TAX TREATMENT ON ISLAMIC FINANCE in Malaysia - mia.org.my · Qard Hasan A benevolent...

TAX TREATMENT ON ISLAMIC

FINANCEin Malaysia

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ContentsPage

Glossary 2

Overview of Islamic Finance 5

Differences between Conventional and Islamic Finance Transactions - Examples

7

Islamic Finance Transactions: Financial Reporting Standards in Malaysia

10

Malaysian Tax Legislation 12

Tax Neutrality 14

Government’s Initiatives towards Islamic Finance 15

Tax Incentives 16

Common Practical Tax Issues - Example 18

Malaysian Institute of Accountants (MIA)’s Initiatives to Support the Growth of Islamic Finance Industry

20

2Tax Treatment on

Islamic Finance in Malaysia

GlossaryBai’ A ‘sale’ or contract of sale. It sometimes precedes another term

usedtodenotevarioussales-basedmodesofIslamicfinancesuchas Murabahah, Istisna’ and Salam.

Bai’ Bithaman Ajil (BBA) orcostplusprofitmarginfinancingcontract

A sale where payment of the consideration is deferred, either in instalments over a specified period or in full on a specified date.It is commonly used in long-term mortgage loans on which the homeowner pays instalments for typically 10, 20 or more years.

Bai Al-Inah • A contract of sale and purchase of an asset whereby the seller sells to the buyer in cash and subsequently buys back the asset atamarkedupdeferredprice;

• A contract of sale and purchase of an asset whereby the seller sells to the buyer at a deferred price and subsequently buys back at a lower cash price.

Gharar (Uncertainty) An element of a contract which is unknown, uncertain, ambiguous or deceit. For example, sale of birds in the sky, short-selling.

Halal Permissible. That is neither prohibited (haram) nor of doubtful permissibility (shubhah).

Haram Prohibited. Examples of activities prohibited in Islam include the sale and consumption of pork and pork-related products, pornography and fornication, gambling and intoxicants. Some jurisdictions also extend the prohibition to the sale of tobacco and/or armaments.

Hiwalah Transferring a debt from one debtor (transferor) to another (transferee). Once the transferee has accepted the transfer of the debt, the transferor would be released from any obligation.

Ibra’ Rebate.

Ijarah (Leasing) A contract whereby the lessor transfers to the lessee in return for a payment or series of payments the usufruct of an Ijarah item for an agreed Ijarah period, with terms mutually agreed by the contracting parties.

Ijarah Thumma Al Bai’ (also called Ijarah WaIqtina)

An Ijarah contract with an undertaking by the lessor to sell the Ijarah item to the lessee and/or an undertaking by the lessee to purchase the Ijarah item by, or at the end of the Ijarah period.[Ijarah=lease;thumma=then;alBai’=asale]

Ijarah Muntahia Bittamleek (Financial Leases)

An Ijarah or equivalent to a hire–purchase contract accompanied with an arrangement to transfer the Ijarah item from the lessor to the lessee through either a gift or a sale by, at the end of the Ijarah period.[Ijarahmeanslease;muntahiareferstoasendingwhereasBittamleekmeanswithownership]

3Tax Treatment onIslamic Finance in Malaysia

Glossary (continued)

Istisna’ (manufacture-sale)

A sale in which the subject is an item that has yet to be fabricated, manufactured, or constructed. Delivery of the item takes place at a future predetermined date. The consideration may be paid before, at or after delivery, or based on the stage of completion.

Ju’alah An open promise by one party to pay whoever performs a particular task. It is a unilateral binding on the initiator.

Kafalah To add obligation [of the guarantor] to the obligation of theprincipal debtor in respect to the demand for something [debt;compensation]. For example: If someone has a debt, anotherperson iswishing togiveguaranteeof thedebt; thefirstperson iscalled “asil” (the principal debtor) and the second person is called “kafil”(guarantor).

Maysir (Gambling) All dealings where placement of bet is required. Involves an arrangement between 2 or more parties, where a loss for one means a gain for the other. For example, gambling and games of chance.

Mudarabah (profitsharing)

A form of partnership between a party which contributes capital (rabb al-mal i.e. capital provider) and another which contributes effort, managerial and/or entrepreneurial skills (mudarib i.e. manager/entrepreneur).Profit from theoutcomeof theventure isshared between the capital provider and manager/ entrepreneur accordingtoamutuallyagreedprofitsharingratio,whilelossesareborne solely by the capital provider, provided such loss is not due to themanager’s/entrepreneur’snegligenceorviolationofspecifiedconditions.

