TAX TREATMENT

ON ISLAMIC
FINANCE
in Malaysia
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Contents
Page
Glossary 2

Overview of Islamic Finance 5

Differences between Conventional and Islamic 7

Finance Transactions - Examples

Islamic Finance Transactions: Financial Reporting 10

Standards in Malaysia

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 20

Support the Growth of Islamic Finance Industry
 Glossary
Bai’ A ‘sale’ or contract of sale. It sometimes precedes another term
used to denote various sales-based modes of Islamic finance such
as Murabahah, Istisna’ and Salam.

Bai’ Bithaman Ajil (BBA) A sale where payment of the consideration is deferred, either in
or cost plus profit margin instalments over a specified period or in full on a specified date.
financing contract 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
at a marked up deferred price;
• 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’ An Ijarah contract with an undertaking by the lessor to sell the Ijarah
(also called Ijarah item to the lessee and/or an undertaking by the lessee to purchase
WaIqtina) the Ijarah item by, or at the end of the Ijarah period.
[Ijarah= lease; thumma= then; al Bai’= a sale]

Ijarah Muntahia An Ijarah or equivalent to a hire–purchase contract accompanied

Bittamleek (Financial with an arrangement to transfer the Ijarah item from the lessor to
Leases) the lessee through either a gift or a sale by, at the end of the Ijarah
period.
[Ijarah means lease; muntahia refers to as ending whereas Bittamleek
means with ownership]

Tax Treatment on
Islamic Finance in Malaysia
2
 Glossary (continued)
Istisna’ (manufacture- A sale in which the subject is an item that has yet to be fabricated,
sale) 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 the

principal debtor in respect to the demand for something [debt;
compensation]. For example: If someone has a debt, another
person is wishing to give guarantee of the debt; the first person is
called “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 (profit A form of partnership between a party which contributes capital

sharing) (rabb al-mal i.e. capital provider) and another which contributes
effort, managerial and/or entrepreneurial skills (mudarib i.e.
manager/entrepreneur). Profit from the outcome of the venture is
shared between the capital provider and manager/ entrepreneur
according to a mutually agreed profit sharing ratio, while losses are
borne solely by the capital provider, provided such loss is not due to
the manager’s/ entrepreneur’s negligence or violation of specified
conditions.

Murabahah financing A sale based on trust, in which the seller must disclose to the
contract 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-term financing. Payment can be made by lump sum or by
instalment.

Musharakah (Joint A form of partnership where partners contribute capital in cash or in

venture) kind, and share profits according to an agreed profit-sharing ratio,
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 A benevolent “interest-free” loan in conventional finance. In Shariah,

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.

Tax Treatment on
Islamic Finance in Malaysia
3
 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) Covers any return of money on money, whether the interest is fixed
or floating, simple or compounded and at whatever rate. Such gain
is prohibited.

Salam (deferred A sale in which payment is made immediately while goods are
delivery) delivered at an agreed later date. It is equivalent to an advance
payment. It was originally created to provide financing for farmers.

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

Special Purpose A separate subsidiary company set up to contain investments. Such

Vehicles (SPV) 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
or their beneficiaries on the concurrence of pre-agreed events.

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
specified categories of beneficiaries.

Tax Treatment on
Islamic Finance in Malaysia
4
 Overview of Islamic Finance
This 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?

In simple term, it is a form of finance that is based on Shariah or the body of Islamic law. It offers a way
of conducting financial transactions which is Shariah-compliant and according to certain defined
ethical 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 is
encouraged).

In ensuring Shariah-compliant, five key principles are strictly observed:

1 5
Financing is
Belief in divine Key Principles of based on real
guidance Islamic Finance assets

2 4

3 Risk sharing is
No interest can
be charged encouraged
No haram
investments

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

In certain circumstances, it may be similar

to conventional financial products but the
fundamental principles remain different. For Riba
instance, every Shariah-compliant financial (interest)
transaction 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,
Maysir Gharar
liquor and arms trades. (gambling) (uncertainty)

Tax Treatment on
Islamic Finance in Malaysia
5
 Islamic Finance Transactions
Commonly, Islamic financial transactions involve the following:

Islamic Financial Transactions

Sale-based Profit-sharing Lease-based Fee-based Free-of- Supporting

Principles Principles Principles Principles charge Contract /
Principles Security
Bai (Sales) Equity-based Debt-based • Wakalah • Qard • Kafalah
Bai-Salam financing financing (agency) Hassan • Rahnu
Istisna • Mudarabah Ijarah • Jualah • Hiwalah
Debt-based • Musharakah (leasing) (commission)
financing • Operating
• BBA • Financial
• Murabahah

