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 Tax Issues in Islamic Finance* 26 October 2009 *connectedthinking Jennifer Chang, Senior Executive Director ITD Global Conference – Financial Institutions.

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Presentation on theme: " Tax Issues in Islamic Finance* 26 October 2009 *connectedthinking Jennifer Chang, Senior Executive Director ITD Global Conference – Financial Institutions."— Presentation transcript:

1  Tax Issues in Islamic Finance* 26 October 2009 *connectedthinking Jennifer Chang, Senior Executive Director ITD Global Conference – Financial Institutions and Instruments Tax Challenges and Solutions

2 Agenda Introduction Concepts of Islamic Finance Common Tax Issues in Islamic Finance Tax treatments in Various Jurisdictions Tax Treaty Issues Summary Appendix

3 Introduction

4 PricewaterhouseCoopersSlide 4 Principles of Islamic finance Application of Al Bay (trading & commerce) - Buying & selling is permissible Prohibition of haram transactions [e.g. Alcoholic beverages, Maisir (gambling), Dealing in interest (usufruct)] Prohibition of riba - means “an excess”. An increase or excess which accrues to the owner in an exchange or sale of a commodity, or, by virtue of a loan arrangement, without providing equivalent value to the other party. Perception of it being unjust and not being productive Prohibition of gharar (uncertainty) - Ambiguity and uncertainty in contract which leads to an unfair advantage to one party over another (i.e. insufficient information regarding the subject of a contract) Prohibition of maisir (speculation/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 Introduction

5 PricewaterhouseCoopersSlide 5 Tax is a hidden cost in any funding structure Potential tax liability and tax inefficiencies will affect any financing structure In Islamic Finance, due to the underlying asset within each transaction, tax neutrality as well as the tax treatment of profits need to be resolved Unlike Malaysia and most middle east countries, Islamic Finance instruments are relatively new in most other Asian jurisdictions Tax neutrality has been achieved in some countries such as Malaysia, UK and Singapore However, tax neutrality has not been sorted out in most Asian jurisdictions Introduction Importance of Tax Implications

6 Common Tax Issues in Islamic Finance

7 PricewaterhouseCoopersSlide 7 SPV Company A (2) Ijarah (Lease) (1) Sale of asset (1)Funds (1) Sukuk issuance Investors (2) Funds (2) Ijarah payments Example - Islamic bond issuance based on Ijarah (Leasing) Common Tax Issues in Islamic Finance Sukuk is issued based on asset being sold to the SPV who will leaseback the asset to the owner Due to the underlying disposal of asset and lease transaction, the tax issues are more complex compared to a conventional transaction

8 PricewaterhouseCoopersSlide 8 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 the 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 VAT or GST ? Example - Islamic bond issuance based on Ijarah (cont’d) Some common tax issues to consider Common Tax Issues in Islamic Finance

9 PricewaterhouseCoopersSlide 9 Due to the additional underlying asset transactions required for Syariah 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 (2) Asset repurchase / Ijarah (Lease) (2)Deferred consideration / Ijarah payments Common Tax Issues in Islamic Finance SPV Company A (1) Sale of asset (1) Funds (1) Sukuk issuance Investors (2) Funds Tax neutrality provisions

10 PricewaterhouseCoopersSlide 10 Example - Bai’ Bithaman Ajil (BBA) Financing-i Under BBA Home Financing-i, customer will enter into an agreement with the Bank to purchase commodity from the Bank on deferred instalment basis. Commodity purchased from the Bank will be sold to buyer and proceeds from the sale of commodity will be used to purchase a house. Below is a an illustration of mechanism involved for a Middle East style BBA: Supplier Bank Customer Flow of commodity Flow of funds Customer purchases commodity from Bank on deferred instalment basis ($150) Bank purchases commodity from Supplier ($100) Common Tax Issues in Islamic Finance 2 1

11 PricewaterhouseCoopersSlide 11 Would the Bank be seen to be buying and selling properties for tax purposes? What is the timing of the recognition of the profits to the Bank ? Would the customer be able to claim a tax deduction on the periodic profits paid to the bank (i.e. $150 - $100 = $50) ? Would there be additional or double stamp duty payable as a result of the underlying asset purchase and sale ? Would there be other taxes such as VAT or GST ? Example - Bai’ Bithaman Ajil (BBA) Financing-I (cont’d) Some common tax issues to consider Common Tax Issues in Islamic Finance

