Introduction

The Kingdom of Saudi Arabia (KSA) Civil Transactions Law (the Law) enacted on 19 June 2023, by Royal Decree M/191, has now been published in the official gazette "Umm Al-Qura". It will come into effect 180 days from the date of publication around 16 December 2023 (the Effective Date). The Law with seven chapters and 720 articles is one of the largest legislative issuances in KSA's history. It is a significant milestone for KSA as, prior to this new Law, Islamic Law (Shari'a) derived mainly from the principles of the Holy Qur'an and the Sunnah (prophetic teachings of the Prophet Muhammad) has governed contracts in KSA. This codification will have a major impact on contractual relationships in KSA, both nationally and internationally. It is most definitely a seismic shift for KSA, underpinned by its Vision 2030, to attract major investment to the country at a time when KSA is also in parallel rolling out its Regional Headquarters Programme (RHQ). It provides assimilation to the various international treaties and agreements to which KSA is a party, as well as bringing the governance of day-to-day transactions closer to international best practice.

Impact

The Law has retrospective effect and therefore applies in almost all cases to contracts signed prior to 16 December 2023. This includes the parties' obligations for matters that are covered by the Law, including risk allocation to the extent it does not contradict such contracts, taking into account their nature and the conditions and exceptions for each of them. The only exception will be where a party can sufficiently establish that application of the Law will contradict a Shari'a principle. In such cases, the onus will be on the party seeking reliance on Shari'a to demonstrate that it should be applied, as the Law and Shari'a are inconsistent in areas under examination. After the Effective Date, all provisions that contradict the Law shall be abolished. Therefore, contracts signed after 16 December 2023 will be subject to the Law, as opposed to Shari'a, including any subsequent disputes.  To the extent that the Law does not cover any relevant provisions of a contract or where further clarity is needed, 41 defined Shari'a maxims are the fallback position, as detailed in the final chapter of the Law. These 41 maxims provide the basis of any application of Shari'a needed to cover any gaps. These maxims include: in contracts certainty is not removed by doubt; freedom from liability is presumed; customs are regarded as part of a contract; ignorance is not an excuse for non-compliance; the rights of individuals are not removed by necessity; and priority is given to intention and meaning, as opposed to text and formation.

Main principles

The extensive framework of the Law covers a range of areas within business transactions to assist in facilitation and investment. The principles provide transparency, efficiency and stability to contemporary business practices in KSA. Furthermore, they provide increasing predictability of judicial rulings and potential disputes.

Binding force of contracts

The Law confirms the essential elements of a binding contract and recognises that the contract is the law of the parties, and that the contracting parties must fulfil what the contract requires of them. This is similar to other civil code jurisdictions in the Middle East which recognise that the parties are bound by the terms of the contract they have agreed. This is subject to mandatory exceptions in the Law, addressed in brief below.

The Law also recognises that the parties must execute their obligations in accordance with the contract and in a manner that is consistent with the requirements of good faith. According to the Law, the contract shall not be confined to committing the contracting party to its contents, but shall also deal with its requisites pursuant to the Law, customs and justice according to the nature of the obligation.

If general unforeseen and exceptional events occur and their occurrence results in rendering the implementation of the contractual obligation, though not impossible, an exhausting factor that threatens the debtor with an enormous loss, the Law dictates that without delay the other party should be invited to negotiate. If no agreement is reached within a reasonable period, the court may, according to conditions of the case and after balancing the interests of the two parties, reduce the exhaustive obligation reasonably. This is a mandatory right and cannot be excluded by the parties and any term of the contract that contradicts this principle will be considered null and void.

Contract interpretation

Consistent with civil codes in other Middle Eastern jurisdictions, the Law addresses the position if there is an ambiguity and there is room to interpret the contract. The starting position is that if the language of the contract is clear, then it is not permissible to deviate from it. The parties will therefore be bound by the terms of their contracts where the language is clear. 

However, if there is room to interpret the contract, then the common will of the contracting parties must be considered without stopping at the literal meaning of the terms, taking into consideration the nature of the dealing and the trust and integrity that must exist between the contracting parties in accordance with the custom. Therefore, pre-contract correspondence can be considered to find the common will of the parties in an effort to resolve an ambiguity. This position is similar to other civil codes in the Middle East and this provision of the Law may help the parties resolve contract interpretation issues when the language of the contract is not clear and open to more than one interpretation. 

Compensation

The Law includes useful provisions on the rules of damages where a party is in default or in delay. In line with civil codes in other jurisdictions, the Law provides grounds that the parties may agree and fix compensation in advance, stipulating this in the contract. Therefore, as is typical in construction and engineering contracts, the Law also addresses liquidated damages as a form of remedy. 

These liquidated damages may not fall due or may be reduced if the creditor has not suffered a loss or the agreed compensation was exaggerated or the original obligation was partially performed. KSA has therefore adopted a position similar to Qatar and Kuwait that gives the court or tribunal authority to reduce pre-agreed compensation if specific criteria are satisfied. The Law makes clear that this is a mandatory provision and therefore cannot be overridden by the terms of the contract. Finally, the Law sets out the test for the recovery of compensation and damages, and this must be the compensation that would normally have been foreseen at the time of the contract. It is interesting to note that there is no explicit reference to "loss of profit" being recoverable. It remains to be seen how this rule on the recovery of damages will be applied by the courts or tribunals determining breach of contract disputes. 

Construction contracts 

Performance of work is covered in detail in the Law. This includes design and quantities changes, subcontracting and termination. These provisions will need to be carefully considered for clients operating in the construction and engineering sector and how they apply to the parties' contracts for work.

Summary

The introduction of the Law is a welcomed regulatory shift in KSA. It will go some way to remove uncertainty and speculation on contractual formation and how key legal risks will be resolved in KSA. The codification of these key legal risks should also provide efficiency, familiarity and greater comfort to investors looking to do business in KSA. The embracing of contemporary business practices and the increasing transparency reflects KSA's commitment to be at the forefront of global business transactions. The retrospective nature of this new Law will also need to be considered by all parties. Entities will need to review and possibly redraft their existing contractual arrangements, more so if they have any potential issues that remain unresolved after the Effective Date.

For further information, please contact the Dentons team.

This article is also available in Arabic, click here to download.