Murabahah financingcontract

A sale based on trust, in which the seller must disclose to the purchaser the mark-up on the item sold. The consideration may be paid either in cash or deferred. It is similar to a BBA contract but for shorter-termfinancing.Paymentcanbemadeby lumpsumorbyinstalment.

Musharakah (Joint venture)

A form of partnership where partners contribute capital in cash or in kind,andshareprofitsaccordingtoanagreedprofit-sharingratio,while losses are shared according to the capital contribution ratio.

Operating lease A lease contract which the lessee does not have the intention to own the asset.

Qard Hasan Abenevolent“interest-free”loaninconventionalfinance.InShariah,a borrower is obligated to repay only the principal amount of a loan and the lender is not entitled to demand any return over and above the principal. For example, a borrower takes a loan of say RM100 and repays the lender on maturity exactly the same amount of RM100 without an increment.

4Tax Treatment on


Glossary (continued)

Rahnu (pawnbroking) A possession offered as security for a debt so that the debt will be paid from them in case the debtor failed to pay back the debt. Other names: pledge, mortgage, pawn, collateral but with Shariah rulings.

Riba’ (Interest) Coversanyreturnofmoneyonmoney,whethertheinterestisfixedorfloating,simpleorcompoundedandatwhateverrate.Suchgainis prohibited.

Salam (deferred delivery)

A sale in which payment is made immediately while goods are delivered at an agreed later date. It is equivalent to an advance payment.Itwasoriginallycreatedtoprovidefinancingforfarmers.

Shariah Islamic laws derived from Al-Quran and As-Sunnah.

Special Purpose Vehicles (SPV)

A separate subsidiary company set up to contain investments. Such a company protects its assets secure if the parent company goes bankrupt.

Sukuk (Bond) Financial instruments that serve much the same purpose as debt, but which are structured to avoid the payment of interest.

Tabarru’ Donation, gift or contribution.

Takaful (Insurance) An arrangement under which participants agree to contribute to a fund, where sums from the fund would be disbursed to participants ortheirbeneficiariesontheconcurrenceofpre-agreedevents.

Wakalah A contract between an agent and principal. In most circumstances, the agent would be entitled to be paid ujrah (fee) for his services rendered.

Zakat Obligatory contribution assessed based on certain assets owned by a Muslim that satisfy certain conditions and is to be distributed to specifiedcategoriesofbeneficiaries.


Overview of Islamic FinanceThis publication seeks to provide some basic insights and understanding of Islamic Finance. The objective is not to go into substantive details but to enumerate some of the pertinent points that may need to be considered before undertaking Islamic Finance opportunities.

What is Islamic Finance?Insimpleterm,itisaformoffinancethatisbasedonShariahorthebodyofIslamiclaw.ItoffersawayofconductingfinancialtransactionswhichisShariah-compliantandaccordingtocertaindefinedethical values such as fairness (i.e. price manipulation is prohibited), transparency (i.e. adequate information disclosure is encouraged) and risk-sharing (i.e. mutual co-operation and benefit isencouraged).

InensuringShariah-compliant,fivekeyprinciplesarestrictlyobserved:

Key Principles of Islamic Finance

Belief in divine guidance

2

No interest canbe charged

3

No haram investments

1Financing is

based on real assets

4

Risk sharing is encouraged

5

These principles can be viewed as activities that are prohibited and those which are encouraged.

Riba(interest)

Gharar(uncertainty)

Maysir(gambling)

In certain circumstances, it may be similar to conventional financial products but thefundamental principles remain different. For instance, every Shariah-compliant financialtransaction is not based on usury (interest), must be supported by an underlying economic activity and cannot be linked with elements that are considered as threats to the moral of a society such as gambling, liquor and arms trades.

6Tax Treatment on


Islamic Finance TransactionsCommonly,Islamicfinancialtransactionsinvolvethefollowing:

Islamic Financial Transactions

Sale-based Principles

Profit-sharing Principles

Lease-based Principles

Fee-based Principles

Free-of-charge

Principles

Supporting Contract / Security

Bai (Sales) Bai-Salam Istisna

Debt-based financing• BBA •Murabahah

Equity-based financing•Mudarabah •Musharakah

Debt-based financingIjarah (leasing)•Operating• Financial

•Wakalah (agency)

• Jualah (commission)

•Qard Hassan

• Kafalah•Rahnu•Hiwalah

TheabovediagramisgenerallysomecommontypesofIslamicfinancecontract.Foracontract1 to beShariah-compliantortobeconsideredasIslamicfinancecontract,itmusthavethefollowingfourfeatures of which to some extent may vary from those of conventional contracts:

1. ThereareatleasttwopartiesinanIslamiccontract;

2. There is offer and acceptance by both parties (i.e. seller or buyer or vice versa) on the purpose andtermsofthecontract;

3. Thepurposeofthecontractmustnotbeharam(forbidden)oroffensivetoShariah;and

4. The subject of the contract must change hands upon completion of the contract.

BBA,MurabahahandIjaraharethemostcommontypeofdebt-basedfinancingcontractwhereasMudarabahandMusharakaharetheequity-basedfinancingcontractwhicharelesspopularastheformerisinawaysimilarwiththeconventionalfinancingandduetofamiliarity.