12 PricewaterhouseCoopersSlide 12 Treatment of Profits Tax neutrality would mean that the profits embedded in the installments paid by customer to the Bank is treated as “interest” for tax purposes Therefore, all tax rules relating to “interest”, such as interest tax deduction, withholding tax or exemptions will equally apply on the “profits” Stamp duty or VAT treatment would also need to be in line with conventional financing This ensures that Islamic financing is provided with the same treatment as conventional financing Common Tax Issues in Islamic Finance Supplier Bank Customer 1 2 Flow of commodity Flow of funds Customer purchases commodity from Bank on deferred instalment basis ($150) Bank purchases commodity from Supplier ($100) Tax Neutrality Purchased property which is charged to the Bank Islamic Financing

13 PricewaterhouseCoopersSlide 13 Tax Treatments in Various Jurisdictions

14 PricewaterhouseCoopersSlide 14 Global Trends Increasing linkages between OIC financial centres such as Kuala Lumpur, Dubai and Bahrain UK - Tax neutrality announced in Early 2007, the UK government announced legislation in Finance Bill 2007 to facilitate the UK issuance and trading of Sukuk. Singapore - removal of double stamp duty hit on Murabaha and Ijara contracts; tax incentives granted to qualifying debt securities extended to approved Islamic bonds; no stamp duty on the transfer of asset to SPV set up for Islamic Financing purposes Hong Kong - 2 MOUs signed by Hong Kong Monetary Authority (HKMA) with Bank Negara Malaysia and Dubai International Financial Centre Authority (DIFC Authority) - Sept 09, and May 08 respectively aimed at fostering co-operation in the development of Sharia-compliant financial products and the financial infrastructures More interest being shown by other Asian countries such as Japan, Korea, China, Thailand and Australia in Capital Markets products Tax Treatments in Various Jurisdictions

15 PricewaterhouseCoopersSlide 15 Ijarah Structure 1. Purchase of assets 1a Investors SPV Sukuk 2.Lease of assets 3. Sale / Purchase undertaking Company in country Differing Tax Treatments in Various Asian Jurisdictions

16 PricewaterhouseCoopersSlide 16 Tax neutrality rules exist in Malaysia and has been drafted into the tax legislation “Profit” portion will be treated as “interest” for tax purposes So long as transaction has been approved by Bank Negara or Securities Commission, the underlying disposal or lease are ignored for tax purposes (i.e. tax neutrality rules) No stamp duty as this is a bond issuance structure Issuance cost of sukuk will be tax deductible Malaysian Tax Impact Ijarah Structure (cont’d) Differing Tax Treatments in Various Asian Jurisdictions

17 PricewaterhouseCoopersSlide 17 Generally there is a policy to achieve tax equality between approved Islamic products and equivalent conventional financing arrangements Removal of double stamp duty hit on Ijara contracts Tax incentives granted to qualifying debt securities extended to approved Islamic bonds No stamp duty on the transfer of asset to SPV set up for Islamic Financing purposes Singapore Tax considerations Ijarah Structure (cont’d) Differing Tax Treatments in Various Asian Jurisdictions

18 PricewaterhouseCoopersSlide 18 Ijarah Structure (cont’d) Hong Kong Tax considerations No specific legislation on Islamic Finance, hence need to rely on general tax provisions Tax treatment follows legal form of the contract and follows transaction economics ? Uncertainty on whether “profit” payment by SPV to investors will be regarded as interest expense or profit distribution ? “Profit” received by investors regarded as interest income or investment return? Is SPV entitled to depreciation allowance on the asset? Taxability of lease rental received from Company ? Conclusion:- There is a need enact specific legislation for Islamic Finance to achieve tax certainty and neutrality Differing Tax Treatments in Various Asian Jurisdictions

19 PricewaterhouseCoopersSlide 19 Is this a financial transaction or transfer of goods and services ? There is still lack of regulations related to Islamic Finance although several private rulings have been issued Rental payments on Ijarah financing fall under the category of “interest” for withholding tax purposes VAT treatment based on Sovereign Sukuk Law:- –Transfer assets from the government to SPV and vice versa subject to VAT of 10% –Income received by investor from the issuance of sukuk is not categorised as interest but as rental income subject to 10% VAT If Central Bank can confirm Islamic Finance transaction as “financing”, the DG of Taxes shall view no VAT of 10%. Indonesian Tax considerations Differing Tax Treatments in Various Asian Jurisdictions Ijarah Structure (cont’d)

