Local Partner Share contribution in the UAE: What You Need to Know

Overview

Setting up a business in the UAE can be complicated, with a range of business set up options available across the mainland and free zones. While free zone companies can be 100% owned by non-GCC nationals, this option is not always ideal as it limits trading in the UAE mainland.

The geographical area limitation is the main setback for free zone companies. They are limited to doing business within their free zone of incorporation or outside of the UAE. In contrast, a mainland company can freely do business in the local market, any free zone or outside the UAE.

This article explores issues surrounding setting up in the UAE mainland. It particularly focuses on the benefits and ramifications of having a local sponsor/partner, which is a compulsory requirement for businesses wishing to set up in the mainland. It looks at measures business owners can take to safeguard against potential issues which may arise, and the recent modification to the law surrounding foreign ownership.

It must be noted that the term “local sponsor”, is often used by foreign investors to refer to the 51% shareholder. However, it can have misleading connotations as it conceals the true nature of the relationship - that the local shareholder is a 51% partner, albeit a sleeping one. Some entrepreneurs make the mistake of believing individual sponsors cannot legally interfere. However, Article 91 of the Federal Law on Commercial Companies grants sponsors ‘all the rights associated with the description of the partners’, and they may have the right to significant control over the company.

The recent foreign direct investment law of 2018 relaxes the aforementioned local sponsor share requirements. However, much of the old law remains relevant as the Dubai Economic Department (DED) still has the discretion as to how much foreign ownership is allowed in practice. Therefore, both aspects of traditional local sponsorship and the consequences of the new law will be explored.

Which Mainland Businesses Require a Local Sponsor?

In general, any company that wishes to conduct commercial, industrial or trading activities in the UAE mainland needs a local sponsor. These must either be registered as:

• Limited liability Companies
• Joint Liability Companies Professional services companies do not require local sponsorship.

However, a Local Service Agent (LSA) is still required. The definition of professional companies in the UAE is an organization which operates out of the intellectual efforts of its partners. For example, a law firm is a professional company – since its business is dependent on the expertise and the educational qualifications of the lawyers constituting it. Examples of professional companies are IT consultancy, legal consultancy, accountancy, education, administrative services, management consultancy...etc. Professional firm licenses can also be granted to sole establishments or LLCs.

Considerations Before Setting up in the Mainland

The process of initiating a business in the Dubai mainland can be difficult to navigate as it comprises multiple steps. After you have settled on the business activity and legal type that suits your needs, you need to:

• Find a local sponsor
• Have your office address verified by the Dubai Municipality. It is the tenant’s responsibility to ensure that both the tenancy and the EJARI tenancy contract are in place before applying for a license.
• Obtain the initial approval for a name and business activity.
• Get the Memorandum of Association notarized.
• Obtain any other additional approval (if required) from relevant authorities. This is dependent on the type of activity being undertaken and includes authorities such as the Municipality, RTA, National Media Council...etc.
• Make the final submission for a license.

Note: The Dubai Economic Department (“DED”) now has an “Instant License” service for company incorporation. As the name suggests, you can receive a company license very quickly, usually within a day. It allows you to start a business without an MOA, and without an Ejari, for the first year of the license. The MOA and Ejari would need to be submitted to DED upon renewal of the Instant License.

The following types of businesses may be incorporated through an instant license:

• Limited Liability Company
• One Person LLC
• Sole Proprietorship
• Civil Company

Some benefits of a mainland license include:

• Lack of geographical restrictions regarding trade. Being registered in the mainland means that you are going to have no restrictions regarding who or where you can trade within Dubai. It also gives you the freedom to trade internationally- a business necessity in today’s increasingly globalized world.
• Presents the opportunity to work with the UAE or GCC governments by enabling you to tender bids for lucrative government contracts.
• Presents the freedom to grow your company more easily. This is as the mainland option enables you to apply for an unlimited number of employee visas. While this typically requires bigger office space, the requirement is flexible, and you can negotiate this need with the DED if you opt for employees that work remotely. It provides a better setup for your business to evolve or diversify, as it comes with fewer restrictions compared to free zones.

What is a local sponsor?

According to Article 10(1) of the Federal Law No. 2 of 2015 on Commercial Companies, a foreigner (non-GGC national) can only hold up to 49% shares of a limited liability company. As such, any foreigner who wishes to incorporate a Limited Liability Company must have one or more Emirati partners who hold a minimum of 51% shares of such company.

There are two types of local partnerships in the UAE. Corporate partnerships/sponsorships and individual partnerships/sponsorships. A corporate partnership is where a UAE company (corporate body) holds 51% of the shares and liabilities of a company. Individual sponsorships are where an Emirati national (a natural person) becomes a local sponsor in his or her personal capacity. This is regardless of not having any actual investment in the company.

Although a mainland LLC which is owned 100% by GCC nationals does not require an Emirati sponsor, GCC nationals are not exempt from the Emirati partnership requirement where a non-GCC national is a shareholder in such a company.

