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Tax Alert: May 2020

Tax Alert: May 2020

The MLI enters into force in Saudi Arabia

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On 1 May 2020, the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (“MLI”) entered into force in respect of Saudi Arabia. The MLI implements tax treaty related measures to prevent BEPS.

Background

The MLI is one of the outcomes of the OECD/G20 project tackling Base Erosion and Profit Shifting (“BEPS”). The MLI provides signatory jurisdictions’ an efficient and swift means to implement their tax treaties related measures developed by the OECD/G20 BEPS Project, without the need to renegotiate each tax treaty.
The MLI includes “minimum standard” articles and other optional articles in respect of which jurisdictions can make reservations (i.e. opt-out) or choices as to what to apply.
The minimum standard articles relate to:

Purpose of  covered tax agreements  Prevention of treaty abuse Mutual agreement procedures
The optional articles relate to how tax treaties apply in relation to:

Transparent Entities

Dual Resident Entities

Methods for Eliminating Double Taxation

Minimum Holding Period for Shares

Capital gains from alienation of interests in entities

Artificial Avoidance of PE Status

A jurisdiction’s right to tax its residents    

The MLI modifies the application of a tax treaty where both jurisdictions:

  • are signatories of the MLI;
  • have specified the tax treaty is covered by the MLI (Covered Tax Agreement); and
  • have ratified the MLI. 

Where the above conditions are met, the MLI will apply subject to the countries’ reservations and choices in relation to the optional provisions. The MLI will apply to the extent there is concurrence between the particular tax treaty jurisdictions.

Saudi Arabia’s Covered Tax Agreements

As of 1 May 2020, Saudi Arabia submitted a list of 55 tax treaties to be designated as Covered Tax Agreements. The list includes all 44 of the tax treaties that Saudi Arabia currently has in force, as well as the 11 tax treaties that are yet to enter into force.
However, as of 1 May 2020, the MLI applies to Covered Tax Agreements with the following 14 countries:

Cyprus France India Ireland Japan

Luxemberg

Malta

Netherland

Poland

Russia

Singapore

Sweden

Ukraine

United Kingdom

 

Key MLI Measures Adopted by Saudi Arabia

The final list of key MLI measures adopted by Saudi Arabia are listed below:

  • Article 6 - additional wording in the preambles of its Covered Tax Agreements that they should not create opportunities for tax evasion or avoidance;
  • Article 7 - the application of a Principal Purpose Test to deny treaty benefits in the event of treaty abuse;
  • measures to address the artificial avoidance of PE status through:
    • Article 12 - commissionaire arrangements and similar strategies;
    • Article 13 - specific activity exemptions; and
    • Article 14 - splitting contracts;
  • Article 15 - update of the definition of a person closely related to an enterprise;
  • Article 16 - mutual agreement procedures to address disputes in relation to the application of Covered Tax Agreements; and
  • Article 17 - a requirement to make appropriate corresponding adjustments in transfer pricing cases.
    There were three key changes from Saudi Arabia’s initial and final position in relation to the MLI measures to be adopted:
  • Article 17 - a requirement to make appropriate corresponding adjustments in transfer pricing cases: The reservation was removed and measure has been adopted
  • Article 5 - provided for the use of a foreign tax credit regime: A reservation has been made and hence the measure has not been adopted.
  • Article 9 - that established the anti-abuse rule with regards to taxation of capital gains on the sale of shares of company, deriving their substantial value from immovable properties: A reservation has been made and hence the measure has not been adopted.

Article 6 - Purpose of Covered Tax Agreement

The preambles to Saudi Arabia’s Covered Tax Agreements are modified to clearly state they are intended to eliminate double taxation without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance, including through treaty-shopping arrangements. The following text is included in the place of, or in the absence of preamble language of the Covered Tax Agreements referring to an intent to eliminate double taxation:

“Intending to eliminate double taxation with respect to the taxes covered by the agreement without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance (including through treaty-shopping arrangements aimed at obtaining reliefs provided in this agreement for the indirect benefit of third jurisdictions)”.

The inclusion of the above text in the preamble is a minimum standard.
In addition, Saudi Arabia has chosen to include the following preamble text in its Covered Tax Agreements that do not contain preamble language which refers to a desire to develop an economic relationship or to enhance co-operation in tax matters:

         “Desiring to further develop their economic relationship and to enhance their co-operation in tax matters”.