20 PricewaterhouseCoopersSlide 20 No specific tax rules for Islamic financing Certain sale and leaseback transactions treated as financing from buyer and seller of leased asset Therefore, if the Islamic financing falls within these rules then it can be deemed as financing transaction for Japanese tax purposes If cross border transaction, Japanese withholding tax may arise For certainly, would require specific legislation changes or confirmation Japan Tax considerations Ijarah Structure (cont’d) Differing Tax Treatments in Various Asian Jurisdictions

21 PricewaterhouseCoopersSlide 21 No specific tax legislation on Islamic Finance. Tax treatment follows legal form of the transactions, resulting in: - High tax costs due to double transfers - Withholding tax and VAT on lease payments - Recoverability of VAT by SPV Policy of Ministry of Finance is to achieve tax neutrality between sukuk and conventional debt securities. The working committee for this purpose has been appointed Principle is agreed that tax packages for neutrality will be applied to SEC- approved sukuk Tax packages will be discussed in detail once SEC finishes conditions for approval of sukuk Thailand Tax considerations Ijarah Structure (cont’d) Differing Tax Treatments in Various Asian Jurisdictions

22 PricewaterhouseCoopersSlide 22 Tax Treaties

23 PricewaterhouseCoopersSlide 23 Example – Thai company issuing Sukuks in Malaysia If the asset is a property in Thailand, apart from the tax issues in Thailand for the sale and leasback of asset, would we refer to Article 11 on “Interest” or Article 16 on “Income from Immovable Property” for tax treaty purposes ? Tax Treaties Malaysia SPV Thai Company (2) Ijarah (Lease) (1) Sale of asset (1)Funds (1)Sukuk issuance Investors (2) Funds (2) Ijarah payments

24 PricewaterhouseCoopersSlide 24 Example – Malaysia / Thailand tax treaty ARTICLE 11 INTEREST 1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other Contracting State. 2. However, (a) interest arising in Thailand may be taxed according to the laws of Thailand, but if the recipient is a resident of Malaysia, the tax so charged shall not exceed: (i) 10 per cent of the gross amount of the interest if it is received by any financial institution (including an insurance company); (ii) in all other cases, 25 per cent of the gross amount of the interest; (b) interest arising in Malaysia may be taxed according to the laws of Malaysia, but if the recipient is a resident of Thailand, the tax so charged shall not exceed 15 per cent of the gross amount of the interest. 8. The term "interest" as used in this Article means income from debt-claims of every kind, whether or not secured by mortgage, and whether or not carrying a right to participate in the debtor's profits, and in particular, income from government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures, as well as income assimilated to income from money lent by the taxation laws of the Contracting State in which the income arises. Tax Treaties

25 PricewaterhouseCoopersSlide 25 Example – Malaysia / Thailand tax treaty ARTICLE 6 INCOME FROM IMMOVABLE PROPERTY 1. Income from immovable property may be taxed in the Contractihg State in which such property is situated. 2. For the purposes of this Agreement, the term "immovable ptoperty" shall be defined in accordance with the laws of the Contracting State in which the property in question is situated. The term shall in any case include property accessory to immovable property, livestock and equipment used in agriculture and forestry, rights to which the provisions of general law respecting landed property apply, usufruct of immovable property and rights to variable or fixed payments as consideration for the working of or the right to work, mineral deposits, oil or gas wells, quarries and other places of extraction of natural resources including timber or other forest produce. Ships, boats and aircraft shall not be regarded as immovable property. 3. The provisions of paragraph 1 shall apply to income derived from the direct use, letting, or use in any other form of immovable property. 4. The provisions of paragraphs 1 and 3 shall also apply to the income from immovable property of an enterprise and to income from immovable property used for the performance of professional services or other independent activities. Tax Treaties

26 PricewaterhouseCoopersSlide 26 Korea has recently announced that legislative changes will be made to ensure tax neutrality is provided to facilitate Islamic Bonds to be issued (2) Ijarah (Lease) (1)Sale of asset (1)Funds (1) Sukuk issuance (2) Funds (2) Ijarah payments Example – Korean company issuing Sukuks in Malaysia Tax Treaties 100% Malaysia SPV Korean Company Investors

