The basic rule: nationality determines the treatment
In the Kingdom there are two parallel systems that apply to business profits: Zakat and income tax. The main criterion that determines which one applies is the owner's nationality:
- Shares held by Saudis and GCC nationals are subject to Zakat at 2.5% of the Zakat base.
- Shares held by non-Saudis and non-GCC nationals are subject to income tax at 20% of adjusted net profit.
So a sole proprietorship owned by a Saudi pays Zakat only, a company wholly owned by a foreigner pays income tax only, and a mixed company pays both, each according to its share.
The difference between the two bases
| Item | Zakat | Income tax |
|---|---|---|
| Who is subject | Shares held by Saudis and GCC nationals | Shares held by non-Saudis and non-GCC nationals |
| Basis | The Zakat base (sources of funds minus fixed assets and similar items, compared with adjusted net profit) | Adjusted net profit |
| Rate | 2.5% for a Hijri year (about 2.578% for a Gregorian year) | 20% |
| Is it due when there is a loss? | It may be due, because the base is built on funds, not on profit alone | No income tax when there is no taxable profit |
The key point: Zakat is calculated on the funds the business has invested in its activity, so a loss-making business may pay Zakat, while income tax is tied to profit.
Example: a company 60% owned by a Saudi and 40% by a foreigner
A contracting limited liability company with a Gregorian financial year ending on 31 December. The Saudi partner owns 60% and the foreign partner owns 40%. After preparing the accounts and their adjustments (illustrative figures):
- Adjusted net profit: 1,000,000 SAR
- Zakat base for the whole company: 5,000,000 SAR
| Description | Saudi share 60% | Foreign share 40% |
|---|---|---|
| Basis | 60% × 5,000,000 = 3,000,000 (Zakat base) | 40% × 1,000,000 = 400,000 (taxable profit) |
| Rate | 2.578% (Gregorian year) | 20% |
| Amount due | 77,340 SAR Zakat | 80,000 SAR income tax |
The company's total liability = 77,340 + 80,000 = 157,340 SAR, filed in a single return that shows both parts.
If the financial year were Hijri, Zakat would be 3,000,000 × 2.5% = 75,000 SAR.
Withholding tax: a separate obligation
Besides Zakat and income tax, there is withholding tax, which a resident business deducts from amounts it pays to non-residents for services, royalties, dividends and other payments, at rates ranging from 5% to 20% depending on the type of payment. This obligation applies even if the business itself is wholly owned by Saudis and subject to Zakat only.
Example: A Saudi sole proprietorship paid 100,000 SAR to a consulting firm outside the Kingdom. If the rate applicable to this type of service is 5%, the business withholds 5,000 SAR and remits it to ZATCA, and transfers 95,000 SAR to the firm.
Cases that need attention
- Change of ownership during the year: requires allocating the base and the profit to periods according to the ownership percentages in each period.
- A GCC partner: is treated like a Saudi for Zakat.
- Listed companies: have special rules for determining the ownership percentages subject to each.
- Double taxation avoidance agreements: may change the withholding tax rate on some payments.
The accountant's responsibilities in a mixed company
A mixed company needs more care than others at year-end closing. Tasks the accountant must complete include:
- Confirm the ownership percentages as stated in the commercial registration and the articles of association, and match them with the registration details at ZATCA.
- Prepare a reconciliation between accounting profit and adjusted net profit, because it is the basis for income tax on the foreign share and also affects the Zakat base calculation.
- Prepare the Zakat base for the whole company, then allocate the share of Saudis and GCC nationals from it.
- List payments to non-residents during the year and make sure tax was withheld on them and remitted on time.
- Keep supporting documents for every adjustment, because Zakat and tax audits request them in detail.
Remember that the mixed return is filed by the same statutory deadline, that is, within 120 days of the end of the financial year, and that a delay in either part delays the whole return. So it is better to start the adjusted profit reconciliation early, because it is the part that takes the most time.