The RHQ Tax Rules in Saudi Arabia

1.Introduction

On 16 February 2024, Saudi Arabia’s gazette published the Zakat, Tax and Customs Authority’s (“ZATCA”) much awaited tax rules for regional headquarters (“RHQ Tax Rules”).

The RHQ Tax Rules are a great step and should, in conjunction with the other non-tax incentives already existing, incentivise multinational groups to set up their RHQ in Saudi Arabia.

In this article we provide an overview of the RHQ Tax Rules and we highlight additional points that multinational groups ought to consider.

2.What are the tax incentives

RHQs that meet the requirements will benefit from the following tax incentives:

0% income tax on eligible income.
0% withholding tax on dividends paid by a RHQ.
0% withholding tax on payments made by a RHQ to related persons.
0% withholding tax on payments made by a RHQ to non-related persons, in relation to services that are necessary for the RHQ activities.

As an exception, the above withholding tax incentives do not apply if the payment made by the RHQ relates to non-eligible activities. Equally, income derived by a RHQ from non-eligible activities does not benefit from the 0% income tax rate and is subject to income tax under the standard rules.

Eligible income is income that a RHQ derives from eligible activities, which are the main activities of a RHQ towards strengthening the group’s profile in the region and providing strategic supervision and administrative guidance and support for the internal business of the company, subsidiaries and other related companies according to the national classification of economic activities No. 701011.

3.Duration of the tax incentives

The tax incentives apply from the date the RHQ obtains its RHQ license, and last for 30 years or until the RHQ ceases to qualify as such.

4.What are the requirements

The tax incentives apply if a RHQ meets the following conditions:

It qualifies as a RHQ and obtains the corresponding RHQ license from the Ministry of Investment of Saudi Arabia (“MISA”).
It meets economic substance requirements (explained below).
It derives eligible income from eligible activities.
It does not incur in tax avoidance practices.

In addition, RHQs must comply with tax compliance, including registering for tax, submit tax returns and an economic substance report, keep tax records. They must also comply with transfer pricing obligations. It is not clear whether meeting the tax compliance and transfer pricing obligations is a pre-requisite to benefit from the tax incentives.

Interestingly, the RHQ Tax Rules foresee that RHQs may carry out non-eligible activities. However, this does not mean that RHQs are free to carry out any non-eligible activity that they wish. Under MISA’s RHQ licensing regime, RHQs can only carry out the mandatory and optional RHQ activities that MISA sets out. From a tax perspective, however, the RHQ Tax Rules prescribe that RHQs carrying out non-eligible activities must maintain separate accounts for the non-eligible activities, and they must allocate income to eligible and non-eligible activities separately.

Regarding economic substance obligations, these have been introduced in the Kingdom for the first time. The language in the RHQ Tax Rules is similar to the economic substance regulations in force in the UAE, Bahrain and Qatar, which in turn mirror the OECD’s work related to BEPS Action 5. In essence, RHQs are required to:

Hold a RHQ license from MISA.
Have adequate premises in the Kingdom which are suitable for its business activities.
Must be directed and managed in Saudi Arabia, including holding board meetings where strategic decisions are made.
Must incur operational expenditures in Saudi Arabia, commensurate to the activities of the RHQ.
Must generate revenue from the eligible activities in Saudi Arabia.
Must have at least one director who is resident in Saudi Arabia.
Must employ an adequate number of full-time employees in a tax year, in proportion to the RHQ’s level of activity.
The RHQ’s employees must have the necessary qualifications and skills to execute their duties and fulfil their responsibilities.

5.What are the consequences of non-compliance

RHQs which do not comply with the requirements of the tax and Zakat laws are subject to the penalties in those laws. The tax laws impose different penalties, ranging from a fixed amount to a percentage of the amount of tax unpaid, depending on the violation.

If a RHQ fails to fulfil any of its economic substance obligations, ZATCA must notify the RHQ and provide 90 days for the RHQ to remedy the violation. If the RHQ does not remedy the violation within this period, ZATCA shall impose a SAR 100,000 fine, provided that the violation is remedied within 90 days from the date of imposing the fine. If the violation is not remedied within 90 days from the date when ZATCA imposed the fine, or if the RHQ repeats the same violation within 3 years from the imposition of the fine, ZATCA shall impose a SAR 400,000 fine. If the violation persists after 90 days from the date of imposing the fine, then ZATCA, in coordination with MISA, may suspend the tax incentives applicable to the RHQ.

6.Tax anti-avoidance provisions

In addition to revoking the tax incentives if a RHQ does not meet its economic substance obligations, ZATCA, in conjunction MISA, may revoke the tax incentives if a RHQ does any of the following:

Intentionally submits false or misleading information or declarations to ZATCA.
Intentionally misapplies the RHQ Tax Rules or misuses the tax incentives to take advantage or assist other take advantage from the tax incentives in relation to non-eligible activities, and activities not licensed by MISA; or
It makes payments to non-resident persons on behalf of persons that do not qualify for the tax incentives.