27 PricewaterhouseCoopersSlide 27 Korean domestic entity is not allowed to issued Sukuk in Korea due to lack of legal infrastructure Only Sukuk issued by an offshore SPV set up by a Korean domestic entity is covered by the proposed Korean IF tax regime Sukuk Ijarah –Underlying cash flow (rental payment) from the Korean domestic entity to the offshore SPV is characterized as interest eligible for tax exemption –No VAT on rental payment and no VAT/capital gains tax in respect of the transfer of the underlying asset by the Korean entity to the offshore SPV –The original owner of the underlying asset (the Korean domestic company) claims capital allowance for the underlying assets (tax deduction for depreciation expense is available to the original owner) No Korean stamp duties (no acquisition/registration taxes) upon transfer of the underlying asset Korea Tax considerations Example – Korean company issuing Sukuks in Malaysia Tax Treaties

28 PricewaterhouseCoopersSlide 28 Example – Malaysia / Korea tax treaty ARTICLE 11 INTEREST 1.Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. 2.However, such interest may be taxed in the Contracting State in which it arises, and according to the laws of that State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed 15 per cent of the gross amount of the interest. 3.Notwithstanding the provisions of paragraph 2, interest paid or credited to a resident of Korea carrying on business of banking by a person licensed to carry on banking business in Malaysia, or on an approved loan or a long-term loan shall be exempt from Malaysian tax. 4.The term "interest" as used in this Article means income from Government securities, bonds or debentures, whether or not secured by mortgage and whether or not carrying a right to participate in profits, and debt-claims of every kind as well as all other income assimilated, to income from money lent according to the taxation laws of the Contracting State in which the income arises. Appendix - Concepts of Islamic products

29 PricewaterhouseCoopersSlide 29 Summary

30 PricewaterhouseCoopersSlide 30 Summary Sale of asset may trigger capital gains tax or VAT in certain countries In some countries, stamp duty for the acquirer could also be an issue How would leaseback be treated - Lease payments ? Or would whole transaction be seen as financing ? In some countries (i.e. HK, Malaysia, Singapore), there will be zero withholding tax on approved bonds but for most other Asian countries, there will still be withholding tax on interest on bonds Even if the SPV is in Malaysia where all the tax incentives are available, there is still a need to resolve the potential issue of taxes in each country should there be a “sale of asset” or returns relating to assets located in each country Korea has proposed changes to legislation which will facilitate issuance of Islamic Bonds based on Ijarah and Murabahah There is therefore a need for tax certainty for Islamic Finance in each country as well as tax treaties Summary

31 PricewaterhouseCoopers © 2009 PricewaterhouseCoopers. All rights reserved. “PricewaterhouseCoopers” refers to the network of member firms of PricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity. *connectedthinking is a trademark of PricewaterhouseCoopers.  Jennifer Chang Senior Executive Director Level 10, 1 Sentral Jalan Travers Kuala Lumpur Sentral Kuala Lumpur Malaysia Phone:- +(603) 2173 – Ornjira Tangwongyodying / Orawan Fongasira Partner / Director PricewaterhouseCoopers Thailand 15 th Floor Bangkok City Tower 179/74-80 South Sathorn Road Bangkok Thailand Phone:- +(662) 344 – Ornjira Tangwongyodying / Orawan Fongasira Partner / Director PricewaterhouseCoopers Thailand 15 th Floor Bangkok City Tower 179/74-80 South Sathorn Road Bangkok Thailand Phone:- +(662) 344 – Margie Margaret Partner PricewaterhouseCoopers Indonesia Jl. H.R. Rasuna Said Kav. X-7 No.6 Jakarta INDONESIA Telephone , (direct) Facsimile / , (direct) Mobile Margie Margaret Partner PricewaterhouseCoopers Indonesia Jl. H.R. Rasuna Said Kav. X-7 No.6 Jakarta INDONESIA Telephone , (direct) Facsimile / , (direct) Mobile David Sandison Partner PricewaterhouseCoopers Singapore Tel: (65) Fax: (65) David Sandison Partner PricewaterhouseCoopers Singapore Tel: (65) Fax: (65) Florence Yip / David Kan Partner / Director PricewaterhouseCoopers Hong Kong 21/F Edinburgh Tower, 15 Queen's Road Central, Hong Kong tel mobile Florence Yip / David Kan Partner / Director PricewaterhouseCoopers Hong Kong 21/F Edinburgh Tower, 15 Queen's Road Central, Hong Kong tel mobile Kyu-Dong Kim Senior Manager 15 th Floor LS Yongsan Tower 191, Hangangro 2-ga, Yongsan-gu Seoul, South Korea Phone: +(822) Kyu-Dong Kim Senior Manager 15 th Floor LS Yongsan Tower 191, Hangangro 2-ga, Yongsan-gu Seoul, South Korea Phone: +(822) Stuart Porter / Nobuyuki Saiki Partner / Senior Manager PricewaterhouseCoopers Japan Kasumigaseki Bldg. 15F 2-5, Kasumigaseki 3-chome Chiyoda-ku, Tokyo Phone: Stuart Porter / Nobuyuki Saiki Partner / Senior Manager PricewaterhouseCoopers Japan Kasumigaseki Bldg. 15F 2-5, Kasumigaseki 3-chome Chiyoda-ku, Tokyo Phone: Matthew Wong Partner PricewaterhouseCoopers China 1/F PricewaterhouseCoopers Center 202 Hu Bin Road Shanghai , PRC Phone: Matthew Wong Partner PricewaterhouseCoopers China 1/F PricewaterhouseCoopers Center 202 Hu Bin Road Shanghai , PRC Phone: Contacts

