The common nature of taxation was mentioned and Islamic finance has to follow it no matter what. However, in being supportive to newly introduced financial system, Islamic finance has been given some initiatives to be compatible as well as on its way to strengthen the Malaysia’s economic on which perhaps aiming to be the central hub of Islamic finance.
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Islamic Finance Tax Treatment in Malaysia
1. ISLAMIC FINANCE AND
ACCOUNTING (IFE 735)
TAX TREATMENT ON ISLAMIC FINANCE IN
MALAYSIA
GROUP MEMBERS:
ABDUL HADI BIN MD AKHIR 2015769693
FATIN NURSYAFIRA BINTI GHAZALI 2015170081
NOR IZZUDDIN BIN NORRAHMAN 2015166457
4. Introduction
Islamic finance is a financial system that operates
according to Islamic law (shariah-compliant). Just
like conventional financial systems, Islamic finance
features banks, capital markets, fund managers,
investment firms, and insurance companies.
However, these entities are governed both by Islamic
law and the finance industry rules and regulations
that apply to their conventional counterparts.
5. The main principle of Islamic finance is its
adherence to interest or riba free financial
transactions, while other principles are
prohibition of fixed return, profit and loss
sharing and hence risk sharing, participatory
financing, prohibition of gharar (uncertainty),
speculation and gambling, money not having
any inherent value in itself, and also equity-
based financing.
7. Overview of Islamic Finance
There are mostly five key principles of Islamic
Finance that may be taken into consideration to
make sure it is Shariah compliant:
belief in divine guidance
no interest can be charged
no haram investments,
risk sharing is encouraged
financing is based on real assets.
8. Every Shariah-compliant financial transaction
should not lead to riba (interest), gharar
(uncertainty) and maysir (gambling).
Besides, it 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.
9.
10. For a contract to be Shariah-compliant or to be
considered as Islamic finance contract, it must have the
following four features of which to some extent may vary
from those of conventional contracts:
1. There are at least two parties in an Islamic contract.
2. Other than that, there are offer and acceptance by both
parties (i.e. seller or buyer or vice versa) on the
purpose and terms of the contract.
3. Third feature is the purpose of the contract must not
be haram (forbidden) or against Shariah
4. Lastly is the subject of the contract must change
hands upon completion of the contract.
12. 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 fixed monthly
instalment decreases overtime as 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 – i
Bai’ 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).
The client may be allowed to 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.
13. CONVENTIONAL SHARIAH COMPLIANT
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 maximize 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, by
contributing 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
14. Islamic Finance Transactions: Financial
Reporting Standards in Malaysia
There is an urgent need to address issues on accounting and
financial accounting, auditing and governance framework for
Islamic finance.
The Accounting and Auditing Organization for Islamic
Financial Institutions (AAOIFI) 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 MASB approved accounting standards.
15. In the Malaysian context, the Malaysian financial
institutions shall account for Shariah-compliant
transactions 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.
However, in order to facilitate its constituents’
application of MFRS to Islamic financial
transactions,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.
17. Malaysian Tax Legislation
Different amendments by Malaysian Tax Legislator
regarding tax treatment of Islamic financial instruments :
I. Income Tax Act 1967 (ITA)
II. Stamp Act 1949 (SDA)
III. Real Property Gains Tax (RPGT) Act 1976
Objective - to remove tax discrimination between the
application of conventional instruments and Islamic
instruments.
18. Amendments to the Income Tax Act
Section 2 (7) :
“any reference in this Act to interest shall apply, mutatis
mutandis, to gains or profits received and expenses
incurred, in lieu of interest, in transactions conducted in
accordance with the principles of Syariah”
In this context, the profits (equivalent to interest as riba is not
allowed under Shariah principles) derived from Islamic
financial transactions will have equal treatment as in a
conventional financing arrangement i.e. interest for tax
purposes.
19. Section 2(7) affects the tax treatment of Islamic income from
the charging, deduction, tax exemption, and withholding tax
perspectives.
The charging section of the ITA, Section 4, defines the scope
of charge of the ITA as follows:
◦ Gains or profits from a business, for whatever period of time carried
on;
◦ Gains or profits from an employment;
◦ Dividends; interest or discount;
◦ Rent, royalties or premium;
◦ Pensions, annuities or other periodical payments not falling under any
of the foregoing paragraphs
◦ and gains or profits not falling under any of the foregoing paragraphs.
20. Prior to the amendment of Section 2(7) :
Profits or gains received from Islamic investments were covered under
Section 4(a) in the case of business income
Gains or profits derived from a non-business Islamic source were
taxed under Section 4(f) because they did not fall under any other
categories.
After the amendment of Section 2(7) :
Gains or profits from Islamic business sources are still taxed under
Section 4(a)
Gains or profits from nonbusiness Islamic sources are now taxed
under Section 4(c) and are given the same treatment of non-business
interest income
21. 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 a person pursuant to a scheme of financing approved by
the Central Bank, 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
not be required in any other schemes of financing”
This implies that the Act allowed Islamic financing to continue
without any tax issues relating to asset transfer or lease.