Emirati sponsors usually do not get involved in the day to day management of a company they have sponsored. Their approach is that they are simply providing a service by enabling you to set up the business. There is little incentive to meddle as they are content with being sleeping partners. The foreign partner can consequently hold all operational powers.

Individual vs Corporate Sponsorship:

Some benefits of individual sponsors are:

• Some local sponsors have a very high profile. Many prestigious Emirati businessmen and women are available for foreign company ownership. Their connections can open doors and accelerate your company’s progress.
• This is generally the more affordable option. However, make sure to ask for a full and comprehensive breakdown of fees, covering any “hidden” charges.
• On average, there is less paperwork in comparison to other alternatives. Regardless, always ensure that the optimal legal protections are in place.

That being said, corporate sponsorship might be more attractive than individual sponsorship as corporations are less likely to meddle in your affairs. Some benefits of corporate sponsorship are:

• Corporate sponsorship deals are more secure as they typically offer better legal protection. Whilst entering into a partnership with a person you don’t know can be risky, corporate sponsorship deals via reputable providers often ensure that an agreement is overseen by a first-tier legal counsel.
• The process is clearer and more straight forward. This is as you will have the support of an entire corporate team, rather than one, possibly “unvetted” individual.
• Better time management. Corporate sponsors are more likely to be available. In contrast, individual local sponsors may travel at times and not always be available.
• No need for succession planning. Whilst the sudden death or departure of an individual sponsor can pose problems, opting for a corporate sponsor can free you from the expenses of succession planning which can be both costly and time-consuming.
• Finally, one of the greatest advantages is that corporate sponsors are far less likely to interfere with the business.

Remuneration

Whilst local sponsors own 51% of your business, profits do not need to be split along these lines. While there is no law stipulating how much the local sponsors must be paid, in most instances, local partners are paid a set fee or minimal amount of your profits. Industry established fees are usually between 7,000 – 100,000 AED.

Local service agents (“LSA”) are required in the case of professional firms where the expatriate may own 100% of the firm. An LSA will not be involved in the day to day running of the business. LSAs need only be engaged through an LSA agreement and paid a regular fee.

The Procedure of Adding a Partner in an LLC Company

To start the process of adding a new partner, you shall complete a type (BR1) form, including the signature of both the existing and new partners, and submit to DED or the Tas’heel Centre. Attachments must include:

• LLC Agreement or the MOA
• A copy of the Trade License
• Partners List
• Commercial register
• Passport copies of partners
• As a general rule, a No Objection Certificate (NOC) is required by the current sponsor of the person who is to become a partner
• Approach a legal translator to type the addendum to the LLC agreement (Share Sale Agreement), and get it attested from the Notary Public. Unless the agreement is only in Arabic, a seal of the legal translator would be required
• Attestation fee at court (Notary Public)
• All partners or their authorized representatives must attend before the notary in order to sign the Court Agreement. If a partner is outside the country, then a power of attorney can be issued to authorize another party to represent them at court. The POA would need to be attested by both the UAE embassy in the home country as well as the Ministry of Foreign Affairs in the UAE
• Submit the original copy of the attested addendum, the BR1 form, passport copies of partners and the sponsor NOC for a new partner at any branch of the DED
• Payment must be made to the counter of the DED to get the license. You can also pay using Credit Card/Direct Debit through the DED website after the issuance of the payment voucher.

Precautions to Take When Finding a Local Sponsor

It is a common practice to enter into a side agreement to reflect your true ownership arrangements with the other shareholders. It must detail their:

• Remuneration
• Roles
• Responsibilities
• Liabilities
• Cost breakdown
• What would happen if the majority of shareholders were to pass away

The Validity of a Side Agreement

As a general principle, in the UAE law, a written contract can only be contradicted by written evidence, except where the opponent waives his right to documentary evidence or where an agreement is made to defraud the law. The validity of side agreements poses an interesting legal issue. On one hand, Federal Law Number 17 of 2004 concerning Anti Fronting aims to prohibit the use of side contracts or nominee agreements with UAE nationals.

Furthermore, according to Article 10(3) of Federal Law No. 2 of 2015, any transfer of title of any share of the Emirati partner in a limited liability that may reduce the percentage below 51% shall be invalid. Moreover, side agreements cannot be notarized or registered in the commercial register as they are not official agreements.

In other words, the side agreement includes a share provision which is different from the official documents. However, there is tension between law and practice. This is as while the Emirati sponsor must, by law, own 51% of the shares, courts are willing to take the side agreement as valid evidence regarding the true intention of the parties.

A new UAE federal court judgement has demonstrated this and confirmed that the side agreement is valid as parties can continue to operate on that basis. The Supreme Court further decided that the existence of a side agreement can be concluded from various documents, and not necessarily from one document. As such, side agreements are often considered and/or upheld by the courts. This is a testament to the willingness of the UAE judiciary to determine and give weight to the true, underlying intention of the parties.

