The final Saudi Arabia transfer pricing by-laws: critical aspects

By Mohamed Serokh, Tax Partner and Transfer Pricing Leader for the Middle East Region, PwC

The final Saudi Arabia transfer pricing by-laws were released on 15 February after the draft by-laws were published on 10 December 2018. 

This is a major tax development in Saudi Arabia and the wider region, likely to affect almost all multinationals operating in Saudi Arabia.

It may also herald the beginning of a new era in international tax amongst the other Gulf Cooperation Council (GCC) countries, as other GCC tax authorities take note of Saudi Arabia developments against the background of a changing international taxation landscape driven primarily by the OECD and its agenda relating to base erosion and profit shifting (BEPS). 

Many businesses operating in Saudi Arabia will now be urgently trying to assess how they will be affected by the final by-laws given the very tight deadlines that were stipulated in the draft by-laws.

There are some major surprises and changes relative to the draft by-laws, not least of which relate to the immediate deadlines and the requirement for taxpayers to get their accountants to certify that their transfer pricing policies are consistently applied to their taxable entity (or entities) in Saudi Arabia. 

I set out my initial observations on four key questions immediately facing Saudi Arabia-based businesses: 

• Will the by-laws be applicable to my business? 
• What are the final critical deadlines I might face? 
• What other important aspects have been revealed or confirmed by the final Saudi Arabia transfer pricing by-laws relative to the draft issued in December 2018? 
• What should I be doing now to meet the requirements of the by-laws given the immensely tight deadlines?

Let’s begin…

Will the by-laws apply to my Saudi Arabia-based business? 

Summary

• Applicable to all persons considered to be taxpayers.
• Entities subject only to zakat are generally not subject to the final by-laws except in respect of country-by-country Reporting requirements. 
• General Authority of Zakat and Tax (GAZT) reserves the right to direct any person to prepare and maintain documentation related to controlled transactions. 
• Taxpayers, zakat payers, and both are recommended to ensure arm’s length pricing and supporting analyses. 

Some commentary

The final Saudi Arabia transfer pricing by-laws and their useful accompanying frequently asked questions (FAQs) issued by the GAZT now clarify that the by-laws apply to all persons considered to be taxpayers including mixed ownership entities that have part of their income subject to corporate income tax and part to zakat. 

Entities subject only to zakat are generally not subject to the by-laws. However, the country-by-country reporting requirements apply to any entity or person regardless of whether they are subject to income tax, zakat only, or both. 

Critically, Article 19 of the final by-laws maintains that the GAZT may at its discretion direct any person to prepare and maintain documentation related to controlled transactions and to request such documentation within 30 days of a request in certain circumstances. 

In aggregate, the final by-laws are helpful in that they explicitly make clear the context of their applicability to both tax and zakat payers. While it is now explicitly stated that zakat payers are generally not subject to the by-laws but are subject to the country-by-country provisions of the by-laws, some reasonable conclusions to draw are as follows:

• In addition to income taxpayers, mixed companies subject to both zakat and income tax are subject to the by-laws and need to assess their compliance obligations.
• Pure zakat payers (in addition to income taxpayers and mixed companies) need to assess whether they are affected by country-by-country obligations.
• Given Article 19, together with the arm’s length requirements in the existing and new draft zakat by-laws, it is recommended that pure zakat payers ensure arm’s length pricing to intra-group transactions. This is especially the case for those transactions that have an effect on the zakat base and/or have an effect on the income tax base of non Saudi Arabia entities in the group in jurisdictions that may likely have transfer pricing obligations. In such cases, although not explicitly stated by the final by-laws, the preparation of transfer pricing documentation is highly recommended in case it gets requested by GAZT, the overseas tax authorities, or all relevant authorities. 

What are the final critical deadlines? 

The final Saudi Arabia transfer pricing by-laws will apply to financial year ends (FYEs) 2018. 

Summary and example assuming a 31 December year-end

• Controlled Transaction Disclosure Form: 120 days after financial year end, i.e., a final deadline of 30 April 2019, to be submitted with the tax return and accompanied by an affidavit from the certified accountants. 
• Master file and local file: 120 days after financial year end, with a 60-day extension granted for FYE 2018, i.e. a final deadline of 30 June 2019, to be retained by affected taxpayers and provided to the GAZT upon request within a maximum of 30 days. 
• Country-by-country reporting: 120 days after the FYE for notification of details relating to the reporting entity and 12 months after the FYE to actually submit country-by-country reporting. So, 30 April 2019 for the reporting notification to be made with the Controlled Transaction Disclosure Form and tax or zakat return and 31 December 2019 for the country-by-country report to be submitted to the GAZT, if applicable, and Saudi Arabia will be the submission country. 

