Islamic products: current and savings accounts
These operate in the same way as a conventional current account except that there is no overdraft facility and no interest added by the bank to the account for funds in credit.
Any charges made by the bank will follow the policy set out in VATFIN2900.
Savings accounts (operated under an unrestricted ‘Mudaraba’ contract)
This product operates under Mudaraba principles whereby the bank will act as a partner and manager and applies its expertise. The bank acts in a discretionary / unrestricted capacity.
Like conventional savings accounts, the aim of the product is to give investors an agreed return on their investments. Investors normally have to keep their money in the account for a set period of time. The bank pools the investor’s money with that of other investors and the bank’s own money and then invests it in Sharia’a compliant equities.
At the end of each month the gross income is calculated and then various deductions are made (e.g. direct costs (including costs such as marketing), fees and other expenses incurred by the bank in investing the pooled funds). The bank’s share of the income is then calculated and the remainder is credited to the customer’s account.
The VAT treatment depends on whether the bank or other financial institution makes the investment decisions (discretionary or ‘unrestricted’) or whether it follows the instructions of its clients (non-discretionary or ‘restricted’).
Where the bank makes the investment decisions any charges made by the bank to the investor will follow the policy set out in paragraph 2.10 of VAT Notice 701/49 Finance. The additional profit made by the bank will be outside the scope of VAT.
Where the bank follows the instructions of its clients the additional revenue made by the bank on the investment of the capital will be taxable at the standard-rate. This is because what the bank is doing is a form of portfolio / investment management. See paragraph 7.1 of VAT Notice 701/49 Finance.