Ireland presses on with Islamic finance tax neutrality laws

The Irish Revenue in October 2010 published its latest report on Islamic finance, namely ‘Guidance Notes on the Tax Treatment of Islamic Financial Transactions’ which relate to Islamic investment funds; leasing and hire purchase (ijara) arrangements; takaful (Islamic insurance) and retakaful (Islamic reinsurance); murabaha (credit) and diminishing musharaka; murabaha (deposits) and wakala (agency); and sukuk.

Ireland presses on with Islamic finance tax neutrality laws

Ireland presses on with Islamic finance tax neutrality laws

As such, Ireland becomes only the fourth European Union country after the UK, Luxembourg and France to introduce tax neutrality measures for Islamic financial transactions which are similar or equivalent to conventional transactions.

In fact, the Irish Revenue first mooted changes in the tax treatment of Islamic financial products in a commentary it circulated in November 2009. This was followed by the introduction of significant amendments to Irish tax laws to facilitate certain other Islamic financial transactions which had not been dealt with in the November commentary. Under the Finance Bill 2010, which came into effect in January 2010, the Irish Ministry of Finance introduced significant amendments to facilitate Islamic finance transactions in Ireland, especially the origination and issuance of sukuk.

The latest ‘Guidance Notes on the Tax Treatment of Islamic Financial Transactions’ seeks to consolidate Irish Revenue’s guidance on the tax legislation and the earlier Commentary into one comprehensive reference document.

Ireland like other EU countries is warming to Islamic finance and Dublin has emerged as an Islamic investment fund domicile to rival the Channel Islands of Jersey and Guernsey; and Luxembourg. Indeed several Shariah-compliant funds are registered in Dublin including several funds from the South African asset management company, Oasis Group, under its Crescent label including Oasis Crescent Global Equity Fund; and funds mooted by a number of Malaysian Islamic asset management companies.

The Irish government is also keen to promote the island as a more attractive location for international fund raising operations in addition to providing Irish companies with an alternative source of funding.

International market players in the Islamic finance space such as global auditing and advisory firm PriceWaterhouseCoopers (PWC) have welcomed the Irish tax neutrality initiative, stressing that the Finance Bill 2010 proposes new legislation that will facilitate several Shariah-compliant transactions including sukuk transactions by extending to this form of financing the relieving (tax neutrality) provisions which currently apply to equivalent conventional financing; and that the Guidance Notes “are extremely helpful in consolidating the Irish Revenue’s views on the legislation and practice in the area of Islamic finance”.

Islamic finance market players stress the above changes and measures will enhance Ireland’s competitiveness and attractiveness as a domicile for Sukuk issuance and the launch of Islamic equity and other such products.

The Irish Revenue is explicit in stressing that “the term Islamic Finance does not appear in tax legislation. For tax purposes, depending on the circumstances, transactions which are structured to be Shariah-compliant may or may not be treated similarly to mainstream financial transactions, which are similar in substance.

In the case of Shariah-compliant transactions and structures within the funds, leasing and insurance industries, generally the Irish tax treatment is the same as that applying to conventional transactions. Section 39 of the Finance Act 2010 provides for the tax treatment of certain credit sale, deposit and investment transactions (referred to in the legislation as “specified financial transactions”) which achieve the same economic result in substance as comparable conventional products. Although designed to cover certain Shariah-compliant structures, the legislation applies to any financing arrangement falling within the meaning of the term “specified financial transaction” regardless of whether the arrangement is, in fact, Shariah-compliant.”

According to a Tax Alert from PWC published last week, the legislation had clarified that a Sukuk should be considered a security for Irish tax purposes and that the investment return on a Sukuk should be treated as interest. This is in contrast to the UK legislation on tax neutrality for Sukuk, which are defined as Alternative Financial Investment Bonds.

However the Irish legislation fails to deal with a number of further issues which are implicit in Islamic financial transactions. According to PWC, Irish tax legislation generally contains a restriction on deductibility where interest is linked to the results of the borrower. This can be a common feature in Sukuk issuances but would not necessarily feature in a corresponding conventional financing transaction. The new legislation, stressed PWC, did not deal with this restriction on deductibility for payments to Sukuk holders which are directly linked to the return on the underlying asset but the guidance notes do now seek to rectify this by confirming that Irish Revenue will not seek to regard the Sukuk return as being dependent on the results of the issuer where a number of conditions are satisfied.

However, “while the conditions might be seen as onerous, it should be possible to commercially satisfy them in order to secure a tax deduction for the return paid to the sukuk holders which essentially represents the interest expense in a conventional financing structure,” added PWC.

The Irish Revenue has also confirmed that while the sukuk does need to be issued to the ‘public’ (retail), it does not need to be listed to fall within the legislation.

The Guidance Notes also confirm the above treatment applies in certain deposit transactions which are structured as mudaraba or wakala contracts, and that such transactions will not mean that the beneficial owner of the deposit is carrying on a trade in partnership with the deposit taker. The income earned by a corporate in such a transaction should generally be taxed at 25 percent in line with Irish Revenue’s view on the taxation of deposit interest.

In ijarah (leasing) transactions, the Guidance Notes confirm that an ijarah operating lessor of short life assets can elect to be taxed in accordance with its accounting treatment.

PWC has also identified some outstanding issues to be addressed regarding stamp duty and capital gains tax which could facilitate the issuance of sukuk in Ireland and provide a genuine alternative source from which Irish businesses can seek to raise finance.

http://arabnews.com/economy/article197574.ece

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