Goods & Services Tax (GST) Implication of GST on Islamic Banking Institutions

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Spencer McKenzie
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1 Goods & Services Tax (GST) Implication of GST on Islamic Banking Institutions

Tax (0%) ISLAMIC BANKING INSTITUTIONS Exempt (Nil) Standard Rated (6%) Zero Rated (0%) Out of Scope

2 Overview GST Input Tax (Business Acquisition) GST Output Tax (Business Supplies) Fixed Input Tax Recovery (FITR) (70%*) *Rate is subject to annual review Full Input Tax Recovery (100%) Blocked Input Tax (0%) ISLAMIC BANKING INSTITUTIONS Exempt (Nil) Standard Rated (6%) Zero Rated (0%) Out of Scope (Nil) Non Supply (Nil) GST Output Tax GST Input Tax = Net GST Payable (Refundable) For Islamic financing transaction

3 GST treatment on Financial Services Exempt (Nil) Standard Rated (6%) Zero Rated (0%) Out-of-Scope (Nil) Spread / Profit in Nature Fee / Commission in Nature International Services Penalty / Non Supply Example Financing (e.g. Personal, Hire Purchase, Mortgage) Currency exchange Security / Derivative trading Example Shariah Advisory fee Annual fee Processing fee Brokerage fee Underwriting fee Legal fees Example Letter of credit for export of goods Services to customer outside* Services relating to goods/land outside Malaysia* Example Financing principal value Penalty charges e.g. Early settlement fee Buy/sell of underlying asset for Islamic financing *Zero rate treatment : Subject to fulfillment of conditions under para 10,11 and 12 of GST (Zero Rate) Order respectively

4 Tax Neutrality Between Conventional & Islamic Financial Services OBJECTIVE Any transaction/ instruments conducted or made in accordance with the principles of Shariah will be given equivalent treatment as conventional product: To ensure that Islamic financing products are equally competitive to conventional products SPECIAL GST TREATMENT FOR ISLAMIC FINANCING ARRANGEMENT (1) Non Supply Underlying supply of goods/services under an Islamic financial arrangement (other than a supply of financing) e.g. underlying buy and sell of commodity, asset (loan principal) (2) Full Input Tax Credit (not subject to FITR) Acquisition of goods or services under an Islamic financial arrangement other than the provision of Islamic financing e.g. Bursa trading fees for buy/sell of commodity Shariah advisory services of a Shariah committee established under section 30 of the Islamic Financial Services Act 2013 in relation to an Islamic financial arrangement

5 Tax Neutrality Between Conventional & Islamic Financial Services GST Analysis for Islamic Financing Product (1) Where possible, to identify the equivalent conventional financing structure and the corresponding consideration. To apply the same GST treatment accordingly. (2) If there is no equivalent conventional financing instrument, to apply for principal base analysis: Spread / Profit in nature = Exempt Fee/Commission (i.e. service) in nature = Standard Rated (3) If there is ambiguity, to seek Customs agreement on the proposed GST treatment.

6 Example 1 Product Structure: Al Ijarah Thumma Al Bay (AITAB) Lease then Sell Category Islamic Concept Products Equivalent Conventional Products Lease Al Ijarah Thumma Al Bay (AITAB) ASSET/FINANCING Hire Purchase - i Hire Purchase

7 Example 1 Product Structure: Al Ijarah Thumma Al Bay (AITAB) Lease then Sell STEPS DETAILS GST Analysis Customer identifies asset for rental 1 N/A 2 Customer requests IB to acquire the identified asset to be leased N/A 3 IB purchases the asset from the Vendor (value = financing principal) - For GST purposes, supply of asset it treated to be made by vendor to customer (and not to the bank) similar to conventional hire purchase. Bank is only providing financing facility. - No input tax claim made by the bank for this purchase. Input tax to be claimed by customer 4 5 Bank leases the asset to the Customer at an agreed rental rate and tenor (value = financing principal + profit) On maturity, ownership of asset will be transferred to the Customer by sale or free transfer (gift) Supply 1 : Lease of property (consideration = financing principal) - Non supply (GST Act 2014 (Second Schedule), Item 5) Supply 2 : Provision of financing (consideration = profit) - Exempt (similar to interest for conventional) - Transfer of ownership Out of scope (gift rule should not apply) - Sales at nominal value out of scope (to be treated as financing principal)

8 Example 2 Product Structure: Ijarah Leasing no transfer of ownership CATEGORY Islamic Concept Products ASSET/FINANCING Equivalent Conventional Products Ijarah (Leasing) Ijarah - Operating Ijarah Operating Lease