AMudarabahfinancingcontractiswherethebankonlyprovidescapitaltothelenderforaprojectbasedonaprofit-sharingratio.Ifprofitsaregenerated,theprofitsaredistributedaccordingtothepre-agreedprofit-sharing ratiowhereas,any lossesareentirelyabsorbedby thebank. UnderaMusharakahfinancingcontract,thebankandthelenderwillbecomejoint-venturepartnerswherebothpartieswillcontributecapitalanddecideonaprofit-sharingagreement.

In our Malaysia jurisdiction, the Islamic finance services that are available would be savings/transactionalaccounts,consumerfinance,corporatefinance,investmentbanking,corporatesukukissuances, sovereign sukuk issuances, fund management, securities trading, takaful, retakaful, and co-operatives and/or savings institutions.

1 A contract is an agreement between two or more parties that creates an obligation to do or not to do anyparticularthing.Itislegally-enforceablebythelawwheretheagreementwasmadeanduponfulfilmentofcertain conditions.


Differences between Conventional and Islamic Finance Transactions - ExamplesThis table show some of self-explanatory differences between the Shariah-compliant financingtransactionsandproductscomparedtocommonconventionalfinancialinstrumentsareasfollows:

CONVENTIONAL SHARIAH-COMPLIANT

Property Financing

Home loans are lumpy assets and may be largest financial commitment in the lifetime.Interest paid is based on the loan remaining, the amount deducted for interest from each fixedmonthly instalmentdecreasesovertimeas the loan remaining decreases. This decreasing interest deduction also means that the amount of principal repaid increases every month i.e. the customer will repay to the bank the loan amount, together with interest at the prescribed rate. The prescribed rate is based on a margin above the bank’s base lending rate (BLR), and both the margin and the BLR are variable from time to time.

Property Financing – iBai’ Bithaman Ajil (BBA)

This contract refers to the sale of property on a deferred payment basis. The property chosen by the client is bought to the client at an agreed price which includes the bank’s mark-up (profit). Theclientmaybeallowedto settle payment by instalments within a pre-agreed period, or in a lump sum i.e. the monthly instalment of the bank’s selling price will not change throughout the tenure of the financing.

Leasing Arrangement

Types:1. Operating leases

An agreement between:a) a lessor who owns an asset and who

wants to earn return without losing ownership;and

b) a lessee who needs to use the asset and who cannot afford to buy it or does not want to own it.

2. Financial leasesa) The lessee has the option to purchase

the asset at the end of the lease.b) The ownership of the asset is

transferred to the lessee at the end of the lease term.

Ijarah

Some of the rules that Islamic leasing observed:• The lessor continues to own the asset

during the lease period i.e. the risk and obligations of ownership are borne by the lessor whereas the risk and obligations of use are borne by the lessee.

• The rental amounts must be determined andfixedatthestartofthecontractforthe whole duration of the lease.

• The lease begins only when the leased asset is delivered to the lessee ant not at the point when payment is made or the lease contract is signed.

8Tax Treatment on



Types:1. Operating lease

• In an Ijarah agreement, a bank or financier buys a property for acustomer and then leases it to him overaspecifiedperiod,thusearningprofits to the bank by chargingrentals. The duration of the lease and the fee are set in advance.

2. Al-Ijarah-Thumma Al-Bai (AITAB) or Ijarah Muntahia Bittamleek (IMB) [ similar to a hire-purchase contract in conventional finance]• Al-Ijarah-Thummal Al-Bai (AITAB)

AITAB is an arrangement to transfer the ownership of the underlying asset by or at the end of the lease is bymeansofasale;alsocalledijarawa iqtina, in other word is a lease that ends with a sale.

• Ijarah Muntahia Bittamleek (IMB)In IMB, the lessor has four options to transfer the legal title of the assets to the lessee whether as a gift, for a token of consideration, consideration prior to end of lease termor through gradual transfer; inother word is a lease that ends with ownership transferred.

* Note: AITAB is more popular in South-East Asia while IMB is more accepted in the Middle East.

