Jeddah, Saudi Arabia. Credit: leo morgen/Adobe Stock

Nabeel Ikram
Vinson & Elkins, Dubai
nikram@velaw.com

Giuliano Parlascino
Vinson & Elkins, Dubai
gparlascino@velaw.com

The Kingdom of Saudi Arabia’s first Civil Transactions Law (the ‘KSA Civil Code’ or the ‘Code’)^[1] came into force on 16 December 2023.

The new Code contains 721 articles, covering matters including: (1) contract formation, execution and termination; (2) tort claims; and (3) specific contracts, such as those for sale, leases, agency and construction contracts (known as ‘muqawala’ contracts).

It is expected that these new provisions will provide more certainty on the rights and obligations of contracting parties in the Kingdom of Saudi Arabia, whose civil transactions have, until now, been governed by Islamic Sharia. Commenting on the KSA Civil Code, HH Crown Prince of the Kingdom of Saudi Arabia Mohammed bin Salman said the Code will ‘enhance transparency and increase the ability to predict judgements in the field of civil transactions reducing discrepancies in judicial reasoning to reach prompt justice’.

It is important to note that Sharia law has not been displaced. Article 1 of the Code provides that, if there is no applicable text in the Code, the general rules (or maxims) set out under Article 720 are to apply. These rules, 41 in total, codify Sharia law principles. Article 1 further provides that, if there is no applicable maxim, then ‘the provisions derived from the Islamic Shari’ah most appropriate to this law shall be applied’.^[2]

In this section, we provide an overview of this landmark piece of legislation, with reference to the key points that will be relevant to contracts that are governed by Saudi law.

A retrospective effect

The KSA Civil Code has retrospective effect, meaning it applies to events that occurred and contracts that were signed before 16 December 2023, except where:

• a contracting party can prove that such application would contradict an existing ‘statutory provision’ or ‘judicial principle’;^[3] or

• the limitation period in respect of a given right had begun to run prior to 16 December 2023.

Formation of contracts

As per Article 31 of the Code, a contract is made by offer and acceptance.

Article 37 of the Code makes it clear that silence cannot be deemed acceptance unless ‘there is an agreement to that effect; there is other evidence indicating acceptance’;^[4] or if it is related to a previous transaction between the parties. Regarding the latter, another provision to note is Rule 13 under Article 720. It provides that silence will be considered to be a statement, if a statement is necessary. This is unlikely to apply to the formation of a contract, but it could be relevant to variations or amendments to existing agreements.

The incorporation of terms from other documents (eg, standard form contract terms in construction contracts) is permitted by Article 46, which states: ‘if the contracting parties expressly or implicitly refer in the contract to the provisions of a model document, specific rules, or any other document, it is considered to be part of the contract’.^[5]

Good faith

The KSA Civil Code has codified the Sharia requirement for contracting parties to act in good faith.

Article 95 provides that ‘the contract shall be executed in accordance with its terms and in a manner consistent with the requirements of good faith’.^[6]

Interestingly, Article 41 of the KSA Civil Code extends the obligation of good faith to the negotiation phase of a contract, making it incumbent on parties to conduct contract negotiations in good faith. A party found to be acting in bad faith during negotiations may be liable to pay damages. Article 41 of the Code also indicates that the law will consider a party to be acting in bad faith if it knowingly withholds key information or if a party negotiated without the genuine intent of reaching an agreement. This means that, during the negotiation stage, parties should be transparent about relevant facts and circumstances.

The application of the good faith principle to parties’ conducted during the life of the contract will also extend to a party’s exercise of contractual discretion or a right that might otherwise appear to be absolute. The Code provides a list of circumstances that amount to the abuse of a right, including: (1) exercising a contractual right solely to cause harm; (2) where the benefit of exercising a contractual right is absolutely disproportionate to the harm suffered by others; and (3) exercising a contractual right for an unlawful purpose.

Article 720, Rule 40 provides that ‘no person may resile from what he has (conclusively) performed’.^[7] This may have an effect analogous to the doctrine of estoppel in certain circumstances as it prevents a person from taking an action contrary to the individual’s previous actions.

Unjust contracts

Article 68 of the Code deals with ‘unjust contracts’ and provides the court with the discretion to reduce or increase the extent of the obligations under the contract, or even invalidate the contract if one of the contracting parties takes advantage (or, in other words ‘exploits an apparent weakness’^[8]) of the other.

Any action on the basis of Article 68 of the Code must be instituted within 180 days from the date of the contract, otherwise it will be dismissed.

This is likely to be helpful in cases in which there is differing commercial strength between the parties and the resulting contract could be unjust.

Interpretation of contracts

The KSA Civil Code follows the objective doctrine of contract interpretation whereby a contract is only susceptible to judicial interpretation if the wording is not clear.