9 Example 2 STEPS DETAILS GST Analysis 1 Customer identifies asset for rental N/A Customer requests IB to acquire the identified asset to be leased IB purchases the asset from the Vendor (value = financing principal) Bank leases the asset to the Customer at an agreed rental rate and tenor (value = financing principal + profit) On maturity, no transfer of ownership of asset to the customer N/A - For operating lease, from GST purposes, the asset belongs to the bank. - Bank is entitled to input tax credit (FITR) - No input tax claim by customer Supply : Lease of asset (consideration = financing principal+profit = rental) - Standard Rate (unless the asset it zero rated/exempt/out-of-scope by the GST law) N/A

ASSET/FINANCING Equivalent Conventional Product

10 Example 3 Product Structure: Tawarruq (Commodity Murabahah) Category Islamic Concept Products ASSET/FINANCING Equivalent Conventional Product Commodity Trading Tawarruq Term Financing - i Term Loan

11 Example 3 STEPS DETAILS GST Analysis 1 Customer applies financing of N/A RM10K 2 IB buys commodity worth RM10K (principal) from Broker A 3 Broker A delivers RM10K worth of commodity. (1) Supply of Commodity - Exempt, unless there is physical delivery. - To be treated as commodity derivatives. (Exempt Supply Order Financial Services, Item 9 transfer of ownership of derivatives relating to commodities except for the settlement by way of physical delivery of commodities (2) Other commodity related expense (e.g. brokerage fee, bursa fees, etc.) Standard rated 4 IB sells commodity to customer on selling price on deferred basis (Value = Principal + Profit) (3) For the bank - full input tax credit on any GST incurred in these transactions Supply 1 : Commodity (consideration = financing principal) - Non supply (GST Act 2014 (Second Schedule), Item 5) Supply 2 : Provision of financing (consideration = profit) - Exempt (similar to interest for conventional)

12 Example 3 STEPS DETAILS Proposed GST Treatment (a) Customer appoint bank to sell the Same as step 2 & 3. commodity on their behalf (b) The customer sells commodity to Broker B (arranged by the bank) on 5 spot basis at RM10k (Value = Principal) 6 7 Broker B pays RM10k cash - Not relevant - This is the financing principal amount disbursed to customer Customer services his financing - Not relevant - This is the payment to the bank for Steps 4

13 Example 4 Product Structure : Credit Card-i (Ujrah) Category Islamic Concept Products Equivalent Conventional Product ASSET/FINANCING Agency Ujrah (Fee) Credit Card - i Credit Card 3 Merchant 4 Customer 2 5 Islamic Bank (IB) 1

14 Example 4 Credit Card : Ujrah Fee based services STEPS DETAILS GST Analysis 1 Customer applies for the Bank s Credit Card-i : i. Cardholder appoints the Bank to pay amount due to merchant resulted from his/her purchases (Wakalah) ii. The Bank guarantee payment to cardholder s purchases at merchant (Kafalah) N/A 2 Bank issues Credit Card-i to accommodate cardholder s purchases at merchants N/A 3 Cardholder make purchases at merchants using Bank s Credit Card-i N/A 4 Bank pays merchant for the amount transacted through its own funds (Qard) * For payment at overseas retail transaction, foreign current exchange contract (Bai al Sarf) applies N/A 5 Cardholder will make full payment based on the following options: i. Full payment ii. 5% of the outstanding amount Cardholder will pay Ujrah (e.g management fee) for the card facility. Actual Ujrah fee is calculated on daily rest basis imposed on the utilized card limit. (value = profit on principal) (1) Ujrah fee (i.e. management fee) = Exempt (profit in nature) (2) Other sevice fee (e.g. Annual fee) = Standard Rate The bank also charge other service fee (e.g. Annual fees) for the facility.

15 Appendix A : Exempt Financial Supplies Extracted from GST (Exempt Supply) Order 2014

16 Appendix A: Exempt Financial Supplies Extracted from GST (Exempt Supply) Order 2014

17 Appendix B: Zero-Rated Financial Supplies Extracted from GST (Zero-Rated Supply) Order 2014

18 Appendix B: Zero-Rated Financial Supplies Extracted from GST (Zero-Rated Supply) Order 2014

19 Appendix B: Zero-Rated Financial Supplies Extracted from GST (Zero-Rated Supply) Order 2014

20 Appendix C : Non-supply treatment for underlying supplies for Islamic Financial Arrangement Extracted from GST Act 2014 (Second Schedule), Item 5

21 Appendix D : Full Input Tax Credit for Islamic Financial Arrangement Extracted from GST Regulation 2014

Trim Size: 6in x 9in Kureshi ftoc.tex V2-12/10/2014 9:38am Page vii. Foreword. Acknowledgments. Product Offerings. Introduction 1

Trim Size: 6in x 9in Kureshi ftoc.tex V2-12/10/2014 9:38am Page vii Contents Foreword Preface Acknowledgments Product Offerings xv xvii xxi xxiii Introduction 1 CHAPTER 1 The Islamic Finance Space 5 Modern