32 PricewaterhouseCoopers June 2009 Slide 32 Appendix – Concepts of Islamic Products

33 PricewaterhouseCoopers June 2009 Slide 33 Principles of Islamic finance Principle 1Application of Al Bay (trading & commerce) DefinitionTo receive something & to give something Concept Buying & selling is permissible – textual evidences from the Quran & the Sunnah Principle 2Prohibition of haram transactions Definition Haram transactions in Islamic law (Shariah) refer to trading goods and services that are sinful and prohibited in Islam Concept Alcoholic beverages Maisir (gambling) Dealing in interest (usufruct) Immoral services Appendix - Concepts of Islamic products

34 PricewaterhouseCoopers June 2009 Slide 34 Principles of Islamic finance Principle 3Prohibition of riba Definition Riba means “an excess”. It is defined as an increase or excess which accrues to the owner in an exchange or sale of a commodity, or, by virtue of a loan arrangement, without providing equivalent value to the other party. Perception of it being unjust and not being productive. Concept Can be divided in two namely:- i.Riba’ Al-Duyun’ which arises from debts or financing (i.e. late payment) ii.Riba’ Al-Buyu’ - due to differences in quantity, quality or time (i.e. fixing in advance of return on financing as a reward for waiting is prohibited) Appendix - Concepts of Islamic products

35 PricewaterhouseCoopers June 2009 Slide 35 Principles of Islamic finance Principle 4Prohibition of gharar (uncertainty) Definition Ambiguity and uncertainty in contract which leads to an unfair advantage to one party over another (i.e. insufficient information regarding the subject of a contract) Concept Shariah considers uncertainty on the following:- - Quantity - Recoverability - Quality - Existence of the subject matter To promote the principle of fairness and justice Eliminate activities which are based on pure speculation and gambling Encourage due diligence before committing Appendix - Concepts of Islamic products

36 PricewaterhouseCoopers June 2009 Slide 36 Principles of Islamic finance Principle 5Prohibition of maisir (speculation/gambling) DefinitionRefers to luck or chance Concept 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 Diverts attention from productive occupation Immoral incentive to make profit at the expense of another party Prohibited to have any relationship including participating, investing or financing with business related with gambling Appendix - Concepts of Islamic products

37 PricewaterhouseCoopers June 2009 Slide 37 Islamic Product Concepts Some of the more common product concepts:- MurabahahTrade with mark-up or cost-plus sale SalamAdvance purchase Istisna’Purchase order IjarahLeasing MudharabahProfit-sharing, loss borne by capital provider MusharakahJoint-venture Bai Bithaman Ajil “BBA”Deferred payment sale Appendix - Concepts of Islamic products