Article 7 - Prevention of Treaty Abuse

Saudi Arabia will address treaty abuse by the application of a Principal Purpose Test under which a benefit of a Covered Tax Agreement will not be allowed where obtaining that benefit was one of the principal purposes of any arrangement or transaction. The text of the Principle Purpose Test is as follows:

 “Notwithstanding any provisions of a Covered Tax Agreement, a benefit under the Covered Tax Agreement shall not be granted in respect of an item of income or capital if it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit, unless it is established that granting that benefit in these circumstances would in accordance with the object and purpose of the relevant provisions of the Covered Tax Agreement.”

It is important to note that if Saudi Arabia denies a person a benefit under a Covered Tax Agreement pursuant to the Principal Purpose Test, that the person will not have the ability to refer the decision to the competent authority of the other jurisdiction.

In light of the Principle Purpose Test, a genuine business rationale and a sufficient economic substance will be required for a person obtain benefits of a Covered Tax Agreement.

Article 12 - Artificial Avoidance of PE status through Commissionaire Arrangements and Similar Strategies

Saudi Arabia has chosen to expand the PE definition in its Covered Tax Agreements to include commissionaire arrangements and similar strategies. Under the expanded PE definition, an enterprise shall be deemed to have a PE establishment in a Contracting Jurisdiction:

  • in which a person (other than an independent agent acting in the ordinary course of its business) acts on behalf of the enterprise and habitually concludes contracts, or habitually plays the principal role leading to the conclusion of contracts that are routinely concluded without material modification by the enterprise;
  • the contracts are:

    • in the name of the enterprise; or
    • for the transfer of the ownership of, or for the granting of the right to use, property owned by that enterprise or that the enterprise has the right to use; or
    • for the provision of services by that enterprise; and
  • if the activities by he person for the enterprise where instead undertaken by the enterprise through a fixed place of business of that enterprise situated in the Contracting Jurisdiction, they would cause that fixed place of business to be deemed to constitute a PE under the definition of permanent establishment included in the Covered Tax Agreement (as it may be modified by the MLI).

A person shall not be considered to be an independent agent for these purposes if the person acts exclusively or almost exclusively on behalf of one or more enterprises to which it is closely related.

Article 13 - Artificial Avoidance of PE status through Specific Activity Exemptions

Saudi Arabia has chosen to narrow the list of activities that are specifically deemed not to constitute a PE (such as maintenance of stocks of goods for storage, display or delivery) only to cases where the activity is of a “preparatory or auxiliary” nature.

The specific activity exemptions will not apply where to a fixed place of business that is used or maintained by an enterprise if the same enterprise or a closely related enterprise carries on business activities at the same place or at another place in the same Contracting Jurisdiction and:

  • that place or other place constitutes a PE for the enterprise or the closely related enterprise under the provisions of a Covered Tax Agreement defining a permanent establishment; or 
  • the overall activity resulting from the combination of the activities carried on by the two enterprises at the same place, or by the same enterprise or closely related enterprises at the two places, is not of a preparatory or auxiliary character,
    provided that the business activities carried on by the two enterprises at the same place, or by the same enterprise or closely related enterprises at the two places, constitute complementary functions that are part of a cohesive business operation.

Article 14 - Artificial Avoidance of PE status through Splitting Contracts

Saudi Arabia has chosen to address the avoidance of PE status through splitting contracts between related enterprises to circumvent the time threshold for a PE.

For the purpose of determining whether an enterprise resident in one jurisdiction has a PE in the other jurisdiction because it has carried on activities at a building site, construction or installation project, or other place identified in the relevant provision of a Covered Tax Agreement for more than the stipulated threshold time period, the following time periods are to be added to the aggregate period of time:

  • one or more periods of time that, in the aggregate, exceed 30 days without exceeding the time threshold for a PE, spent on activities in the other jurisdiction at a place that constitutes a building site, construction project, installation project or other specific project identified in the relevant provision of the Covered Tax Agreement, or carries on supervisory or consultancy activities in connection with such a place; and

  • different periods of times, each exceeding 30 days, spend by one or more enterprises that are closely related to the first-mentioned enterprises, on connected activities carried on in that jurisdiction at (or, where the relevant provision of the Covered Tax Agreement applies to supervisory or consultancy activities, in connection with) the same building site, construction or installation project, or other place identified in the relevant provision of the Covered Tax Agreement.

