Guideline for

Specific Scenarios under Ijarah contracts If the ownership of the asset initially does not contractually transfer from the financier to the financee with the payment of the final lease term, but the parties agree to transfer ownership afterwards and separately to the lease, the transfer of ownership from the lessor to the lessee is a separate supply from the leasing. In that case, two supplies are recognized. First supply (during the lease period): Supply of a rental service subject to VAT at a rate of 15%. Second supply (subsequent transfer of ownership): Supply of a taxable good, on which VAT is calculated on the entire sale price, including profit. Profit is not considered exempt as it is a financial service. If a cash guarantee is requested by the financier, but is not used to settle the rent installments, the receipt of the security payment by the financier and the repayment thereof to the financee are outside the scope of VAT. If the financier can, or actually settles any of the security amount with the actual lease terms, then such settlement follows the VAT treatment of the payment of the instalments and/or other service fees it is settled for. 6.2.4 Sale and Lease-Back Transactions Under Ijarah Contracts As a variation to the standard Ijarah contracts outlined in Section 6.1, the Ijarah can also be utilised in cases where the financee has ownership of an asset and enters into a sale and lease-back transaction with a financier. The purpose of the financee is often to raise or free up capital without impacting the ability to use the asset. The sale and lease back involve: • The financee transferring formal ownership of the asset to the financier; and • The financier that agrees to provide the use or benefit to that asset under an Ijarah contract. The ownership of the asset might pass back to the financee at the conclusion of the contract. By default, a sale and lease-back transaction will be regarded as two separate supplies, involving an outright sale of the asset by the financee to the financier, which is taxable as a supply of Goods, and a separate lease of that same asset by the financier to the customer. The VAT treatment of the lease will depend on whether the contract envisages ownership of the asset to revert back to the financee. Temporary Transfer of Assets In case the ownership of the asset is certainly transferred temporarily to the financier as part of a Shari’ah Compliant Financing Product or as collateral in relation to a financing or other arrangement (and the arrangement therefore requires that ownership reverts to the financee), the transfer of the underlying Goods is considered to be outside the scope of KSA VAT18. The temporary transfer of the asset will usually be evidenced by the agreements between the parties. Further guidance on documentary evidence is set out in Section 13.6 of this Guideline. In the case of a temporary transfer meeting these conditions, VAT is applied as follows: • the “sale”, being the transfer of formal ownership in the asset from the financee to the financier, will be outside the scope of VAT; • the “lease back” of the asset, being payments made for the principal value of the asset where the ownership transfers back to the recipient, will be outside the scope of VAT; • the financing component of the “lease back” of the asset will qualify as an exempt supply of finance made by the financier. 18. Article 29(4), Implementing Regulations 7. Musharakah (diminishing) Paragraph 7.1. discusses the specific characteristics of the financing structure in which financing is provided by entering into a partnership with the possibility of gradually transferring ownership of assets to the financee. These structures are often referred to as (diminishing) Musharakah. In Paragraph 7.2. The VAT treatment is described. Other financing structures that meet this description will be subject to the same VAT treatment.