Fiqh Al Zakah by Dr. Yusuf al Qardawi

Taxable materials, whether income or assets, are not necessarily the same as zakatable materials. Taxation specialists count four kinds of taxes from the point of view of taxable items: taxes on capital, on income, on persons, and on consumption.

Zakah does not cover consumption, it is taken from the rich on what is left after consumption. Zakah is sometimes levied on assets, such as gold, silver and livestock, sometimes on income, such as agricultural produce, and on persons in the form of fast-breaking zakah. This chapter compares zakahs on capital, income, and persons with their tax counterparts.

Zakah on capital was enacted long before European socialists called for levying taxes on capital.1 Proponents of taxes on capital usually present the following advantages:

1. Capital provides its owners with several social and economic benefits including security and opportunities to earn more wealth.

2. Taxes on capital reach all private wealth including wealth that does not yield any income, as compared to income tax, which is imposed only on earners.

3. By taking idle wealth, capital taxes encourage investment.

4. Capital tax encourages capitalists to increase their production to make up for the loss resulting from tax payment.

5. By imposing capital tax in addition to income tax, the need for raising income tax rates to provide additional resources to the state is eliminated.

6. Capital tax dose not burden the poor and the have-nots, and is therefore considered a socialist reform.2

Opponents of capital tax bring forth the following disadvantages:

1. Levying a tax on capital very often has a negative effect on the propensity to save and the ability to invest, which apparently has a negative effect on the economy as a whole.

2. It is generally difficult to determine taxable capital, since there are several definitions of capital: both economists and taxationists do not agree on a common definition. Leaving determination of taxable capital to individual tax payers or to collectors raises many discrepancies especially since some forms of capital can easily be hidden away, such as cash money.

3. Repetitive collection of tax on capital year after year may exhaust the capital itself, which is a major source of income. If the state continues levying and collecting taxes on capital, it may end up transferring private capital into the public treasury, which by itself reduces future proceeds of such a tax and shrinks the economic ability of the private sector.3

For reasons like the ones mentioned above, some tax specialists suggest that the government observe the following rules when imposing taxes on capital:

1. It is advisable that the amount of tax collected not be great. It must not take a big chunk of capital. The rate must be moderate, so that capital tax can be paid out of capital's income without touching the principal itself.

2. Capital tax must not be the only taxes in the system, but must rather be supplementary to other taxes, especially income tax.4

3. A certain minimum amount of capital must be exempt from taxes.

4. Liabilities on wealth must be excluded or deducted from the taxable amount.5

Looking at zakah as a tax, we find that it fulfills all the requirements for a healthy tax on capital, by observing the necessary rules that eliminate the disadvantages of taxes on capital, while preserving the advantages.

1. Islam does not impose zakah on every kind of capital. It is only levied on growing capital. Growing capital is that wealth which usually has yield, (regardless of whether the owner renders the capital idle or profitable). This is in order to collect zakah from the proceeds of capital and not from the principal. The word "zakah" itself means inter alia -- "growth" in Arabic. Some jurists explain the use of the word "zakah" for this kind of levy in the Qur'an on the basis that zakah is levied only on growing assets.6

Accordingly, jewelry that is not used as growing asset is not taxable, whereas hoarded jewelry is zakatable, since hoarding implies making idle what is otherwise growing. Jurists agree that houses used as residences of the owners are not zakatable.

Neither are clothes, furniture, riding animals, personal weapons, craftsmen's tools, and books used for study and research, because all these do not grow and are assigned for personal use to satisfy basic needs of the owners.7 We must, however, note, that in man-made taxation systems residential houses are usually taxable even mobile forms of wealth are taxable in many countries.8

2. Shari'ah does not impose zakah on fixed capital itself, such as factories and real estate, but only on circulating capital, on the grounds that fixed capital is zakted via its yield and growth, like agricultural land which is not zakted by virtue of texts. Similar to agricultural land are buildings and other exploited capital. This principle is observed in order that zakah does not negatively affect the desire to save and does not induce savers to spend their income to avoid taxes levied on fixed capital.

3. Shari'ah does not impose zakah on all amounts of capital. nisab is considered a minimum level of richness below which zakah is not obligated. Nisab is estimated at the equivalent of eighty-five grams of gold, and zakah is imposed on that amount of capital once every year, provided it is in excess of what is needed to satisfy the basic needs of the owner; basic needs which differ from time to time.

4. Islam also determines the rate of zakah on capital at a moderate level, at only 2.5

percent, as determined for money and trade assets, and as approximated with regards to livestock. At this rate, zakah is intended to be collected from the yield of capital and not from the principal itself. It is remarkable that some jurists explicitly mention this point, such as Ibn Qudamah in al Mughni, who discusses the distinction between assets for which the passage of one year is required and those for which it is not: "Kinds for which the passage of one year is required are those designated for growth, such as livestock, trade assets, and money, so that zakah is actually paid out of the capital's income, thus making it easier and simpler, such that its repetition year after year does not deplete the capital itself."9 The author of al Hidayah, a Hanafite, asserts that "The passage of a year is necessary because there ought to be a certain period of time for growth to be realized.