Article 15 - Definition of a Person Closely Related to an Enterprise

The concept of a person closely related to an enterprise is relevant to the modifications in the MLI that address artificial avoidance of PE status through:

  • commissionaire arrangements and similar strategies;
  • specific activity exemptions; and
  • splitting-up of contracts. 

A person is closely related to an enterprise if, based on all the relevant facts and circumstances, one has control of the other, or both are under the control of the same persons or enterprises. In any case, a person shall be considered to be closely related to an enterprise if:

  • one possesses directly or indirectly more than 50 per cent of the beneficial interest in the other (or, in the case of a company, more than 50 per cent of the aggregate vote and value of the company’s shares or of the beneficial equity interest in the company); or 
  • another person possesses directly or indirectly more than 50 per cent of the beneficial interest (or, in the case of a company, more than 50 per cent of the aggregate vote and value of the company’s shares or of the beneficial equity interest in the company) in the person and the enterprise.

Article 16 - Mutual Agreement Procedure

Mutual Agreement Procedures will address disputes in relation to the application of Covered Tax Agreements.
Where a person considers that the actions of one or both of the jurisdictions result, or will result, in taxation that is not in accordance with the provisions of the Covered Tax Agreement, the person:

  • may, irrespective of any remedies provided under the domestic law of those jurisdictions, present the case to the competent authority of either jurisdiction;
  • must present the case with three years from the first notification of the action resulting in taxation not in accordance with the provisions of the Covered Tax Agreement.

If the competent authority of the jurisdiction to which the case is put is not itself able to arrive at a satisfactory solution, it shall resolve the case by mutual agreement with the competent authority of the other jurisdiction. Any agreement reached shall be implemented notwithstanding any time limits in the domestic law of the Contracting Jurisdictions.

Article 17 - Corresponding Adjustments

There is a requirement to make appropriate corresponding adjustments in transfer pricing cases for persons to which a Covered Tax Agreement applies. The text in relation to corresponding adjustments is as follows:

“Where a Contracting Jurisdiction includes in the profits of an enterprise of that Contracting Jurisdiction — and taxes accordingly — profits on which an enterprise of the other Contracting Jurisdiction has been charged to tax in that other Contracting Jurisdiction and the profits so included are profits which would have accrued to the enterprise of the first-mentioned Contracting Jurisdiction if the conditions made between the two enterprises had been those which would have been made between independent enterprises, then that other Contracting Jurisdiction shall make an appropriate adjustment to the amount of the tax charged therein on those profits. In determining such adjustment, due regard shall be had to the other provisions of the Covered Tax Agreement and the competent authorities of the Contracting Jurisdictions shall if necessary consult each other.”  

Key takeaways

When determining whether benefits are available under one of Saudi Arabia’s tax treaties. it will be necessary analyze the tax treaty in conjunction with an applicable MLI. In undertaking this analysis it will be necessary to review the reservations and notifications made by Saudi Arabia and the other jurisdictions. This is because an applicable MLI only applies to the extent there is mutual agreement.
For more information or to discuss how the MLI may affect your business, please do not hesitate to contact us.

Wadih AbuNasr

Head of Tax, KSA and Levant
E: wabunasr@kpmg.com

Francisco Araújo

Manager, International Tax and M&A
E: faraujo1@kpmg.com

Peter Bourke

Senior Director, International Tax and M&A

E: peterbourke@kpmg.com

Qamar uz Zaman

Director, Tax & Zakat
E: qamarzaman@kpmg.com

Mohamed Araji

Senior Director, Financial Services Tax
E: maraji@kpmg.com

Mohamed El-swefy

Senior Director, International Tax & Banking
E: melswefy@kpmg.com

© 2020 KPMG Al Fozan & Partners Certified Public Accountants, a registered company in the Kingdom of Saudi Arabia, and a non-partner member firm of the KPMG network of independent firms affiliated with KPMG International Cooperative, a Swiss entity. All rights reserved.

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