The above diagram is generally some common types of Islamic finance contract. For a contract1 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. There is offer and acceptance by both parties (i.e. seller or buyer or vice versa) on the purpose
and terms of the contract;

3. The purpose of the contract must not be haram (forbidden) or offensive to Shariah; and

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

BBA, Murabahah and Ijarah are the most common type of debt-based financing contract whereas
Mudarabah and Musharakah are the equity-based financing contract which are less popular as the
former is in a way similar with the conventional financing and due to familiarity.

A Mudarabah financing contract is where the bank only provides capital to the lender for a project
based on a profit-sharing ratio. If profits are generated, the profits are distributed according to the
pre-agreed profit-sharing ratio whereas, any losses are entirely absorbed by the bank. Under a
Musharakah financing contract, the bank and the lender will become joint-venture partners where
both parties will contribute capital and decide on a profit-sharing agreement.

In our Malaysia jurisdiction, the Islamic finance services that are available would be savings/
transactional accounts, consumer finance, corporate finance, investment banking, corporate sukuk
issuances, 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
any particular thing. It is legally-enforceable by the law where the agreement was made and upon fulfilment of
certain conditions.

Tax Treatment on
Islamic Finance in Malaysia
6
 Differences between Conventional and
Islamic Finance Transactions - Examples
This table show some of self-explanatory differences between the Shariah-compliant financing
transactions and products compared to common conventional financial instruments are as follows:
CONVENTIONAL
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.
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.
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 leases
a) The lessee has the option to purchase
the asset at the end of the lease.
b) The ownership of the asset
transferred to the lessee at the end
of the lease term.
Tax Treatment on
Islamic Finance in Malaysia
SHARIAH-COMPLIANT
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
This 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.
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
and fixed at the start of the contract for
the whole duration of the lease.
• The lease begins only when the leased
asset is delivered to the lessee ant not at
is the point when payment is made or the
lease contract is signed.
7
 Differences between Conventional and
Islamic Finance Transactions - Examples
(continued)

CONVENTIONAL SHARIAH-COMPLIANT

Types:
1. Operating lease
• In an Ijarah agreement, a bank
or financier buys a property for a
customer and then leases it to him
over a specified period, thus earning
profits to the bank by charging
rentals. 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
by means of a sale; also called ijara
wa 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; in
other 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.

Tax Treatment on
Islamic Finance in Malaysia
8
 Differences between Conventional and
Islamic Finance Transactions - Examples
(continued)

CONVENTIONAL SHARIAH-COMPLIANT

Conventional Insurance Islamic insurance or Takaful

Conventional insurance is associated with It is an arrangement by a group of people

riba and major gharar, both of which are who have the desire to protect each
forbidden by Islamic principles, for instance: other from defined risks and mishaps, by
• shareholders own the insurance contributing to a pool of money out of their
company. The objective is to maximise own resources.
profits.
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-sharing
arrangement;
• Insurance based Wakalah (agency)
means that the policyholders appoint
the insurance operator as an agent to
operate the insurance scheme at a fee
and does not share in the profits;
• Takaful products can also run on tabarru’
(donation) or non-profit basis or;
• A hybrid of profit- sharing and agency.

Tax Treatment on
Islamic Finance in Malaysia
9
 Islamic Finance Transactions: Financial
Reporting Standards in Malaysia
In view of the rapid acceptance of
Islamic finance in the global market
and 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 urgent
need to address issues on accounting
and financial accounting, auditing
and 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
MASB approved accounting standards. Thus, MASB has not approved AAOIFI financial accounting
standards 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 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. 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.

Tax Treatment on
Islamic Finance in Malaysia
10
 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.

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-1 serves to inform that MASB approved accounting standards shall apply to Islamic financial
transactions, 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
Islamic financial institutions.

• 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
the adequacy and appropriateness of proposed and existing IFRS to Islamic financial transactions
and 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.

Tax Treatment on
Islamic Finance in Malaysia
11
 Malaysian Tax Legislation
Generally, there is no specific tax legislation governing Islamic financial instruments. However the
Income Tax Act 1967 (the Act) has made certain provisions on Islamic transactions as identified
below:

SECTION PROVISION IN THE 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.

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.

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.