22. Section 6A (3)
“A rebate shall be granted for the year of assessment for
any zakat, fitrah or 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”
Section 18 [Part III]
“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.
23. Amendments to the Stamp Duty Act
Objectives - To ensure that Islamic transactions are not subject to
adverse stamp duty implications, various stamp duty exemption
orders have been issued over the years .
1. 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 customer and a
financier (i.e. a bank, financial institution or leasing company), pursuant to a
scheme of Al-Ijarah Term Financing Facility.
2. 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 the Islamic overdraft
financing facility have been duly stamped
24. 3. 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 a customer and a
financial institution made under the principles of Shariah law for the purpose
of the issuance of credit cards.
“Financial institution” means any financial institution licensed under
i. The Banking and Financial Institutions Act 1989;
ii. The Islamic Banking Act 1983;
iii. Development financial institutions supervised under Section 2 of the
Development Financial Institutions Act 2002; or
iv. Any institution approved by the Central Bank of Malaysia.
4. Stamp Duty (Exemption) (No. 2) Order 2004
All instruments executed between a customer and a financier under an Asset
Sale Agreement or an Asset Lease Agreement made under the principles of the
Shariah for the purpose of renewing any Islamic revolving financing facility.
25. 5. Stamp Duty (Exemption) (No. 3) Order 2004
All instruments made by any financier which relate to purchase
of property for the purpose of lease back under the principles of
the Shariah or under a principle sale and purchase agreement by
which the financier assume the contractual obligations of
customer.
Stamp duties are imposed on a large number of documents and
contracts including a charge or a mortgage, and a conveyance,
assignment or transfer.
Generally, stamp duties are imposed on an ad valorem basis
although specific stamp duties are levied on certain documents.
26. Amendments to the Real Property Gains
Tax Act
Gains derived from the disposal of real property, or the disposal of
shares in real property companies, are subject to RPGTA.
But, if taxpayer’s business is dealing in property, his gains from
such business are subject to income tax and not RPGTA.
In order to increase the attractiveness of the Islamic financial
system, paragraph 3(g) was inserted into Schedule 2 of the RPGT
Act to exempt the gains from the disposal of real property, as
defined, by a person (i.e. customer) to an Islamic bank where that
person is being financed by that bank “in accordance with Syariah.”
27. Tax Neutrality
Form of tax incentives whereby a relief is given to the tax charges that was
supposed to be imposed onto the Islamic financial transactions.
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 tax
purposes. Tax deductibility on expenses incurred
available so long as tests of tax deductibility has
been met.
28. Tax Incentives
On 2006, Malaysia has established the Malaysia International Islamic
Financial Centre (MIFC)
The following are the focus areas of the MIFC:
Sukuk origination
Islamic fund and wealth management
International Islamic banking
International Takaful
Human Capital Development
29. Having ensured the convergence of the tax treatment between
Islamic financial transactions and their conventional counterparts,
the Government has taken additional measures to provide
attractive tax incentives for the Islamic finance industry
i. Tax Exemption for Islamic Financial Institutions
ii. Tax Incentives for the Issuance of Islamic Securities
iii. Tax Exemption for Islamic Fund Management Services
iv. Stamp Duty
31. Practical Tax Issues
Tax on Islamic Banking Products, for example,
sukuk.
◦ the certificates issued in a sukuk are ownership interests
in the assets of the issuing vehicle rather than debt
instruments.
◦ This can raise a number of unexpected tax issues.
33. The MIAs’ Initiatives…(1)
It plans to develop the knowledge base on
application of IFRS on Islamic Finance as well as to
encourage research on this area through
collaborations and sharing of findings with
stakeholders.
34. The MIAs’ Initiatives…(2)
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.
36. Islamic-compliant financing is on a growth trajectory
based on demographic trends, rising investible
income levels and progress towards harmonization
with global regulation. Whilst the economies of
developed economies are under strain, real estate
market participants are looking to funding
alternatives such as Islamic debt. Islamic banks
originating in the countries of the Gulf Cooperation
Council (GCC) could emerge as forces to be
reckoned with in the new global order of finance.
37. And because the Islamic finance in Malaysia is
operating side to side conventional banking, there are a
lot of differences that we have found in both of the
financial system. Nevertheless, although there a lot of
differences found, there are some similarities that we
could be found on each financial system and mainly on
taxation.
The common nature of taxation was mentioned and
Islamic finance has to follow it no matter what.
However, in being supportive to newly introduced
financial system, Islamic finance has been given some
initiatives to be compatible as well as on its way to
strengthen the Malaysia’s economic on which perhaps
aiming to be the central hub of Islamic finance.
38. Some issues may arise from the implementation of
the common taxation to the new Islamic Finance
system, but scholars will find a way to solve it. The
help also comes from MIA to see the Islamic finance
becoming a robust financial system in the world.