38 PricewaterhouseCoopers June 2009 Slide 38 Murabahah (Trade with mark-up or cost-plus sale) An agreement made whereby the Islamic Financial Institutions (IFIs) sell to customers a specified kind of asset that is already in its possession The selling price being acquisition cost (purchase price plus other direct costs) plus an agreed profit margin In Murabahah for Purchase Orderer (MPO) arrangement, the IFIs will purchase and acquire assets as specified by the customer This is based on a PP (promise to purchase) by the customer which can be a binding or non-binding PP (depending on the documentations) This asset will later be sold to the customer at cost-plus Appendix - Concepts of Islamic products

39 PricewaterhouseCoopers June 2009 Slide 39 Salam (advance purchase) It refers to an agreement to purchase, at a predetermined price, a specified kind of commodity* which is to be delivered on a specified future date in a specified quantity and quality. IFIs as the buyer make full payment of the purchase price upon execution of a Salam contract. More often, IFIs enter into a back-to-back contract, namely Parallel Salam. This refers to selling a commodity with the same specification as the purchased commodity under a Salam contract to a party other than the original seller. It allows the IFIs to sell the commodity for future delivery at a predetermined price (thus hedging the price risk on the original Salam contract) and protects the IFIs from having to take delivery of the commodity and warehousing it. Appendix - Concepts of Islamic products *A commodity is defined as a physical product which is and can be traded on a secondary market, e.g. agricultural products, minerals (including oil) and precious metals (excluding gold and silver).

40 PricewaterhouseCoopers June 2009 Slide 40 Istisna’ (Purchase order) An agreement to sell to or buy from a customer a non-existent asset which is to be manufactured or built according to the ultimate buyer’s specifications and is to be delivered on a specified future date at a predetermined selling price. IFIs as the seller have the option to manufacture or build the asset on its own or to engage the services of a party other than the Istisna’ ultimate buyer as supplier or subcontractor, by entering into a Parallel Istisna’ contract. Appendix - Concepts of Islamic products

41 PricewaterhouseCoopers June 2009 Slide 41 Ijarah & Ijarah Muntahia Bittamleek – (Leasing) The lessor (IFIs) maintain ownership in the leased asset whilst transferring the right to use the asset, or usufruct, to a lessee, for an agreed period at an agreed consideration In an Ijarah Muntahia Bittamleek contract, the lessor (IFIs) promise to transfer the asset’s ownership to the lessee at the end of the contract The IFIs can also enter into the contract based on specific description of an asset to be leased and acquired in the future before it is delivered to the lessee. This agreement to lease may be considered as binding (binding promise to lease) or as non-binding Appendix - Concepts of Islamic products

42 PricewaterhouseCoopers June 2009 Slide 42 Mudharabah (Profit-sharing, loss borne by capital provider) IFI would contribute capital to an enterprise or activity which is to be managed by the customer as the (labour provider or) Mudarib. Profits generated by that enterprise or activity are shared in accordance with the terms of the Mudharabah agreement. Losses are to be borne solely by the IFI unless the losses are due to the Mudarib’s misconduct, negligence or breach of contracted terms. Types: -a restricted basis - capital provider allows the Mudarib to make investments subject to specified investment criteria or certain restrictions such as types of instrument, sector or country exposures; or -an unrestricted basis, where the capital provider allows the Mudarib to invest funds freely based on the latter’s skills and expertise. Appendix - Concepts of Islamic products

43 PricewaterhouseCoopers June 2009 Slide 43 Musharakah & Diminishing Musharakah (Joint-venture) A JV agreement between the IFI and the customer to contribute capital in various proportions to an enterprise, whether existing or new, or to ownership of a real estate or moveable asset. Profits generated by that enterprise or real estate/asset are shared in accordance with the terms of Musharakah agreement Losses are shared in proportion to the respective contributor’s share of capital. Types:- -Musharakah - all the partners' share remain constant throughout the contract period; and -Diminishing Musharakah - the share of the IFI shall be gradually reduced during the tenure of the contract until it is fully sold to the other partner(s). Appendix - Concepts of Islamic products

44 PricewaterhouseCoopers June 2009 Slide 44 Bai Bithaman Ajil “BBA” (Deferred payment sale) Similar to Murabahah whereby the sale of goods is on a deferred payment basis at a price. It includes a profit margin agreed by both parties. However, the difference is that Bai Bithaman Ajil is generally used for long term financing. Appendix - Concepts of Islamic products


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