Some commentary

First, the not so good news…

Critically, there is no extension of the deadline for submission of the Controlled Transaction Disclosure Form, which needs to be submitted together with the tax return 120 days after the financial year-end.

This means that for taxpayers with a 31 December year end, the Controlled Transaction Disclosure Form needs to be submitted to the GAZT by 30 April 2019. 

Additionally, an updated requirement is that in respect of their Controlled Transaction Disclosure Form, taxpayers must submit an affidavit from their certified accountants declaring that their transfer pricing policy is consistently applied in relation to the taxpayer in Saudi Arabia.

This is a major new requirement relative to the information in the draft by-laws and is an important one because the GAZT also requires that the actual price or value of controlled transactions be based on the arm’s length principle.

What this effectively means is that Saudi Arabia taxpayers have until 30 April 2019 to ensure that their controlled transactions reflect the arm’s length standard for FYE 2018 and make adjustments to their tax base to reflect this and to get an affidavit from their certified accountants. More on this is discussed below. 

Some good news …

In respect of FYE 2018, relative to the draft by-laws, taxpayers have been granted an extension of 60 days to prepare their master file and local file  documentation if they are subject to these documentation requirements. What this practically means is that for FYE 2018, taxpayers will have until 30th June 2019 to prepare their master file and local file.

Additionally, an important point worth noting is that for both the master file and local file, the time limit to provide the GAZT with the master file and local file upon request is now 30 days (as compared to 7 days for the local file and 30 days for the master file under the draft by-laws). 

For country-by-country reporting, the deadlines stipulated in the draft by-laws remain unchanged for those affected by this requirement: 120 days for notification of details relating to the reporting entity and 12 months after the FYE date to actually submit the country-by-country reporting.

 This means that for those with a 31 December YE and subject to country-by-country reporting, the reporting notification to GAZT needs to be made with the tax or zakat return by 30 April 2019, with the submission of the country-by-country reporting to be made by 31 December 2019.

Other important aspects of the final Saudi Arabia transfer pricing by-laws

There are many other important aspects of the final Saudi Arabia transfer by-laws that need to be considered (relative to the draft by-laws) and it is strongly suggested that if you believe your business will be impacted, you read these in full, together with the accompanying FAQs published by the GAZT. 

The final by-law and the GAZT’s transfer pricing FAQ document can be accessed here: https://www.gazt.gov.sa/en/transfer-pricing

Based on an initial reading of the final by-laws relative to what was already revealed in the draft by-laws, below is a selection of important aspects covered in the final by-laws and their FAQs:

Applicability of the Controlled Transaction Disclosure Form

The GAZT is clear that the Controlled Transaction Disclosure Form needs to be submitted by every taxpayer in Saudi Arabia that has controlled transactions irrespective of the value of the transaction.

 This is an important clarification for those businesses wondering whether there will be any exemption from the need to prepare and involve their accountant in the preparation and certification of the Controlled Transaction Disclosure Form. 

Certification of the consistent application of the transfer pricing policy

Taxpayers must submit an affidavit from their certified accountants declaring that their transfer pricing policy is consistently applied in relation to the taxpayer in Saudi Arabia.

This is a major new requirement that wasn’t covered under the draft by-laws and will undoubtedly place a significant burden on all taxpayers irrespective of their transaction value levels.

The requirement for certified accountants to declare a consistent application of the transfer pricing policy means that within 120 days of the end of the FY, taxpayers and their accountants will need to be convinced that the taxpayers’ controlled actual transactions and notional transactions (see below) are valued and assessed to income tax on an arm’s length basis.

In other words, all the associated analyses demonstrating consistency with the arm’s length principle for the controlled transactions need to be completed by the time the Controlled Transaction Disclosure Form is submitted (see the deadlines above).

This is a huge undertaking for both taxpayers and their accountants and whilst there is an extension of 60 days given for the preparation of the master file and local file (if mandated), the certification obligation and the requirement to ensure that tax for the first year (FY18) is assessed such that controlled actual transactions and notional transactions are at arm’s length will be a very tough ask for many taxpayers in such a short time frame. 

Notional transactions

The GAZT reaffirms that ‘notional transactions,’ or those transactions that are non-monetary, will be required to be reported under the Controlled Transaction Disclosure Form and hence valued and assessed to the tax base.

This clarity is welcome because there may be some Saudi Arabia based businesses that are unsure as to how to treat transactions with ‘no charge’ that exist between related parties.

On the other hand, this clarification will place additional burdens on taxpayers in making the valuation assessment, particularly with the urgent deadlines associated with the Controlled Transaction Disclosure Form  (see above). 

Exemption from master file and local fiile requirements

The final Saudi Arabia transfer pricing by-laws maintain the exemption from the requirement to produce a master file and local file for those entities engaged in controlled transactions that are less than SAR 6m in value on an aggregate basis.

