Participative financial instruments: an Italian approach to Sukuk? Introduction (Part I)

In 2017, a law proposal on the taxation of Islamic financial transactions was presented to the Italian parliament, but it was not approved as the legislation came to an end and a new parliament was elected after general elections at the beginning of March.

The proposal also dealt with Sukuk and provided a specific tax regime for the issuance of Sukuk Ijarah. Since the proposal was not approved, the question then arises as to whether there are already in the Italian legislation other Sukuk-like instruments which comply with the generally accepted definition of Sukuk as provided by AAOIFI (“Certificates of equal value representing undivided shares in the ownership of tangible assets, usufructs and services or (in the ownership of) the assets of particular projects or special investment activity”), so that they could be treated as such from a Shariah perspective.

The question is in particular worthwhile in respect of the so-called participative financial instruments (PFIs) (‘strumenti finanziari partecipativi’) provided under Article 2346, Paragraph 6 and Article 2411, Paragraph 3 of the Italian Civil Code. The first provision reads: “The company, in exchange for contributions from the shareholders or third parties, even under the form of works or services, may issue financial instruments that have economic or administrative rights, with [the] exception of voting rights in the general shareholders’ meeting”. The second provides for the application of the rules governing the issue of bonds to those financial instruments the reimbursement of which, both in terms of time and amount, is conditional upon the economic performance of the issuer.

The terms and conditions of the issuance of a PFI must be set out by the company’s bylaws along with the rights that are attributed to the holders, the penalties that are applicable in the event of a breach of the holders’ obligations and, if permitted, the rules of the instrument’s circulation. It is clear that the rationale of these provisions is to widely defer the regulation of the PFI to private self-government which makes the instruments flexible in nature and capable of pursuing different economic functions, similar, as the case may be, to those of shares, bonds, association in participation agreements and the like.

It is important, in particular from an Islamic finance perspective, to ascertain whether such financial instruments have to be qualified as debt or equity. A line may be drawn between those PFIs which entail a right, even subordinated to other creditors’ claims, to the reimbursement of the contribution made by the holder and those which do not. In the first case, the issuer will have to register a debt in its financial statements. In the second case, in particular when money has been contributed in exchange, a reserve will be created and the equity of the company will be increased. It follows that PFIs of the first kind are similar in nature to bonds, while those of the second are equity-like and the respective holder will be in a position more similar, although different in nature, to that of the company’s shareholders.

This article was first published in Islamic Finance news Volume 15 Issue 38 dated the 19th September 2018