Differences between Conventional and Islamic Finance Transactions - Examples(continued)



Conventional Insurance

Conventional insurance is associated with riba and major gharar, both of which are forbidden by Islamic principles, for instance:• shareholders own the insurance

company. The objective is to maximise profits.

Islamic insurance or Takaful

It is an arrangement by a group of people who have the desire to protect each other from defined risks and mishaps, bycontributing to a pool of money out of their own resources.

The foundation of takaful is based on principle of Aqilah (persons of relationship) means the takaful operator will divide the contributions into tabarru (donation) and investment. Tabarru is for the purpose of meeting policyholder losses and mishaps.

Basically, it based on two main concepts:• An insurance contract based on

Mudarabah means that policy holders and the insurance operator share risk by agreeing to a profit-sharingarrangement;

• Insurance based Wakalah (agency) means that the policyholders appoint the insurance operator as an agent to operate the insurance scheme at a fee anddoesnotshareintheprofits;

• Takaful products can also run on tabarru’ (donation)ornon-profitbasisor;

• Ahybridofprofit-sharingandagency.

Differences between Conventional and Islamic Finance Transactions - Examples(continued)

10Tax Treatment on


Islamic Finance Transactions: Financial Reporting Standards in MalaysiaIn view of the rapid acceptance of Islamic finance in the global marketand as a way to achieve sizeable critical mass before the sector can offer comprehensive alternatives to conventional banking products and financial services, there is an urgentneed to address issues on accounting and financial accounting, auditingand governance framework for Islamic finance.

The Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) which was established in 1990 located in Bahrain has, ever since its inception, issued more than 60 accounting, auditing,governance and Shariah standards for Islamic institutions. Despite AAOIFI being a pioneer in the Islamic standard-setting, the Malaysian Accounting Standards Board (MASB) has concerns that its accounting standards may not have been developed based on a conceptual framework similar to the

MASBapprovedaccountingstandards.Thus,MASBhasnotapprovedAAOIFIfinancialaccountingstandards for use by entities under its purview (extracted from MASB’s website www.masb.org.my). This simply means that an entity may not apply AAOIFI recognition and measurements that depart from MASB requirements. However, the inclusion of additional disclosures required under AAOIFI standards, if appropriate, may be acceptable.

In theMalaysian context, theMalaysian financial institutions shall account for Shariah-complianttransactions and events in accordance with MASB approved accounting standards which is now known as Malaysian Financial Reporting Standards (MFRS) after convergence with the International Financial Reporting Standards (IFRS), unless there is Shariah prohibition. Thus far, the MASB accounting standard requirement has no violation of the Shariah principles. As such, in the event where, under extremely rare circumstances, there is a Shariah prohibition to MASB requirement, that requirement need not be complied with and MASB will undertake to issue alternative guidance. Hence as at to-date, MASB does not issue separate Islamic accounting standards for this purpose.


However,inordertofacilitateitsconstituents’applicationofMFRStoIslamicfinancialtransactions,the MASB has issued a series of Technical Releases or Islamic accounting pronouncements, which complement, and is to be read in conjunction with the MFRS.

To date, the MASB has issued four (4) Technical Releases as guidance as follows:

• Statement of Principles i-1 (SOP i-1) “Financial Reporting from an Islamic Perspective”: SOP i-1servestoinformthatMASBapprovedaccountingstandardsshallapplytoIslamicfinancialtransactions, unless there is a Shariah prohibition.

• Technical Release i-1 (TR i-1) “Accounting for Zakat on Business”: when an entity pays zakat on business, TR i-1 requires it to be recognised as an expense of the entity. This is to differentiate between zakat paid by an entity in its own legal capacity and zakat paid on behalf of its shareholders.

• Technical Release i-2 (TR i-2) “Ijarah”: TR i-2 confers a lessee with the right to use an asset while ownership of the underlying assets remains with the lessor.

• Technical Release i-3 (TR i-3) “Presentation of Financial Statements of Islamic Financial Institutions”: TR i-3 mainly concerns presentation of information relating to contracts used by Islamicfinancialinstitutions.

• Technical Release i-4 (TR i-4) “Shariah Compliant Sale Contracts”: TR i-4 is to clarify the recognition and derecognition requirements for items acquired or transferred through a Shariah compliant sale contract.

In addition to this, MASB is the Leader of the Asian-Oceanian Standard Setters Group (AOSSG)2

Islamic Finance whose other members comprise standard-setters from Australia, China, Dubai, Korea, Pakistan and Saudi Arabia. The Working Group was set-up with the objective to facilitate AOSSG members to provide input and feedback to the International Accounting Standard Board on theadequacyandappropriatenessofproposedandexistingIFRStoIslamicfinancialtransactionsand events.