 On the other hand, Article 19 of the final by-laws makes it clear that the GAZT may direct any entity to provide a master file and local file at 30 days notice under certain conditions.

These include situations where parties to a transaction are established in a special economic zone in Saudi Arabia and/or the controlled transactions are undertaken with entities who are granted exemption or relief from tax and/or zakat obligations in Saudi Arabia. 

Business restructuring

GAZT further clarifies in its published FAQs that if there is an internal reallocation of functions, assets and risks within a group and, e.g. this results in a change in intra-group arrangements, this will be expected to be reported to the GAZT in the Controlled Transaction Disclosure Form in the reporting year in which this change occurred.

This is a major requirement that has been further emphasized and will place additional obligations on affected groups and potentially open up their transfer pricing arrangements to scrutiny if they have restructured or changed their businesses in a significant way and that has had an impact on their Saudi Arabia operations. 

Documentation language

GAZT encourages the submission and maintenance of documentation in the official language (Arabic) to the extent that it is reasonably possible.

In practice, it remains to be seen as to what the outcome will be if taxpayers submit and maintain documentation in English or on any other language. But translations of transfer pricing documentation into Arabic will also place material burdens on taxpayers if the transfer pricing documentation has been prepared in another language in the first place.

Domestic related party transactions

The GAZT clarifies that all related party transactions are within the scope of the final by-laws regardless of the place of residence, nationality, or domicile of the entities engaged in the transactions.

This is a significant new clarification that will place additional burdens on taxpayers to ensure, analyze and document domestic (intra-Saudi Arabia) controlled transactions. 

Permanent establishments (PEs)

The final Saudi Arabia transfer pricing by-laws reaffirm that the tax base of PEs is determined in accordance with the arm’s length principle with respect to its related party transactions.

This is good news for taxpayers who have been unsure as to how to attribute profits to PEs or have done so on a deemed profit basis, as the by-laws will now seemingly allow the stipulated transfer pricing methods to be applied in attributing profit to a PE. 

Comparability factors

The final by-laws and associated FAQs now stipulate factors to be taken into consideration to determine comparability between controlled and uncontrolled transactions.

 These are consistent with those of the OECD and include: characteristics of property or services transferred; functional profile (i.e. functions performed, assets employed and risk assumed); contractual terms; economic circumstances; business strategies; and any other economically relevant aspect of the transaction(s).

This guidance from the GAZT is very useful in benchmarking analyses in particular and especially where the comparable uncontrolled price (CUP) method has been used. 

Combining transactions

The GAZT suggests that if two or more controlled transactions are economically or closely linked to one another or form a continuum such that they cannot be analysed separately, to perform a comparability analysis then taxpayers will be allowed to combine the transactions.

However, in the Controlled Transaction Disclosure Form in particular, the netting of transactions between related parties will not be allowed. These clarifications are useful particularly in the context of complex transactions, e.g. involving profit splits. 

Foreign comparable data

The final Saudi Arabi transfer pricing by-laws reaffirm the preference for local comparable data.

However, the by-laws provide for use of foreign comparable data in the absence of local comparable data if it can be suitably demonstrated that the comparability factors have been taken into consideration, e.g., geographic differences.

This is critical because it means that taxpayers, in defending their transfer pricing arrangements, cannot automatically default to non-local or non-regional data without a proper search for local or regional comparables and a consideration of the impact on the comparability factors from the use of non-local or non-regional comparables. 

Documentation updates

GAZT suggests that comparability analyses updates should be undertaken every three years if there is no change in the conditions or circumstances of the taxpayer and their controlled transactions.

However, given the requirements under the Controlled Transaction Disclosure Form and further guidance given by the GAZT in its FAQs, it is also the case that GAZT expects taxpayers to take responsibility to ensure that all information in their transfer pricing documentation is kept up to date to reflect the controlled transactions and associated business circumstances of the taxpayer.

On that basis and given the annual requirement to submit the Controlled Transaction Disclosure Form, it will be important for taxpayers to determine whether their transfer pricing documentation and associated transfer pricing analysis can simply be rolled over from one year to the next, whilst obtaining the necessary certification on the controlled transactions from the accountants or whether a major update of the documentation and associated analyses will be required.

This will be a difficult yet an important annual consideration for taxpayers. 

Retrospective application of the by-laws

Under Article 26, the last sentence relating to the right of the GAZT to request information on controlled transactions irrespective of the date of these transactions has been removed.

On the other hand, under the GAZT’s transfer pricing FAQs, it is clearly stated (under question 8) that the GAZT retains the right to request information, documents or to perform an audit for years preceding the effective date of the by-laws.