Article 104 sets out the rules for the interpretation of a contract and is similar to Civil Codes in other Gulf Cooperation Council (GCC) jurisdictions. Article 104 provides:

• if the words of the contract are clear, its meaning is not to be changed and the words will be used to interpret the will of the contracting parties;

• if the words of the contract are unclear and there is a need to interpret the contract, then the court/arbitrator must have regard to the common will of the contracting parties and take into account the customary practice, the circumstances of the contract, the nature of the transaction and the dealings between the parties to determine the intentions of the parties;

• if there is any doubt about the interpretation of a contractual provision, that doubt is to be interpreted in the interests of the party who bears the burden of an obligation, which reflects the basic burden of proof principle; and

• it is not permissible to rely on any terms of a contract in isolation; rather the terms are to be interpreted in light of one another by giving each term a meaning that does not conflict with the other terms. Moreover, a contract clause must be interpreted in the context of the entire agreement.

Termination of contracts

Article 94 of the Code provides that ‘if the contract is valid, it may not be revoked or amended except by agreement or by virtue of a statutory provision’.^[9]

Article 107 deals with rescission for non-performance, and provides that where one of the parties has failed to fulfil an obligation, the other party can ask the court/arbitrator to order that the contract is either performed or rescinded.

Under Article 108, in the event that one of the parties does not perform an obligation, the parties can agree that the contract is to be rescinded without the need for a court ruling. Notice is required, unless the parties expressly agree otherwise.

Article 111(1) provides that, where the contract is rescinded, the parties are to be returned to the condition in which they were before the contract, and if that is not possible, the court/arbitrator may award compensation. Article 111(1) of the Code is unlikely to be applicable in instances where a contract has been partially performed as it will not be possible to restore the parties to their pre-contract positions. Instead, it is likely that there will be an award of compensation.

Under the Code (specifically Article 476) each party to a muqawala contract has the right to request the termination of the contract if performance has become impossible due to factors outside the parties’ control. If this occurs, the party asking for the termination is obliged to compensate the other party for any resulting damage.

Tort claims

Article 120 of the KSA Civil Code provides that ‘any fault that causes damage to others shall be compensated by the person who committed it’.^[10] This sets out the basic rule for tort claims under the Code, namely that all damages, specifically acts causing harm, must be compensated.

Article 125 of the Code limits the scope of this rule and provides that a person will not be liable for the damage caused if the damage arose from a cause beyond the individual’s control, ‘such as force majeure, the fault of a third party or the fault of the injured party, unless otherwise agreed’.^[11]

If more than one person is responsible for an act that causes harm, then under Article 127 of the Code, all those responsible will be jointly liable to pay compensation for the damage and the court/arbitrator shall determine the share of the damage each individual is liable for. If it is not possible for the court/arbitrator to determine to what extent each person is liable for the harm caused, liability will be shared equally.

It is worth noting the KSA Civil Code also codifies the concept of contributory negligence in Article 128, which provides that ‘if the injured party participates in or increases the damage by his fault, his right or some of his right to compensation shall be forfeited in proportion to his contribution’.^[12]

Damages

As is dealt with by Articles 161 and 164 of the Code, the primary remedy under the KSA Civil Code for non-performance of an obligation is performance. However, if performance would be overly burdensome, the court/arbitrator may order an award in damages instead.

The aim, with an award in damages, is to cover the harm caused in full, thus returning the injured party to the previous position before the harm had occurred.^[13]

Article 172 of the Code permits apportionment and provides that ‘if the creditor participates by his mistake in causing the damage arising from non-performance or delay, or increases such damage, the provisions of Article 128 of this law shall apply’.^[14] Article 128 of the Code, which is detailed above, has the effect of reducing entitlement to damages in proportion with the fault of the claimant.

Damages need to be determined (either in the contract or will be done so by the relevant court/arbitrator^[15]) and can include loss of profits.^[16] This is a major development as the courts in the Kingdom of Saudi Arabia have previously been reluctant to award loss of profits as it has been argued that this conflicts with the Sharia prohibition of gharar (speculation and gambling).

Liquidated damages

The KSA Civil Code has also clarified the framework for liquidated damages.

Parties are free to agree on liquidated damages according to Article 178 of the Code, which provides that ‘the contracting parties may determine in advance the amount of compensation by stating it in the contract or in a subsequent agreement, unless the object of the obligation is a monetary amount, and no notice is required for the entitlement to compensation’.^[17]

The court or tribunal may, however, vary such an agreement, if:

• the claimant did not suffer any actual damage, in which case, the pre-agreed contractual compensation will not be due at all;

• the level of contractual compensation is exaggerated compared with the actual loss incurred by the claimant, or if the obligation was completed in part, the amount of damages may be revised accordingly; and

• the respondent committed fraud or a gross error that causes the claimant a loss greater than that stipulated by the liquidated damages clause, in which case the amount of damages may be revised upwards to correspond with the actual loss.

Non-performance/exceptional circumstances

Article 94 provides that a contract can only be revoked or amended by mutual consent of the parties, or in accordance with a statutory provision. Therefore – unless otherwise allowed by a statutory provision or mutually agreed by the parties – each of the contracting parties must fulfil its obligations under the contract and has no right to terminate or amend the contract unilaterally.