The aforementioned judgement, however, has not explicitly addressed the effect of Article 395 of the Civil Code, according to which “If the contracting parties conceal a true contract with an apparent contract, the true contract will be the effective one as between the contracting parties and a special successor.”

In this light, how might Article 395 of the Civil Code be reconciled with the more lenient approach adopted by the court?

The most viable approach may be to recognise that there is a manifest difference between the legal shareholding of mainland companies and the intended shareholding. It is likely that each case will be decided on a case by case basis with regard to the true intention of the parties. This can be deduced from a side agreement or other factors such as how dividends have been allocated previously.

Common Concerns Before Setting up Business in the UAE Mainland

One common concern before setting up in the UAE mainland is whether a local partner can expel you (as the foreign partner) from your own company. Under Article 677 of the Civil Code: “it shall be permissible for a majority of partners to apply for judicial order dismissing any partner if they adduce serious reasons for justifying the dismissal”. Therefore, it is theoretically possible for a partner to be removed.

Further, according to Articles 37, 47 and 63 of the Commercial Companies Code, a numerical majority is required in dismissing shareholders. An interesting issue covered in the recent Federal Supreme Court case was whether the majority pertains to the majority of shares or the majority of partners. However, the aforementioned case confirmed that side agreements will be considered in the event of such disputes.

This highlights the importance of adequately covering everything in the side agreement and going into each agreement with your eyes wide open.

Changing/Removing the Local Partner

Local partners can be replaced but not removed. It cannot be without his/her consent. The change can be done through selling or buying the shares. The procedures which must be followed to change your company’s local sponsor are as follows:

• The approval of each party involved is required. This can be granted when they sign the addendum to the MOA and the Share Transfer Agreement.
• Draft the Addendum to the Memorandum and Articles of Association, and the Sale and Purchase agreement.
• Get the above documents signed before the Notary Public.
• Submit to DED in order to complete the company licensing/amendment procedure.

The local sponsor cannot be forced to transfer his shares in the absence of any legitimate reason. This is because under Federal Law No. 2 of 2015, Concerning Commercial Companies, Article 91 gives sponsors ‘all the rights associated with the description of the partners’. However, where there are “serious reasons for justifying the dismissal”, then a partner could be dismissed by a majority of the partners. Examples of serious reasons justifying the dismissal include:

• Mismanagement, for instance not coming to sign documents, not cooperating before government authorities, or not being present in the country for over 6 months.
• Misappropriation of company assets.

The New Foreign Direct Investment Law 2018

The objective of this law has been to open up the UAE market to foreign investors. The list of sectors and activities eligible for 100% foreign ownership was published by the UAE Cabinet in July 2019. It comprises of 122 economic activities across 13 sectors. The list of businesses subject to this relaxation includes:

• Space
• Renewable Energy
• Agriculture
• Manufacturing
• Road Transport & Storage
• Hospitality and Food Services
• Information and Communication Services
• Professional, Scientific and Technical activities
• Administration and Support Services
• Education
• Healthcare
• Art & Entertainment; and
• Construction

In contrast, oil and gas, production and exploration sectors, air transport, security and military sectors, among others, would be excluded from the FDI law.

However, it is important to note that whilst the UAE cabinet allows up to 100% foreign ownership on the listed businesses, the discretion to determine the extent to which a foreign owner can have a different proportion of the local business rests with the DED.

Applications to consider must be submitted to the DED and will be reviewed through a case by case basis. Where a company does qualify for 100% foreign ownership, then the company would still need to appoint a UAE national to act as the local service agent. If a company falls within the positive list, there are certain conditions imposed which must be met if a company is to take advantage of the relaxed foreign ownership restrictions. These include:

• Must maintain a minimum share capital.
• Must join the Tawteen Partners Club which requires them to commit to the Emiratization targets prescribed by the UAE Ministry of Human Resources and Emiratisation (MOHRE)
• The application of the rule to construction-related activities is restricted to companies developing large scale infrastructures, such as highways or airports.

Existing businesses can also take advantage of this rule. There are a number of factors they would need to consider before deciding whether to restructure or transition. Some of these are:

• Employment issues
• Compliance issues
• Tax issues
• The extent to which you are contractually able to exit or alter your current nominee arrangement

Alternatives to Setting up in the Mainland

As mentioned, an alternative way of retaining ownership is to set up in the UAE free zones. Whilst enabling 100% foreign ownership, they do not easily allow you to trade in the local UAE market.

Branch and representative offices are also exempt from this requirement. These, however, are not standalone business types. Rather, they are extensions of their foreign parent company. Whilst branch offices can trade in the UAE mainland and earn profits, they can only trade in activities similar to their parent company.

Representative offices are not permitted to earn profits in the UAE and must limit their activities to marketing and promoting the products and services of their parent companies.

Special thanks to:

Ahmed Odeh | MIO Law Firm
Yousif Hussein Al Sahlawi​ | Al Sahlawi & Co Advocates & Consultants​

for their help in writing the article.