Gerry Thornton

In a step aimed at promoting Ireland as a centre for Islamic finance, Ireland has recently confirmed the Irish tax treatment of Shari'a-compliant financial products. Ireland is already a leading financial services jurisdiction and this certainty of tax treatment for Shari'a-compliant products should further enhance Ireland's international reputation as one of the most attractive jurisdictions for alternative financing arrangements. This article summarises the main tax points from the perspective of international arrangers and investors.

Sukuk

Sukuk are similar to asset-backed securities where the investor takes an interest in the underlying asset. Irish tax legislation now expressly confirms the tax treatment of sukuk issued by Irish resident companies. Provided that the sukuk are issued to the public and are treated for accounting purposes as a financial liability of the issuer, the return which an investor earns on the sukuk is treated as if it was an interest return for Irish tax purposes. Importantly, the holder of the sukuk is treated as not holding any interest in the underlying assets of the Irish issuer (notwithstanding the legal nature of the sukuk).

This ensures that the Irish tax treatment of the sukuk is straightforward and in line with the well-established Irish tax rules for capital market instruments that have helped Ireland become one of the leading jurisdictions for securities issuance. In particular:

• No Irish withholding tax should apply on the payment of the return by the Irish issuer once the sukuk are listed on a recognised stock exchange (the Irish Stock Exchange has significant experience of listing sukuk); and

• No residual Irish tax liability should generally apply to non-Irish investors for the return earned on the sukuk.

Care needs to be taken with the drafting of the terms of the sukuk to ensure that the return is not re-characterised for Irish tax purposes as an equity distribution.

Ijara

Ijara is a form of leasing. It involves a contract where the lessor buys and then leases an asset to a customer for a specified rental over a specific period. The lessor retains ownership of the asset throughout the period. Depending on the contract, the lessor can either retain ownership of the asset at the end of the specific period or can agree to sell the asset to the customer for a pre-agreed price (an ijara-wa-iktana).

The Irish tax authorities have confirmed that ijara will be taxed in Ireland in the same manner as conventional leasing transactions. As a result, ijara which are similar to operating leases, where the owner retains the burden of wear and tear, will be taxed in the same way as conventional operating leases under which the owner is generally taxed on its gross rentals (in line with accounting treatment) and will usually be entitled to a tax depreciation charge. Ijara which are similar to finance leases such as an ijara muntahia bittamleek will be taxed as finance leases so that the element of the rental receipts which represents income is taxable when received by the lessor (in line with accounting treatment). Ijara can typically provide that the lessee must make charitable payments (as opposed to paying interest) where rental receipts become overdue; such payments should generally be deductible.

Ireland is a leading jurisdiction for cross-border leasing transactions and particularly aircraft leasing. The clarification of the Irish tax treatment of ijara contracts is a positive development for Ireland's leasing industry.

Takaful and Retakaful

Takaful and Retakaful arrangements are similar to insurance and reinsurance arrangements. The Irish tax authorities have confirmed that these arrangements will be taxed in Ireland in the same way as conventional insurance and reinsurance activities. Ireland's leading position in the international insurance industry is bolstered by this move, which should encourage the establishment of takaful cross-border arrangements in Ireland.

Shari'a Funds

Shari'a-compliant investment funds are taxed in Ireland in the same manner as conventional investment funds. Many Shari'a-compliant investment funds have already been established in Ireland and benefit from Ireland's favourable tax regime. Under this regime, funds operate in a tax neutral environment and international investors can earn their return on a gross roll-up basis without deduction of Irish tax. Ireland is a centre of excellence for international investment funds and has already become the jurisdiction of choice for many investment funds marketed to Islamic investors.

Other Financing Products

Irish tax legislation now also expressly provides for the tax treatment of other forms of Shari'a compliant financing, including deposit accounts, property financing (ijara with a diminishing musharaka) and other forms of financing such as murabaha. Broadly, the return arising on these financing products is treated (for Irish tax purposes) as if it were an interest return. Again, the straightforward approach adopted by Ireland, applying well-established and clearly understood rules to Shari'a products, should help foster the development of Shari'a finance in Ireland.

Summary

Ireland has created a clear and comprehensive framework which provides the essential requirement of certainty for Shari'a-compliant financial products issued by Irish issuers, Irish banks and other Irish companies. This step provides an attractive foundation for the development of both cross-border Shari'a financing through Ireland and domestic Shari'a financing in Ireland.

Gerry Thornton (gerry.thornton@mop.ie)