Articles 110 and 294 deal with impossibility of the performance of obligations. They provide that, if performance of the contract becomes impossible due to reasons that are outside the control of the debtor, then the contract will be automatically rescinded and the obligor will be released from its obligation. However, Article 110 also stipulates that ‘if the impossibility is partial, the obligation shall be extinguished only in respect of the impossible part’.^[18]

Further to this, if the performance of a contract is possible, but is rendered onerous, then Article 97 of the Code applies, enabling the aggrieved party to request a renegotiation. The article stipulates that ‘if general exceptional circumstances arise that could not have been anticipated at the time of contracting and their occurrence results in the performance of the contractual obligation becoming burdensome for the debtor such that it threatens him with a heavy loss, he may, without undue delay, invite the other party to negotiate’.^[19] This by no means gives a party the right to stop performing its obligations. If the renegotiation, as provided for under Article 97, fails and an agreement is not reached between the parties within a reasonable time, the court/arbitrator may reduce the obligation to an ‘adequate level’.^[20] However, it is worth highlighting that the exceptional circumstances required to trigger Article 97 must be ‘general’, meaning that they must affect the wider population and not the debtor only.

Article 471(3) of the Code, which falls within the muqawala provisions, provides wide ranging powers for the court/arbitrator to adjust the terms of the contract in order to restore the balance between the parties when exceptional circumstances of a general nature have radically changed the equilibrium between the parties. For example, the court can extend the performance period for a contractor, adjust the remuneration or, in some cases, terminate the contract.

Exclusion/liability

According to Article 173(1) of the Code, contractual liability can be limited or excluded by agreement between the parties. However, such a provision can be set aside where the relevant breach is fraudulent or constitutes gross negligence/serious default.

Moreover, Article 173(2) of the Code prevents exclusion of liability in respect of tortious claims.

Prescription period/time bars

One of the most significant changes introduced by the Code is a limitation on the period within which claims may be brought, as, under the ‘old law’, there was no prescription (or limitation) period. These particular provisions do not have retrospective effect.

According to Article 299 of the Code, the limitation periods listed below begin to run from the day on which the relevant right arose. Moreover, it is not permissible for parties to agree on making a limitation period shorter or longer (Article 305(1)).

In relation to tort claims, Article 143(1) provides that claims must be brought within three years of ‘the date on which the injured party became aware of the occurrence of the damage and of the person responsible for it’.^[21] Further to this, in all cases, a lawsuit shall not be heard after a period of ten years from the date of the damage.

In relation to claims in contract, Articles 295 to 297 of the KSA Civil Code set out the relevant limitation periods:

• Article 295 provides a general limitation period, that no legal action will be heard after ten years;

• Article 296 imposes a five-year limitation period for claims for professional fees and periodic renewable rights; and

• Article 297 provides a one-year limitation period for certain consumer and employment contracts.

As provided in Article 2 of the Code, the periods and dates mentioned in the Code are to be calculated according to the Islamic Hijri calendar, which consists of between 354 and 355 days per annum.

It is worth noting that these limitation periods can be interrupted in the following cases:

• the debtor’s acknowledgment of the right, expressly or implicitly (Article 302(a));

• a judicial claim, even when made before a court that lacks jurisdiction (Article 302(b));

• any other judicial action taken by the creditor to invoke his right (Article 302(c)); and

• whenever there is a lawful excuse that makes it impossible to claim the right (Article 300(1)), including the ‘bona fide negotiations between the parties that are ongoing upon completion of the prescription period’(Article 300(2)).

Notably, once the prescription period is interrupted, a new prescription period ‘similar’ to the first will commence ‘as of the cessation of the effect resulting from the cause of the interruption’. (Article 304(1)). This stands in contrast with the legal position in other jurisdictions, where the original prescription period resumes once the interrupting event has ceased to have effect.

Conclusion

While it remains to be seen exactly how the KSA Civil Code will be applied in practice, and interpreted by the courts and arbitrators, there is no doubt that it is a welcomed legal development in the Kingdom of Saudi Arabia.

In particular, as discussed in this article, the KSA Civil Code offers clarity in relation to key principles relevant to contracts with Saudi law as the governing law. It has codified the Sharia requirement for contracting parties to act in good faith^[22] and has brought clarity to an array of contractual principles, ranging from contract formation to compensation and exclusion of liability. Finally, the Code has introduced limitation periods^[23] into the law of the Kingdom of Saudi Arabia and so recognises that relations and rights are better protected when individuals and companies are obliged to bring their claims within a certain period.

Nabeel Ikram serves as Head of International Disputes (MENA) at Vinson & Elkins LLP. He is ranked as a leading lawyer for both construction and dispute resolution by The Legal 500, Chambers Global and Who’s Who Legal, and has over two decades of experience advising clients on construction disputes. His practice is centred on disputes arising throughout the MENA region (in particular, the UAE, Qatar and Saudi Arabia) and he has experience across a range of governing laws. He has been based in Dubai since 2008, prior to which, he practiced in London. He can be contacted at nikram@velaw.com. Giuliano Parlascino is an associate in the International Dispute Resolution & Arbitration practice at Vinson & Elkins LLP, based in the firm’s Dubai office. He has experience working with clients on various matters of international arbitration, particularly within the energy and construction sectors. He is admitted to practice as a solicitor in England and Wales. He can be contacted at gparlascino@velaw.com.