other places of extraction of natural resources will also be considered PE. Preparatory or auxiliary activities like limited marketing and promotional activities, performing market research and attending seminars or conventions etc do not fall under the definition of PE.

The fixed or permanent place used to keep, store, display or deliver the goods of a non-resident person, shall not be assumed PE of the non-resident person. However, if the non-resident or its related party has another PE in the UAE which has business cohesive/integrated operations with this fixed or permanent place, and on an overall basis, activities of all operations are not being used for preparatory or auxiliary activities for the non-resident in the UAE, then it will be assumed that non-resident has PE in the UAE.

Non-resident persons may source their income from any country without setting up fixed establishments like appointing an agent and processing all transactions through the agent. To counter this risk “Dependent Agent” concept has been introduced.

Where the “fixed or permanent place of business” test fails, PE can also be established based on the dependent agent. The results of the dependent agent test shall be positive, where the person (company or individual) habitually concludes or negotiates contracts that a non-resident person concludes without material modification. However, if the person is working independently and conducting business or business activity on behalf of a non-resident person in the normal course of business, it will not constitute a PE of the non-resident person in the UAE. So, we can say PE will not be established merely based on the independent agent but exclusive agent.

The subsidiary will be considered a separate legal entity, however, if the subsidiary acts as a dependent agent of the parent company, then the subsidiary will become a PE of the parent company.

We need to wait for the Cabinet decision, which will clarify the nexus of the non-resident person in the UAE that will create PE of the non-resident person.

If you need more clarification about the presence of PE in the UAE, you should seek professional advice. Depending upon the circumstances, you will be advised to create a subsidiary or enter a short-term contract to avoid creating an inadvertent PE.

Mahar Afzal is a managing partner at Kress Cooper Management Consultants. The above is not an official opinion of the Khaleej Times but a personal opinion of the writer. For any queries/clarifications, please write to the writer at mahar@kresscooper.com



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