This period is estimated at one year, which includes the four seasons, in which prices may fluctuate." Ibn al Humam comments in his Fath al Qadir that the rationale for the condition of one year is that "zakah, in addition to being a worship and a test from God, is meant to be a relief to the poor without depriving the payer himself or making him poor, i.e., by having the rich give out of the excess of their wealth, a little out of plenty.

Obviously , obligating zakah on assets that do not grow leads to depletion of such assets by zakah payments year after year, knowing that the zakah payer has other expenses too.

Thus, the condition of the passage of a year for growing assets is meant to allow these assets to have sufficient time to grow and yield profits."10

Zakah on growing assets is meant to be collected out of the yield of the capital and not out of the capital itself. But why does Shari'ah make potential for growth the condition for zakatability, and not actual realization of profit? Ibn Qudamah answers this question "Actual growth alone is not considered the criterion because it is difficult to measure and to define accurately, especially since potentiality is considered a sufficient reason for a ruling in Shari'ah in many instances in place of actual realization."12

Income is the most important source of taxes in modern times. Years ago, income from real estate used to be predominant, but nowadays we have income from labor, capital, or both. With the advancement of industrialization and the increase in domestic and international trade, income from labor and capital increased manifold. Income includes profit from commercial and industrial activities, returns of stocks and bonds, profits of professionals, and wages and salaries of employees of the government as well as of private and public establishments.

Financial needs of modern states are better satisfied by direct taxes on income than by indirect taxes that prevailed in the past. Moreover income taxes are more acceptable by taxation scholars, because they are closest to fulfilling justice in contemporary economic systems by spreading the tax burden among all income earners.13

Income is the flow of new wealth from a constant and permanent source. This source may or may not be physical. Physical sources include real estate, machinery and equipment, and money, while the non-physical source is labor, whether manual or non-manual. In most cases, income results from the combination of more than one source.14

This definition also implies that the sources of income are generally permanent and continuous. (Permanency does not mean absolute permanency but relative longevity)

With application of the principle of allowances for capital amortization, capital becomes more permanent than labor.15 Differences in the lifespan of the source of income are usually bases for differences in its taxability; i.e. the tax burden is distributed in such a way that the tax rate is higher on income that flows out of financial resources and lower on income that flows out of labour alone.

The most obvious example of zakah on income is the agricultural zakah. Its rate differs from five to ten percent-- the higher rate applies when farming costs are minimum (i.e. the land is watered by rain), and the lower rate applies when water must be brought to the land. Rikaz, (zakah on buried treasures and minerals extracted from the earth) has a rate of 20 percent, while income from labor and professions has a rate of 2.5

percent. The rate on trade income is also 2.5 percent, since zakah on commercial income is integrated with zakah on commercial inventory, zakah is calculated at once on both trade assets and accrued income from trade.

Thus, Islam applies different rates of zakah on income, rates that vary in accordance with efforts expended. At high costs of producing the zakatable income, a low rate of zakah applies, and vice verse.

Other forms of zakah on income include zakah on the offspring of livestock, zakah on honey and other animal products, zakah on earnings of real estate and other fixed capital, as discussed in detail in part three of this book.

Taxes on persons, sometimes called tolls, were common in many western countries, and still exist in many states today, although their use is declining. The most important merit of a tax on heads is easiness in estimation and collection, but the main disadvantage is that it is not based on the ability of the taxable person to pay. Many governments discontinued this form of taxation for that reason, although it is still used in some states of the United States and in France.16

Zakah of fast breaking at the end of the month of Ramadan is levied on persons. It has the same advantages of simplicity of calculation and collection as the tax on persons. Above this however, zakah of fast breaking serves important spiritual, moral, and social objectives in addition to its transfer of funds like other forms of zakah. But unlike the tax on persons, individuals who cannot afford payment are exempt from zakah of al fitr. This is unanimously agreed upon by Muslim scholars.

By imposing this zakah once a year on each Muslim, Islam aims at training all Muslims to spend and sacrifice for the welfare of fellow Muslims, especially on the occasion of the religious feast days. Accordingly, exemptions from this zakah are much more strictly reduced than exemptions from other forms of zakah. Even the poor, except the totally destitute, are required to pay this zakah. The Messenger (p) says regarding payment of zakah of al fitr, "As for the rich among you (who pay it), God will sanctify them, and as for the poor among you (who pay it), God will render to them more than they give."17 Fortunately, this zakah is today the most remembered and practiced throughout the Muslim land of all forms of zakah.