2 AOSSG is a group of accounting standard-setters in the Asia-Oceania region, within which there are several working groups to provide input into topics that are of importance to the region.

12Tax Treatment on


Generally, there isno specific tax legislationgoverning Islamicfinancial instruments.However theIncome TaxAct 1967 (theAct) hasmadecertain provisions on Islamic transactions as identifiedbelow:

Malaysian Tax Legislation

SECTION PROVISION IN THE ACT

Section 2(7) “any reference in this Act to interest shall apply, mutatis mutandis, to gains orprofitsreceivedandexpensesincurred,inlieuofinterest,intransactionsconducted in accordance with the principles of Syariah”

• Inthiscontext,theprofits(equivalenttointerestasribaisnotallowedunderShariahprinciples)derivedfromIslamicfinancialtransactionswillhaveequaltreatmentasinaconventionalfinancingarrangementi.e. interest for tax purposes.

Section 2(8) “Subject to subsection (7), any reference in this Act to the disposal of an asset or a lease shall exclude any disposal of an asset or lease by or to apersonpursuant toa schemeof financingapprovedby theCentralBank, the Securities Commission, the Labuan Financial Services Authority or the Malaysia Co-operative Societies Commission, as a scheme which is in accordance with the principles of Syariah where such disposal is strictly required for the purpose of complying with those principles but which will notberequiredinanyotherschemesoffinancing”

• ThisimpliesthattheActallowedIslamicfinancingtocontinuewithoutany tax issues relating to asset transfer or lease.

Section6A(3) “Arebateshallbegrantedfortheyearofassessmentforanyzakat,fitrahor any other Islamic religious dues payment of which is obligatory and which is paid in the basis year for that year of assessment and evidenced by a receipt issued by an appropriate religious authority established under any written law”

Section18[PartIII] “Insurance” includes a takaful scheme pursuant to the Takaful Act 1984. “Premium”, in relation to insurance, includes contributions or instalments payable under a takaful scheme pursuant to the Takaful Act 1984.


Apart from the Income Tax Act, various stamp duty exemption orders have been issued to ensure that Islamic financing transactions are not adversely taxed as comparedwith the conventionalfinancingtransactions.

Theidentifiedstampdutyexemptionordersare:

Malaysian Tax Legislation (continued)

STAMP DUTY EXEMPTION ORDER DESCRIPTION

Stamp Duty (Exemption)(No. 8) Order 2000

Exempted from stamp duty on all instruments of Al-Ijarah Head Lease Agreement of immovable property executed between a customerandafinancier(i.e.abank,financialinstitutionorleasingcompany), pursuant to a scheme of Al-Ijarah Term Financing Facility.

Stamp Duty (Exemption)(No. 9) Order 2000

All instruments of the Asset Sale Agreement or the Asset Purchase Agreement executed between a customer and a bank made under the principles of the Shariah law for the purpose of renewing any Islamic overdraft financing facility, if the instruments for theIslamicoverdraftfinancingfacilityhavebeendulystamped.

Stamp Duty (Exemption) (No. 38) Order 2002

Exempted from stamp duty on all instruments of the Bai Inah Sale Agreement or the Bai Inah Purchase Agreement executed between acustomerandafinancialinstitutionmadeundertheprinciplesofShariah law for the purpose of the issuance of credit cards.

“Financialinstitution”meansanyfinancialinstitutionlicensedunder• theBankingandFinancialInstitutionsAct1989;• theIslamicBankingAct1983;• developmentfinancial institutionssupervisedunderSection2

oftheDevelopmentFinancialInstitutionsAct2002;or• any institution approved by the Central Bank of Malaysia.


All instruments executed between a customer and a financierunder an Asset Sale Agreement or an Asset Lease Agreement made under the principles of the Shariah for the purpose of renewing any Islamicrevolvingfinancingfacility.


Allinstrumentsmadebyanyfinancierwhichrelatetopurchaseofproperty for the purpose of lease back under the principles of the Shariah or under a principle sale and purchase agreement by which thefinancierassumethecontractualobligationsofcustomer.

14Tax Treatment on


Inanutshell, for Islamicfinancetransactions,duetotheunderlyingassetwithineachtransaction,taxneutralityaswellasthetaxtreatmentofprofitsneedtoberesolvedastaxissuestendtoariseinmost countries.

Tax neutrality is a form of tax incentives whereby a relief is given to the tax charges that was supposed tobeimposedontotheIslamicfinancialtransactions.

Infact,MalaysiawasamongthefirstcountrytoaccordtaxneutralitytoIslamicfinanceinstrumentsandtransactionstoreducecostoftransferringassetsinIslamicfinance.ThismeasurehaspromotedalevelplayingfieldbetweenconventionalandIslamicfinancialproducts.

