Consultation on the legislative framework for the regulation of alternative finance investment bonds (SUKUK)

Comments from ACCA to HM Treasury and the Financial Services Authority, March 2009.

ACCA is pleased to have this opportunity to comment on the consultation document on the above subject.


ACCA welcomes this joint consultation between HM Treasury and the Financial Services Authority (FSA). We believe that it is a positive and important step in achieving one of the stated objectives of the Government, which is 'to enhance the UK's competitiveness in financial services by establishing the UK as a gateway for international Islamic finance'. Sukuk are one of the most prominent instruments used in Islamic finance, and we believe that a cost effective regulatory framework for such instruments will enhance confidence in the nascent Islamic finance market in the UK, while also providing a feasible alternative form of financing in the UK's capital markets.


Sukuk instruments can often be based on varying Shari'a compliant structures, and this has led to challenges in their classification under the existing regulatory regime in the UK. We believe that this has led to a needlessly ad hoc approach to classification, which can not only result in inconsistent and sometimes inappropriate classification (eg. as a Collective Investment Scheme (CIS)), but ultimately disadvantage Alternative Finance Investment Bond (AFIB) issuers compared with conventional debt issuers.

We therefore support the adoption of a single statutory definition of AFIBs, including sukuk, which excludes them from being a CIS, as a means of facilitating their issuance. This would be best achieved by working with the existing tax definition of an AFIB ( ie Option 2 of the proposals).

A consistent definition based on sound principles is particularly in the current climate of global sukuk issuance. A recent report by International Financial Services London (IFSL), showed global sukuk issuance in 2008 to have fallen by over 50% from 2007, to an estimated $20bn. While this is largely a consequence of the general pessimism in the international capital markets, there has also been a certain element of uncertainty in the sukuk market itself. This has come about after the Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI), questioned the legitimacy (on shari'a grounds) of certain sukuk structures.

This ruling may impact the underlying structures of commercial and sovereign sukuk, which are in any case likely to vary and evolve over time. It is therefore vital that any regulation is able to adapt. Thus a wide principles-based definition, akin to that already in place in the Finance Act for AFIBs would be suitable. Ultimately, the essential risk criteria will remain the same as conventional issuances. No matter how the sukuk is structured, a holder is either taking risk on the issuer, the underlying asset or both.


While we agree that one of the hurdles to sukuk issuance in the UK has been the existing ambiguity over the regulatory treatment, we also believe that uncertainty over indirect forms of taxation can provide obstacles to creating a 'level-playing field'.

There has already been considerable deliberation and action taken by HM Revenue and Customs (HMRC) in terms of direct taxes (through adjustments in the Finance Act 2007, under 'AFIBs'), and indirect taxes such as stamp duty on issue and transfer (via the provisions in the Finance Act 2008). In the November Pre-Budget Report, the Government announced that it would be introducing new legislation in the Finance Bill 2009, which will provide relief from stamp duty land tax (SDLT) as proposed in HMRC's 'Stamp duty land tax: Commercial sukuk' consultation document in June 2008.

However, the VAT treatment of sukuk is an area where there has not been much focus. We believe that certain structures of sukuk (eg if ijara -based, where VAT could apply to the rental payments received by sukuk holders) may be unattractive compared to conventional structures. Clearly, the fact that VAT is agreed at European level, means that this is not such a straightforward exercise from the Government's perspective. However, we believe that appropriate resources should be focussed on this area to further facilitate corporate sukuk issuance in the UK.



Do you agree that AFIBs which have similar economic characteristics to conventional debt instruments should be regulated in the same way as those conventional debt instruments, where appropriate?

It is clear that there is currently a lack of clarity with respect to the categorisation, and therefore, treatment of AFIBs within the UK regulatory framework. Continuing to classify AFIBs on a case-by-case basis results in inconsistent classifications, as well as increasing compliance and legal costs.

While we acknowledge that the nature of sukuk means that there can often be a wide range of structures used in these type of AFIBs, we believe that these broad range of financial instruments essentially replicate the economic effect of conventional bonds. We therefore fully support the view that AFIB's which have similar economic characteristics to conventional debt instruments should be regulated in a proportionate and consistent manner to them.


Do you agree that including them as a specified investment under the Financial Services and Markets Act 2000 (Regulated Activities Order) 2001 and amending the Schedule to the Financial Services and Markets Act 2000 (Collective Investment Schemes) Order 2001, affords these instruments a similar regulatory treatment to conventional debt instruments?

We agree that AFIBs should be included as specified investments under the Financial Services and Markets Act 2000 (RAO) on the same basis as similar instruments creating or acknowledging indebtedness, such as conventional bonds. We also agree with the proposal to amend the Schedule to the Financial Services and Markets Act 2000 (Collective Investment Schemes) Order 2001 (CIS Order). This will ensure that AFIBs are not inappropriately classified as CISs, resulting in the issuer and the sukuk itself, being subject to inequitable regulation when compared to conventional fixed income instruments.


Do you believe the provisions above are sufficient for defining an AFIB for regulatory purposes?

We strongly believe that, wherever possible, there should be consistent definitions used for regulatory and tax purposes. Differing definitions lead to unnecessary complexity and ultimately lead to extra compliance costs. We do not believe that there is any justification for a divergent set of definitions with respect to AFIBs, and do not agree with the proposal set out in Option 1, which suggests a unique regulatory definition.


Do believe there are any additional provisions that should be included for the regulatory definition of an AFIB?

We note that the key features of the proposed definition in Paragraph 3.9, are those included within Section 48A of the Finance Act 2005 (FA 2005 s48A). We would therefore support the use of this existing definition as the basis for a single statutory definition of an AFIB. Although this should of course be subject to review as necessary, we are not aware of any pressing changes required.


Do you believe that the mandatory listing requirement is relevant for the reasons stated above?

We agree that in order to avoid any undue exploitation of the proposed legislative changes for instruments that are not intended to be excluded as being CISs, there should be a requirement for a mandatory listing. Again, this is already an existing requirement in the definition under paragraph 1h) of FA 2005 s48A, and helps to ensure transparency.


Do you agree that, although the regulatory definition of an AFIB should generally be the same as the definition of AFIBs for tax purposes and as set out in section 48A of the Finance Act 2005, it is not appropriate simply to cross-refer to section 48A?

As mentioned in our response to Question 3, we believe that it would be beneficial for the regulatory and tax definition of an AFIB to be aligned, and therefore do not see any significant issues with cross-referring to FA 2005 s48A as appropriate.

Last updated: 13 Apr 2012