First published in The Business Times on 11 January 2013
The world avoided a Mayan apocalypse in the previous month but has been unable to shake off the economic malaise gripping it following the debt crisis precipitated by the collapse of Lehman Brothers in 2008. The advanced economies of the United States and the Eurozone were stagnant in 2012 and are expected to remain so due to continued deleveraging in the private and public sectors.
Once again, the world will look expectantly towards China and India to sustain their growth rates in 2013 in order for global economy to eke out modest growth.
Against this macroeconomic backdrop, the Ministry of Trade and Industry has projected a “cautiously positive” growth outlook, with Singapore’s economy expected to grow between one to three percent in 2013. Whilst the upcoming Budget should continue to focus on boosting long-term productivity in tandem with reducing the country’s dependence on foreign labour, we also hope to see a slew of incentives targeted at fostering new engines of growth to power the Singapore financial services sector through the tough economic climate. The stalwart financial services sector has always been the beneficiary of such incentives and we hope to see the introduction of measures that would kick-start a promising but sputtering segment: Islamic Finance.
Despite years of hard work and strong commitment demonstrated by the Singapore authorities in promoting Islamic financing activities, Singapore appears to be missing out on one of the fastest-growing financial markets, estimated to be growing at between 15 to 20 percent per annum. Tax incentives for Islamic financing were first introduced in 2005 and were expanded through subsequent Budget announcements.
However, the overall local market response to Islamic financing has been at best lukewarm, with keen interest in such financing activities shown in flashes by large Multinational Corporations (MNCs) and various government-linked companies, whilst response from smaller local enterprises is best described as muted.
The following are our suggestions which we believe may further boost Singapore's appeal as a hub for Islamic Finance:
Overly prescriptive nature of tax incentives
In terms of incentivising Islamic financing activities, Singapore’s tax policy to-date has been to alleviate any tax inefficiencies for qualifying plain vanilla Islamic transactions such that the direct and indirect tax treatment of such a transaction is placed on equal footing with its conventional cousin.
The emphasis is placed on the word “qualifying” – because the reality is that often, a plain vanilla Islamic transaction needs to be altered due to commercial requirements and thus fails to meet prerequisites to be regarded as a “qualifying” Islamic transaction.
In such instance, the taxpayer has to appeal to the relevant authorities to seek specific waivers or dispensations of certain conditions. The outcome of the appeal rests solely at the authorities’ discretion and the appeal process could well be time-consuming. For a time-sensitive Islamic deal where certainty of tax treatment is of paramount importance, any expected loss of time during the appeal process could well halt the Islamic transaction completely.
To narrow the competitive gap with Islamic hubs such as Malaysia and encourage innovation, Singapore should transit to a principle-based tax framework where the current host of tax incentives are extended to all Islamic financing transactions that have been deemed by Islamic scholars as being Shari’ah-compliant.
A migration of the tax framework to one that is principle-based would expand the scope of qualifying Islamic financing arrangements, which often have to be structured and adopted by business to cater to their diverse and specific commercial needs.
This may also encourage robust financial innovation in Islamic financing instruments, which could in turn serve as a means to move the Singapore financial sector further up the value chain and boost Singapore’s position as a global financial hub.
Transactional cost disadvantage of Islamic products
Local businesses with practical experience in undertaking Islamic financing activities allude to the fact that the cost of conducting Islamic financing transactions are generally higher compared to their conventional equivalents. We understand that the increased costs can be attributable to the shortage of skilled Islamic finance professionals that are required to deal with the complexities of Shari’ah law.
As an intermediate measure, perhaps a special tax deduction could be extended to costs incurred by businesses in structuring and adopting Islamic financing arrangements. This should place Islamic financing on a more tax-efficient platform vis-a-vis their conventional counterparts. Over time, hopefully this would translate into better acceptance and take-up rates for Islamic financing activities amongst the local business community.
Insufficient market penetration and misconception
Malaysia’s leadership in Islamic Finance comes from its larger volume of Islamic investors looking for Shari’ah -compliant investments like Sukuk (Islamic bonds) compared to Singapore.
A key to narrowing this disadvantage would be to alter public perception that Islamic finance is only for Muslims. The emphasis on Shari’ah compliance in the way Islamic banks market and promote their facilities continues to give breath to this misconception, which extends in perhaps a more cynical fashion to those in the corporate boardroom, to whom it appears that there is little or no difference between Islamic and conventional financing, since in many instances the transaction terms of the former appears to be pegged to the latter.
It is clear that Singapore needs a domestic market for Islamic finance products to drive demand and public and investor education in Islamic financing must remain high on the agenda of the Monetary Authority of Singapore (MAS).
In spite of the current hurdles facing local Islamic financing, we believe that Singapore’s financial landscape has become richer and more diversified since Islamic financing activities were introduced to complement their conventional cousins. The 2013 Budget presents an opportunity for Singapore to breathe life into this sector and remove the impediments of progress for the local Islamic financing industry.
Alan Lau and Larry Sim are Financial Services Tax Partners at KPMG in Singapore. The views and opinions expressed herein are those of the authors and do not necessarily represent the views and opinions of KPMG in Singapore.