Section 2(8) of the Act essentially allows the underlying sale of assets or leases to be ignored for tax purposes so that any additional tax as a result of the underlying transaction would not arise. It enablesIslamicfinancingtocontinuewithoutanytaxissuerelatingtoassettransferorlease,assuchplacingtheIslamicfinancingonthesamefootingasconventionalfinancing.

ApprovalfortheIslamicfinancinghastobegrantedbytherelevantauthoritiesnamelyBankNegaraMalaysia, Securities Commission and the Labuan Financial Services Authority.

The impact between no tax neutrality and tax neutrality is tabulated as below:

Tax Neutrality

No Tax Neutrality Tax Neutrality

Disposal of assets/ properties may be subject to income tax or capital gains tax.

Underlying disposal of the assets/ properties required for Islamic transactions will be disregarded for income tax purposes. In this regard, no additional tax impact on the sale and leaseback required in Islamic transactions.

Double stamp duty for the sale and leaseback of assets/ properties.

Stamp duty exemption on the underlying sale and disposal of assets/ properties will mean that no additional stamp duty will be applicable compared to a conventional transaction.

Uncertainty in respect of what a company can take as a tax deduction.

Profit element will be treated as “interest” for taxpurposes. Tax deductibility on expenses incurred available so long as tests of tax deductibility has been met.

[Source: PricewaterhouseCoopers]

There is always a need for tax neutrality so that Islamic finance is put on equal tax treatmentcomparedtoconventionalfinance.Otherwise,Islamicfinancewillnotbeattractiveorcompetitivecomparedtoconventionalfinance.


The Malaysian Government has taken up various steps and initiatives to facilitate the transition of Malaysia to become an international Islamic hub; wellsupported with a vibrant and comprehensive Islamic financial systemthat includes major international and domestic financialinstitutions.

For instance, the establishment of the Malaysia International Islamic Financial Centre (MIFC) in year 2006 wasaimed at promoting Malaysia as a key global player in Islamic financewhich offers extensive knowledge and practical experience in Islamic finance.BesidesMIFC,theestablishment of Islamic

Government’s Initiatives towards Islamic Finance

Financial Services Board (IFSB) provides guidance that is intended to promote global prudential standards and guiding principles for the Islamic banking and insurance industry and capital markets.

The International Centre for Education in Islamic Finance (INCEIF) was set up with the main objectives ofmakingMalaysiatheleadingcentreforIslamicfinanceeducationanddevelopinghumancapitalfortheglobalIslamicfinanceindustry.

In addition, the International Shariah Research Academy for Islamic Finance (ISRA) was established inyear2008topromoteappliedresearchintheareasofShariahandIslamicfinance.

16Tax Treatment on


Undoubtedly, tax incentives are clearly an important aspect in developing and promoting the Islamicfinancialmarket.

Basically, tax incentives can be broadly categorised into:-

a. TaxincentivestodiversifiedplayerssuchasBanking,TakafulandFundManagement

b. TaxincentivestofacilitateIslamicfinancetransactionsinMalaysia

c. Tax incentives on Expertise

Awide rangeof tax incentivesacross the Islamicfinance spectrum inpromotingMalaysiaasaninternationalIslamicfinancialcentreareidentifiedbelow(whicharenotexhaustive):

Tax Incentives

Tax Incentives Notes

Tax exemption of Islamic banks and takaful c o m p a n i e s transacted in in ternat ional currencies

• Taxexemptionof 100% fromYearofAssessment (YA)2007 toYA2016for Islamic banks and Islamic banking units licensed under the Islamic Banking Act 1983 on income derived from Islamic banking business conducted in international currencies, including transactions with Malaysianresidents;and

• Taxexemptionof100%fromYA2007toYA2016fortakafulcompaniesand takaful units licensed under the Takaful Act 1984 on income derived from takaful business conducted in international currencies including transactions with Malaysian residents.

Exemption from withholding tax

Interest income (other than such interest accruing to a place of business in Malaysia) received by non-residents from financial institutions establishedundertheIslamicBankingAct1983,oranyotherfinancialinstitutionsapprovedby the Minister of Finance are exempted from tax.

Profits paid in respect of Islamic securities/ debentures issued in RinggitMalaysia, other than convertible loan stock which are approved by the Securities Commission (SC) to non-residents are exempted from witholding tax. This includes non-Ringgit instruments approved by SC or Labuan Financial Services Authority (Labuan FSA). Similarly, any profits paid on non-RinggitIslamic securities to residents are also exempted if approved by SC or Labuan FSA.