Tax Treatment on
Islamic Finance in Malaysia
12
 Malaysian Tax Legislation (continued)
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 compared with the conventional
financing transactions.

The identified stamp duty exemption orders are:

STAMP DUTY EXEMPTION

DESCRIPTION
ORDER

Stamp Duty (Exemption) Exempted from stamp duty on all instruments of Al-Ijarah Head
(No. 8) Order 2000 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.

Stamp Duty (Exemption) All instruments of the Asset Sale Agreement or the Asset Purchase
(No. 9) Order 2000 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.

Stamp Duty (Exemption) Exempted from stamp duty on all instruments of the Bai Inah Sale
(No. 38) Order 2002 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

• the Banking and Financial Institutions Act 1989;
• the Islamic Banking Act 1983;
• development financial institutions supervised under Section 2
of the Development Financial Institutions Act 2002; or
• any institution approved by the Central Bank of Malaysia.

Stamp Duty (Exemption) All instruments executed between a customer and a financier
(No. 2) Order 2004 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.

Stamp Duty (Exemption) All instruments made by any financier which relate to purchase of
(No. 3) Order 2004 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.

Tax Treatment on
Islamic Finance in Malaysia
13
 Tax Neutrality
In a nutshell, for Islamic finance transactions, due to the underlying asset within each transaction,
tax neutrality as well as the tax treatment of profits need to be resolved as tax issues tend to arise in
most countries.

Tax neutrality is a form of tax incentives whereby a relief is given to the tax charges that was supposed
to be imposed onto the Islamic financial transactions.

In fact, Malaysia was among the first country to accord tax neutrality to Islamic finance instruments
and transactions to reduce cost of transferring assets in Islamic finance. This measure has promoted
a level playing field between conventional and Islamic financial products.

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
enables Islamic financing to continue without any tax issue relating to asset transfer or lease, as such
placing the Islamic financing on the same footing as conventional financing.

Approval for the Islamic financing has to be granted by the relevant authorities namely Bank Negara
Malaysia, Securities Commission and the Labuan Financial Services Authority.

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

No Tax Neutrality Tax Neutrality

Disposal of assets/ properties may Underlying disposal of the assets/ properties required for
be subject to income tax or capital Islamic transactions will be disregarded for income tax
gains 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 Stamp duty exemption on the underlying sale and
leaseback of assets/ properties. disposal of assets/ properties will mean that no
additional stamp duty will be applicable compared to
a conventional transaction.

Uncertainty in respect of what Profit element will be treated as “interest” for tax
a company can take as a tax purposes. Tax deductibility on expenses incurred
deduction. 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 treatment
compared to conventional finance. Otherwise, Islamic finance will not be attractive or competitive
compared to conventional finance.

Tax Treatment on
Islamic Finance in Malaysia
14
 Government’s Initiatives towards Islamic
Finance
The Malaysian
Government has taken
up various steps and
initiatives to facilitate the
transition of Malaysia to
become an international
Islamic hub; well
supported with a vibrant
and comprehensive
Islamic financial system
that includes major
international and
domestic financial
institutions.

For instance, the

establishment of the
Malaysia International
Islamic Financial Centre
(MIFC) in year 2006 was
aimed at promoting
Malaysia as a key global
player in Islamic finance
which offers extensive
knowledge and practical
experience in Islamic
finance. Besides MIFC, the
establishment of Islamic
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
of making Malaysia the leading centre for Islamic finance education and developing human capital
for the global Islamic finance industry.

In addition, the International Shariah Research Academy for Islamic Finance (ISRA) was established
in year 2008 to promote applied research in the areas of Shariah and Islamic finance.

Tax Treatment on
Islamic Finance in Malaysia
15
 Tax Incentives
Undoubtedly, tax incentives are clearly an important aspect in developing and promoting the
Islamic financial market.

Basically, tax incentives can be broadly categorised into:-

a. Tax incentives to diversified players such as Banking, Takaful and Fund Management

b. Tax incentives to facilitate Islamic finance transactions in Malaysia

c. Tax incentives on Expertise

A wide range of tax incentives across the Islamic finance spectrum in promoting Malaysia as an
international Islamic financial centre are identified below (which are not exhaustive):

Tax Incentives Notes

Tax exemption • Tax exemption of 100% from Year of Assessment (YA) 2007 to YA 2016
of Islamic banks for Islamic banks and Islamic banking units licensed under the Islamic
and takaful Banking Act 1983 on income derived from Islamic banking business
companies conducted in international currencies, including transactions with
transacted in Malaysian residents; and
international • Tax exemption of 100% from YA 2007 to YA 2016 for takaful companies
currencies and 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 Interest income (other than such interest accruing to a place of business in
withholding tax Malaysia) received by non-residents from financial institutions established
under the Islamic Banking Act 1983, or any other financial institutions approved
by the Minister of Finance are exempted from tax.
Profits paid in respect of Islamic securities/ debentures issued in Ringgit
Malaysia, 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-Ringgit
Islamic securities to residents are also exempted if approved by SC or Labuan
FSA.

