UAE/Saudi Arabia double tax treaty comes into force

The income and capital tax treaty between the United Arab Emirates (UAE) and Saudi Arabia (KSA) came into force on 1 April, following the completion of ratification by both treaty partners. It will apply from 1 January 2020.

Signed on 23 May 2018, it is the first double tax treaty between two members of the Gulf Cooperation Council (GCC) and is expected to facilitate further cross-border trade and investment between the two countries.

The treaty provides for the elimination of double taxation by way of a credit against tax payable in the UAE and KSA, except against Zakat payable in KSA). KSA and UAE resident individuals and companies have access to the treaty. Foreign national individuals who are resident in the UAE or KSA may also benefit under the treaty.

Residents covered by the treaty include: any person liable to tax by reason of domicile, residence, place of incorporation or place of management; corporate entities; Sovereign Wealth Funds and similar government entities; and other persons that are exempted from tax. The treaty contains a tie-breaker rule for corporate tax residence, which is based on the place of effective management of the company.

The key features of the treaty are as follows:

• Business Profits – The profits of a company are not subject to tax in the other contracting state unless the company carries on its business in that other contracting state through a permanent establishment (PE). The treaty provides that items of income that are not specified are taxable only in the contracting state where the recipient is resident, so income from services that are not delivered through a PE should be exempt from withholding taxes (WHT) and other forms of taxation in that state.
• Permanent establishment – The treaty provides that a ‘service PE’ will exist only if services are carried out by an enterprise of a contracting state through employees or other personnel engaged by that enterprise within the borders of the other contracting state for more than 183 days in any 12-month period. A PE would also arise if a building site, construction, assembly or installation project in the other contracting state endures for more than six months.
• Dividends – The treaty caps WHT on dividends to 5% and therefore offers no relief from WHT on dividend payments from KSA to the UAE. No WHT is levied on the payment of dividends in the UAE.
• Interest – The treaty provides that interest is only taxable in the contracting state in which the recipient is resident. Domestic WHT on interest is 5% in KSA and 0% in the UAE, so no WHT should apply on interest payments between UAE and KSA residents. This includes interest from government securities, bonds and debentures, premiums and other bonds or debentures.
• Royalties – The treaty caps WHT on royalty payments – including payments for the use of or the right to use industrial, commercial or scientific equipment – at 10%. Domestic WHT on royalties is 15% in KSA.
• Capital gains – The treaty provides for an exemption for the transfer of shares in listed companies but does not exempt gains arising on the transfer of shares or immovable property from taxation in the other contracting state.

Article 29 of the treaty includes a Principal Purpose Test (PPT) provision, which prevents treaty relief if one of the principal aims of a transaction is to obtain treaty relief. It is therefore essential that UAE and KSA entities seeking to claim relief under the treaty have appropriate operational substance and can support a principal commercial purpose. This is in addition to meeting the minimum substance and procedural requirements set by the UAE and KSA. For more information please contact Zijad Hanic.