Exemption of Real Property Gains Tax (RPGT)

Chargeable gains accrued on the disposal of any chargeable assets in relation to the issuance of private debt securities under Islamic principles are exempted from RPGT.

This also applies to the disposal of any chargeable assets in relation to the Sukuk Bank Negara Malaysia (BNM) - Ijarah which are issued or to be issued by BNM Sukuk Berhad.


3 Expenses eligible for double deduction include expenses incurred on market research and feasibility studies, cost of preparing technical information to a person outside Malaysia relating to the type of services offered, expensesdirectly incurred forparticipating inaneventor events verifiedbyMIFC secretariat i.e.a secretariatestablishedbyBankNegarapursuanttotheMIFCinitiatives;accommodationexpensesuptoRM300perdayandsustenanceexpensesuptoRM150perdayforcompanyrepresentativeswhotraveloverseasforbusiness;costofmaintainingsalesofficesoverseasasapprovedbyMIFCsecretariatandpublicityandadvertisementexpensesinany media outside Malaysia. “Event” here means a Global Islamic Financial Forum (GIFF) organised by or on behalf of MIFC Secretariat or any exhibition, conference, promotional fair, seminar, summit, road show or meeting or any participation in relation to GIFF.

Tax Incentives (continued)

Tax Incentives Notes

Personal tax relief

Tax relief not exceeding RM5,000 per annum is also provided on Islamicfinance courses approved by Bank NegaraMalaysia (BNM)or SC at localinstitutions of higher learning including INCEIF.

I s s u a n c e of Islamic securities

Tax deduction on expenses incurred on the issuance of Islamic securities based on principles of Mudharabah, Musharakah, Ijarah, Istisna’ and other IslamicsecuritiesapprovedbySCorLabuanFSAuptoYA2015.

Exemption of Stamp Duty

Further extension of stamp duty exemption of 20% on instruments of Islamic financingproductsapprovedbytheSACofBNMorSCupto31December2015.

100% stampdutyexemptionup to31December2016on foreigncurrencyinstrumentsexecutedbyInternationalCurrencyIslamicfinancialinstitutions.

Others • Pre-commencement expenses of an Islamic stockbroking company will be allowed as tax deduction which commences its business within two (2) years from the date of approval by the SC. Applications have to be receivedbySCbefore31December2015.

• Special purpose vehicles (SPV) established under the Companies Act 1965orOffshoreCompaniesAct1990whichelectstobetaxedundertheIncomeTaxAct1967,solelytochannelfundsforthepurposesofissuanceof Islamic securities, is not subject to tax or tax administrative procedures, subject to approval from SC.

• Double deduction on certain expenses3 incurred for the purpose of promoting Malaysia as an International Islamic Financial Centre (MIFC) is extendeduntilYA2015.

18Tax Treatment on


Islamic bond issuance based on Sukuk Ijarah (Leasing)

[Source: PricewaterhouseCoopers]Note:• Sukuk is issued based on asset being sold to the SPV who will leaseback the asset to the owner.• Due to underlying disposal of asset and lease transaction, the tax issues are more complex

compared to a conventional transaction.

Some common tax issue to consider• Would the sale and lease be seen as separate sale and leaseback transactions for the purpose

of tax?• Would there be issues as far as tax depreciation is concerned on the disposal of assets (i.e. claw

back on tax depreciation claimed previously)?• WouldtaxincentivesbeaffectedbyanIslamicfinancingstructureduetodisposalofassets?• Would there be additional or double stamp duty payable as a result of the underlying asset

transfer?• Would“profits”onsuchIslamicFinancetransactionsbetaxdeductible?• Would there be other taxes such as Value Added Tax (VAT) or Goods and Services Tax (GST)?

Company A SPV Investors

1) Sale of Asset

2) Ijarah (Lease)

2) Sukuk Issuance

2) Funds

1) Funds

2) Ijarah Payments

Tax Neutrality Provisions

Company A SPV Investors

2) Sukuk Issuance

2) Funds

1) Funds

2) Deferred consideration / Ijarah Payments

• DuetotheadditionalunderlyingassettransactionsrequiredforShariahfinancing,taxneutralityrules would mean that the underlying transactions would be ignored for tax purposes.

• This will mean that the Sukuk will be treated to be similar as any conventional bonds so that it is not treated worse off.

