This study examines the economic burden of VAT compliance costs on Small and Medium Enterprises (SMEs) in the UAE and their subsequent compliance behavior. Drawing on Economic Deterrence and Institutional theories, we investigate both internal and external compliance costs through a quantitative approach using a postal survey of 384 SME respondents, with data analyzed via structural equation modeling (PLS-SEM). Our findings reveal that complexity positively influences penalty imposition, which affects VAT compliance behavior. Compliance costs, probability of detection, and tax rate all positively impact compliance behavior. Mediation analysis shows that complexity leading to penalty imposition and compliance cost leading to tax rate positively affect compliance behavior. Additionally, penalty imposition leading to tax incentives positively influences compliance behavior. As the first UAE study integrating compliance costs and behavior, this research provides valuable insights for policymakers seeking to improve VAT compliance and establish supportive regulatory frameworks for SMEs.