If ZATCA revokes the tax incentives for a given year, it shall issue a tax assessment and impose the applicable penalties under the tax laws that applied to the year in which the RHQ committed the violation.

The general provisions in the tax laws to prevent tax avoidance and evasion apply to RHQs.

7.Miscellaneous provisions

The RHQ Tax Rules confirm that RHQs are treated as tax resident in Saudi Arabia for all purposes, including for international treaties, provided that they meet the tax residency criteria under the income tax law.

In addition, they explicitly state that RHQs may submit ruling requests to ZATCA and seek a clarification on the interpretation of the RHQ Tax Rules or the general tax laws in the Kingdom.

8.Additional points for consideration

In addition to the RHQ Tax Rules, there are additional aspects that may affect the taxation of RHQs. Below is a list of some of the topics that multinational groups should consider.

Pillar One and Pillar Two. Saudi Arabia is among the 137 countries that on 8 October 2021 agreed to the OECD-brokered statement under which a two-pillar solution should be implemented to solve the tax challenges arising from the digitalisation of the economy. Pillar One would affect large multinationals with global revenue exceeding EUR 20 billion and profitability above 10%, whereas Pillar Two would affect multinationals with revenue exceeding EUR 750 million. Countries are not required to implement the two pillars in their domestic laws, but if they choose to do so, they must do so in accordance with the OECD design and they must respect that other countries implement them. Saudi Arabia has made no official announcements regarding Pillar One or Pillar Two to date. In the Gulf region, only Qatar and the UAE have announced or implemented Pillar Two related measures. However, other countries are starting to implement Pillar Two related measures. Multinational groups will need to carefully analyse the interaction of the Pillar Two measures with the RHQ tax incentives.

Special Economic Zones (“SEZ”). On 13 April 2023, the Government of Saudi Arabia announced the launch of four new SEZs across the Kingdom, located in King Abdullah Economic City (KAEC), Jazan, Ras Al Khair and Riyadh’s Cloud Computing in King Abdulaziz City for Science and Technology. These SEZs, along with the Special Integrated Logistics Zone at King Khalid International Airport, are expected to offer competitive incentives, including but not limited to 5% IT rate for up to 20 years; 0% withholding tax on repatriation of profits from SEZ into foreign countries; customs duties deferral for goods inside SEZ; and VAT exemptions for goods traded within or between SEZs. Companies set up in SEZs, as well as RHQs interacting with companies in the SEZs, should consider further the interplay of both tax regimes.

Withholding tax in foreign countries. Given the very business of a RHQ – which is to provide intragroup services to related persons located in the Kingdom and in the MENA region -, three tax questions come to mind from a withholding tax perspective:

Whether there should be withholding tax in the foreign country where the related party is located. Frequently, countries tend to levy withholding tax on payments made to related persons, and sometimes even at a higher rate.
If there is withholding tax in the foreign country, whether there is a double tax treaty providing tax relief. Interestingly, here the RHQ Tax Rules opted for “subject-to-tax-but-at-zero-rate” language instead of the “exempt-from-tax” language. This may play a critical role.
Thirdly, whether the expense incurred by the related party will be tax deductible in its own country of establishment.

The above points, which relate to the tax laws in the foreign countries and not to those of Saudi Arabia, will need to be carefully considered by multinational groups.

9.Final remarks

The RHQ Tax Rules are welcome step. They strike a fine balance between providing tax incentives and creating the necessary checks to prevent abusive practices. These tax incentives should, in conjunction with the other non-tax incentives already existing, incentivise multinational groups to set up their RHQ in Saudi Arabia.

However, there are certain practical nuances that multinational groups should carefully consider. Given these complexities – which derive from the tax laws in other countries rather than those of Saudi Arabia -, a possible improvement would be to make the tax incentives under the RHQ Tax Rules optional, as an opt-in clause, so that those RHQs that meet all the criteria can choose if they want to benefit from these tax incentives or wish to be subject to tax under the standard regime. Although it may seem counter-intuitive, there may be circumstances where a multinational’s global taxation may be lower without these tax incentives than with them.

10.How we can help

Our Saudi tax team is accomplished on tax matters, tax incentives and the international and local practical challenges of special tax regimes. They have been working on the existing tax legislation for years, advising clients and representing them in tax disputes before the Tax Committees. They are aware of ZATCA and the Tax Committee’s interpretation in practice.

By combining previous knowledge and experience on tax advisory and litigation matters in Saudi Arabia, we are in a unique position to anticipate what will likely be the future interpretation of the RHQ Tax Rules and to advise clients accordingly.

Further, RHQs should start implementing measures to comply with the obligations under the RHQ Tax Rules, in particular with the transfer pricing and economic substance obligations. Our team has extensive experience advising clients and helping them implement transfer pricing policies and economic substance measures in the region, including in Saudi Arabia, the UAE, Bahrain and Qatar. We have also successfully represented clients in various economic substance audits.