Common Practical Tax Issues - Example

1) Sale of Asset

[Source: PricewaterhouseCoopers]

2) Asset repurchase / Ijarah (Lease)


Malaysian Institute of Accountants (MIA)’s Initiatives to Support the Growth of Islamic Finance IndustryMIA through various initiatives and collaborations aims to showcase Malaysia’s expertise in Islamic Finance and promote its accountants’ marketability locally and internationally. It plans to develop the knowledge base on application of IFRS on Islamic Finance as well as to encourage research on thisareathroughcollaborationsandsharingoffindingswithstakeholders.Specifically,MIAengagedwith Bank Negara Malaysia to provide input from the industry’s perspective on the “Shariah Audit Framework for Islamic Financial Institutions (IFIs)”. The views and feedback were shared with Bank Negara Malaysia through several discussions held throughout 2011. It is envisaged that a more practicalandusefulguidancewillbeissuedwhichwillenhancetheefficiencyoftheIslamicFinancemarket.

MIA is collaborating with INCEIF (The Global University of Islamic Finance) to conduct a gap analysis on the Bachelor of Accounting Programmes of local universities accredited by MIA to recommend relevant Islamic Finance (IF) modules that could be incorporated into the current syllabus. In addition, MIAwouldidentifysuitablecoursesthatcouldbeofferedforthebenefitofmembers.Thisinitiativeisaimed to enhance the value of future and existing accountants by embedding relevant knowledge into their education system and continuous professional development. This will provide a ready supply of IF-competent accountants to support the development of this rapidly growing economy and promote Malaysian accountants’ marketability internationally.

20Tax Treatment on


Asian-Oceanian Standard-Setters Group website at www.aossg.org

Bhupalan, R., 2009. An Introduction to Islamic Finance and the Malaysian Experience. [online]Availableat<http://www.taxand.com.my>[Accessed30August2012]

Choong, K.F., 2011. Advanced Malaysian Taxation: Principles and Practice (13th Edition). Malaysia: Infoworld.

International Centre For Education In Islamic Finance website at www.inceif.org

International Shariah Research Academy for Islamic Finance at www.isra.my

Kasipillai, J., 2010. A Guide to Advanced Malaysian Taxation. Malaysia: McGraw-Hill, 2010.

Malaysia International Islamic Financial Centre website at www.mifc.com

Malaysian Accounting Standards Board website at www.masb.org.my

Naim, A., 2010. Malaysia: The Tax Haven For Islamic Finance. [online] Available at <http://arzim.blogspot.com>[Accessed30August2012]

PricewaterhouseCoopers, 2010. Gateway to Asia: Malaysia, International Islamic Finance Hub. Malaysia: PricewaterhouseCoopers

PricewaterhouseCoopers, 2011. Practical and Legal Tax Issues for Cross-Border Financial Activities. Malaysia: PricewaterhouseCoopers

Vicary Abdullah, D. and Keon, C., 2010. Islamic Finance: Why It Makes Sense. Singapore: Marshall Cavendish Business.

References

The Malaysian Institute Of Accountants (“MIA”)

MIA is a statutory body established under the Accountants Act, 1967 to regulate and develop the accountancy profession

in Malaysia. As at November 2012, MIA has close to 29,000 members. For more information please visit: www.mia.

org.my

Vision

To be a globally recognised and renowned institute of accountants committed to nation building.

Mission

To develop, support and monitor quality and expertise consistent with global best practice in the accountancy profession

for the interest of stakeholders.

Objectives

1. To promote & regulate professional & ethical standards

2. To develop & enhance competency through continuous education & training to meet the challenges of the global

economy

3. To enhance the status of members

4. To lead R&D for the enhancement of the profession

5. To inculcate a high sense of social responsibility

The Use of the Word “Accountant”

In Malaysia, the word “accountant” is protected as provided for under the provisions of the Act which states that no one

can hold himself out or practise as an accountant unless he is registered as a member of MIA.

1. This document contains general information only and MIA is not, by means of this document, rendering any

professional advice or services. This document is not a substitute for such professional advice or services, nor

should it be used as a basis for any decision or action that may affect your business. Before making any decision

or taking any action that may affect your business, you should consult a professional advisor.

2. Whilst every care has been taken in compiling this document, MIA makes no representations or warranty (expressed

or implied) about the accuracy, suitability, reliability or completeness of the information for any purpose.

3. MIA, its employees or agents accept no liability to any party for any loss, damage or costs howsoever arising,

whether directly or indirectly from any action or decision taken (or not taken) as a result of any person relying on

or otherwise using this document or arising from any omission from it.

Dewan AkauntanNo. 2, Jalan Tun Sambanthan 3Brickfields, 50470 Kuala LumpurMalaysia[phone] +603 2279 9200 [fax] +603 2274 1316[web] www.mia.org.my [email] [email protected]

TAX TREATMENT ON ISLAMIC FINANCE in Malaysia - mia.org.my · Qard Hasan A benevolent...

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