Exemption of Chargeable gains accrued on the disposal of any chargeable assets in

Real Property relation to the issuance of private debt securities under Islamic principles are
Gains Tax exempted from RPGT.
(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.

Tax Treatment on
Islamic Finance in Malaysia
16
 Tax Incentives (continued)

Tax Incentives Notes

Personal tax Tax relief not exceeding RM5,000 per annum is also provided on Islamic
relief finance courses approved by Bank Negara Malaysia (BNM)or SC at local
institutions of higher learning including INCEIF.

I s s u a n c e Tax deduction on expenses incurred on the issuance of Islamic securities

of Islamic based on principles of Mudharabah, Musharakah, Ijarah, Istisna’ and other
securities Islamic securities approved by SC or Labuan FSA up to YA 2015.

Exemption of Further extension of stamp duty exemption of 20% on instruments of Islamic

Stamp Duty financing products approved by the SAC of BNM or SC up to 31 December
2015.

100% stamp duty exemption up to 31 December 2016 on foreign currency

instruments executed by International Currency Islamic financial institutions.

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
received by SC before 31 December 2015.
• Special purpose vehicles (SPV) established under the Companies Act
1965 or Offshore Companies Act 1990 which elects to be taxed under the
Income Tax Act 1967, solely to channel funds for the purposes of issuance
of 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
extended until YA 2015.

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,
expenses directly incurred for participating in an event or events verified by MIFC secretariat i.e. a secretariat
established by Bank Negara pursuant to the MIFC initiatives; accommodation expenses up to RM300 per day and
sustenance expenses up to RM150 per day for company representatives who travel overseas for business; cost of
maintaining sales offices overseas as approved by MIFC secretariat and publicity and advertisement expenses in
any 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 Treatment on
Islamic Finance in Malaysia
17
 Common Practical Tax Issues - Example
Islamic bond issuance based on Sukuk Ijarah (Leasing)
1) Funds

1) Sale of Asset 2) Sukuk Issuance

Company SPV
A Investors
2) Ijarah (Lease) 2) Funds

2) Ijarah Payments [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)?
• Would tax incentives be affected by an Islamic financing structure due to disposal of assets?
• Would there be additional or double stamp duty payable as a result of the underlying asset
transfer?
• Would “profits” on such Islamic Finance transactions be tax deductible?
• Would there be other taxes such as Value Added Tax (VAT) or Goods and Services Tax (GST)?

Tax Neutrality Provisions

1) Funds

1) Sale of Asset 2) Sukuk Issuance

Company SPV
A Investors
2) Asset repurchase / 2) Funds
Ijarah (Lease)

2) Deferred consideration / Ijarah Payments

[Source: PricewaterhouseCoopers]
• Due to the additional underlying asset transactions required for Shariah financing, tax neutrality
rules 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. Tax Treatment on
Islamic Finance in Malaysia
18
 Malaysian Institute of Accountants (MIA)’s
Initiatives to Support the Growth of Islamic
Finance Industry
MIA 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
this area through collaborations and sharing of findings with stakeholders. Specifically, MIA engaged
with 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
practical and useful guidance will be issued which will enhance the efficiency of the Islamic Finance
market.

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,
MIA would identify suitable courses that could be offered for the benefit of members. This initiative is
aimed 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.

Tax Treatment on
Islamic Finance in Malaysia
19
 References

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

Bhupalan, R., 2009. An Introduction to Islamic Finance and the Malaysian Experience. [online]
Available at <http://www.taxand.com.my> [Accessed 30 August 2012]

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> [Accessed 30 August 2012]

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.

Tax Treatment on
Islamic Finance in Malaysia
20
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 Akauntan
No. 2, Jalan Tun Sambanthan 3
Brickfields, 50470 Kuala Lumpur
Malaysia
[phone] +603 2279 9200 [fax] +603 2274 1316
[web] www.mia.org.my [email] technical@mia.org.my