 Given that under 1. of the FAQs, the existing income tax law’s related party provisions are referenced (Article 63 and 64), it is reasonable to conclude that the GAZT will expect the application of the arm’s length principle to controlled transactions (and associated analysis and documentation) to years preceding the date of the effective date of the final by-laws.

On that basis, taxpayers are advised to ensure that retrospective transfer pricing risk for years prior to FY2018, is assessed.

Penalties

The GAZT makes it clear that all penalties and fines under the Income Tax Law apply to all income tax matters, including ones concerning the by-laws.

This is a welcome clarification in that it leaves little room for ambiguity on the consequences for non-compliance. 

What should Saudi Arabia based businesses be doing now to meet the requirements of the by-laws? 

For those with a 31st December YE, the timeframe for compliance is incredibly short and it is imperative that an assessment of controlled transactions is undertaken without any delay. 

Those with a year-end of any date after 31st December, have a total of 120 days after this date to submit their Controlled Transaction Disclosure Form and a total of 180 days after this date (equal to 120 days plus the 60-day extension given in 2019) to prepare their master file and local files, if applicable (see comments above on exemptions).

The practical issues and questions that all Saudi Arabia based businesses might want to consider are below. 

Controlled Transactions

• Assess actual and notional controlled transactions affecting each entity operating in Saudi Arabia in your business. 
• Are the actual and notional controlled transactions affecting income tax, zakat, or both for the entity valued on an arm’s length basis? If so, has any analysis been undertaken to provide evidence of this to GAZT? 
• If not, what steps can you immediately take to get the valuation and supporting analysis done quickly to support the submission of your Controlled Transaction Disclosure Form with the tax return if you are a taxpayer or mixed company? Have you appointed an accounting firm to provide an affidavit declaring that your transfer pricing policy is consistently applied in relation to your taxable entity in Saudi Arabia? Can your accountant do this on time in respect of both actual and notional transactions? If it cannot be done in time, how might the tax risk exposure be managed or reported?

Zakat Payers 

• If you are a pure zakat payer, do the intra-group transactions affecting the entity likely impact the zakat base? If so, are these transactions valued on an arm’s length basis? If so, has any analysis been undertaken to provide evidence of this to GAZT if they request it? If not, what steps can you immediately take to get the valuation and supporting analysis undertaken if the GAZT requests such an analysis at short notice? 
• If you are a pure zakat payer, have you considered how the country-by-country reporting obligations apply to you?

Master file and local file 

• Are the aggregate actual and notional transactions you have identified affecting your Saudi Arabia entity likely to exceed SAR6m in the reporting year?
• Does any historic transfer pricing documentation (a master file or a Saudi Arabia local file) already exist within your group? Can this be leveraged to meet the requirements of the by-laws? 

Country-by-country reporting

• Whether your business is a tax, mixed, or pure zakat paying group, does your group meet the SAR 3.2Bn consolidated revenue threshold for country-by-country reporting? If so, have you considered where you are likely to file your country-by-country reporting? Will it be in Saudi Arabia or has your group already filed a country-by-country reporting in another country where your group’s entities are located, due to country-by-country reporting requirements in that country? Irrespective of this, are you ready to notify the GAZT where your group intends to file the country-by-country reporting? And are you ready to do this by the time your next income tax or zakat return is submitted? 

Communication, data, and resources to meet the challenge

• Have the right stakeholders in the businesses been communicated the changes, e.g., the CFO, CEO, COO and other members of the leadership team? How about the board and ultimately the shareholders? Are there any tax or zakat impacts that need to be immediately communicated? 
• Have the right internal resources been sourced to meet the intensive efforts required to pull together the relevant data and analysis? 
• Have you prepared a 60-day, 90-day and 300-day work plan and road map to meet all your challenges in respect of the by-laws? 
• Have you taken into account the impact of Ramadan, Eid, and vacations on resources and the challenge to meet the impending deadlines? How might this be managed? 
• Can all the data requirements be obtained in time? Are the management information systems and in particular the Enterprise Resource Planning systems capable of delivering all the required financial data in time? If not, is there a practical alternative this year and does an upgrade to the systems need to be planned for next year? 
• Have discussions been had yet with your certified accountant in respect of the Controlled Transaction Disclosure Form and it’s filing with the income tax return? Can the arm’s length valuation of transactions be undertaken before the Controlled Transaction Disclosure Form deadline this year? Has suitable advice been sought from a reputable advisor? 

I hope the above article is helpful. Please do feel free to message me or comment below should you have any questions.

The views expressed are those of the author and do not necessarily represent the views of PwC or PwC Middle East who take no responsibility for these views. 

–-Mohamed Serokh is PwC Tax Partner and Transfer Pricing Leader for the Middle East Region