Transfer Pricing and Related Party Transactions in Saudi Arabia

Transfer pricing is the price applied to transactions between companies that are related to each other (members of one group, sister companies, or a company and its owner).

Here is the risk. When one company sells to its sister company at an unrealistic price, profit can be moved from one entity to another to reduce a tax or Zakat bill. That is why tax authorities regulate these prices: to make sure they reflect real value rather than an accounting arrangement between connected parties.

Related parties are entities or individuals connected by control, ownership or family ties that influence the terms they trade on. Examples:

• A parent company and its subsidiaries.

• Two companies owned by the same person.

• A business and its owner or the owner's relatives.

• Companies under common management.

The relationship itself is not a violation. It simply calls for extra care in proving that the transaction was carried out on fair terms.

The golden rule is the arm's length principle: a transaction between related parties must be priced exactly as if it had taken place between two fully independent parties in the open market.

In practice, you sell to your sister company at the same price you sell to an unrelated customer. This principle is the benchmark tax authorities use to judge whether your related party transactions are fair, and every documentation requirement is built on top of it.

ZATCA pays close attention to transfer pricing because it is a potential gateway for eroding the taxable base:

• Shifting profit to an entity with a lighter tax burden.

• Inflating expenses paid to a related party.

• Pricing internal services or loans unrealistically.

For that reason it has issued transfer pricing rules that require taxpayers to demonstrate that their related party transactions were carried out at arm's length, so that collection stays fair.

The rules generally require affected taxpayers to:

• Disclose related party transactions in the return.

• Prepare documentation files (a master file and a local file) explaining the transactions and how they were priced, for large groups.

• Retain the evidence proving the prices comply with the arm's length principle.

Requirements vary with the size of the business and the nature of its transactions, so review ZATCA's current rules and consult a specialist where needed.

Company A sells goods to its sister company B at SAR 60, while selling the same goods to independent customers at SAR 100:

• The SAR 40 difference per unit is profit shifted from A to B.

• If B sits in a lighter tax position, the group's overall burden falls artificially.

Under the arm's length principle the transaction must be priced at SAR 100 (the market price). Otherwise the authority may adjust the base and claim the difference.

To stay on the right side of the rules:

• Identify every related party and every transaction you have with them, clearly.

• Price those transactions at market value, the value you trade at with independent parties.

• Document each transaction with evidence that justifies its price.

• Disclose accurately whatever the rules require.

• Consult a specialist for large or complex transactions.

Transparency and documentation up front cost far less than an adjustment and penalties later.

Transfer pricing compliance starts with a clear, documented transaction record. Snad keeps every invoice and transaction in a single source, so you can flag related party transactions and pull them out easily.

It also lets you compare the prices you charge those parties against the prices you charge independent customers, using the same data. You prove that you meet the arm's length standard and prepare your disclosures with evidence already in hand, instead of scrambling through records once an audit begins.