The Taxation of Islamic Finance in Major Western Countries

Introduction

For several decades, Islamic finance has been growing rapidly in the Muslim world, particularly in the Middle East and Malaysia. In view of the importance of the major western financial centres such as London, New York, Frankfurt and Tokyo, Islamic banks headquartered in Islamic countries find that they need to have operations in these western financial centres. More recently, as the Muslim populations of western countries have increased, they have a desire to access Islamic financial services themselves.

Accordingly, both foreign banks from the Muslim world and more recently indigenous Islamic banks find themselves needing to operate within western countries. However, the taxation systems of western countries have developed over centuries in a conventional financial environment and often fail to accommodate the type of transactions undertaken in Islamic finance.

Until recently, it has been necessary for Islamic financiers to undertake careful and specific tax planning when implementing Islamic financial arrangements in western countries to ensure that they are not disadvantaged from a taxation viewpoint. More recently, the United Kingdom (UK) in particular has been changing its tax law to accommodate Islamic finance.

This article reviews some of the key changes made by the UK and also contains a brief overview of some other western countries.

Key transactions
For simplicity, this article concentrates on three specific structures which are often used in Islamic finance transactions. These are:
· Commodity murabaha, also known as tawarruq · Diminishing musharaka
· Sukuk

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