Zakat as Income Tax Relief

By Andrean Rifaldo, the Directorate General of Taxes officer

Fulfilling zakat is a fundamental duty for Muslims, one that cannot be ignored. It serves as a pillar of Islam, essential for both self-purification and meeting the needs of others.

Zakat funds have demonstrated their positive impact in reducing poverty. In 2023 alone, the zakat distributed by the Amil Zakat National Agency (BAZNAS) successfully lifted 54,081 individuals out of poverty, with 40 percent of them belonging to the most economically deprived communities.

The economic impact of zakat is undeniably significant. With the world's largest Muslim population, Indonesia holds a staggering potential for zakat funds of Rp327 trillion ($20.67bn.) annually.

While this potential hasn't been fully tapped into, the national zakat revenue shows a steady rise each year. In 2023, zakat receipts hit Rp32 trillion ($2.02bn.), marking a notable 45 percent increase from Rp21 trillion ($1.32bn.) in 2022.

Given its significant contributions and importance to the Muslim community, tax regulations offer reliefs to encourage people to fulfill their zakat obligations.

Unfortunately, despite being in place for almost 25 years, this incentive has not been quite effective. Many people are still unaware of and do not utilize this policy, which allows zakat to be deducted from taxable income (BAZNAS, 2023).

Both the Income Tax Law and the Zakat Management Law stipulate that zakat can be deducted from the reported income in the Annual Tax Return. This means that paying zakat can help reduce tax obligations. However, there are limitations on the types of zakat that qualify for this tax benefit.

The Government Regulation No. 60 of 2010 stipulates that only zakat on income, also known as professional zakat, can be recognized as a deduction in the Annual Tax Return.

Income zakat is calculated at a rate of 2.5 percent on income. The nisab, or minimum threshold for its obligation, is set at 85 grams of gold per year, equivalent to Rp82,312,725 (~$5,200) annually or Rp6,859,394 (~$433) per month according to the Decision Letter of the Chairman of BAZNAS Number 1/2024.

The payment of income zakat can be recognized as an income deduction in the calculation of taxes in the Annual Tax Return, applicable to both individual taxpayers and companies.

For instance, with a monthly income of Rp10 million (~$632), there is a mandatory zakat of 2.5 percent, totaling Rp250,000 (~$16) per month or Rp3 million (~$189) annually. Paying this zakat can lower the taxable income reported in the Annual Tax Return.

If the payer (muzakki) is an individual subject to a 5 percent income tax, then the zakat of Rp3 million per year can reduce the annual income tax by Rp150,000 (~$9).

For companies, the zakat of Rp3 million can reduce the annual income tax by anywhere from Rp330,000 (~$21) to Rp660,000 (~$42), depending on whether the business is taxed at a rate of 11 percent or 22 percent.

To qualify for recognition in the Annual Tax Return, zakat payments must be made through BAZNAS or Amil Zakat Institutions that are officially recognized by the government.

Zakat can be paid in cash or its equivalent, and payments can be made directly to the relevant amil zakat institution, through bank transfers, or via ATMs.

If the muzakki directly gives zakat to mustahik (those eligible to receive zakat) or does not go through government-recognized amil zakat institutions, the zakat cannot be claimed as income deduction in the Annual Tax Return.

When filing the Annual Tax Return, taxpayers must attach a photocopy of the zakat payment receipt that must include at least the taxpayer's name and identification number (NPWP), the amount and date of payment, the name of the amil zakat institution, and be signed by the amil zakat officer.

Zakat should be reported in the Annual Tax Return for the corresponding tax year based on the income that has been subject to zakat. For instance, zakat paid throughout the current year will be declared in the Annual Tax Return for the year 2024, which is submitted starting from January 2025.

For individuals who are heads of households, income zakat paid by spouses and underage children who do not have their own NPWP can also be claimed within the Annual Tax Return.

The policy of providing tax relief on zakat payments is not unique to Indonesia. In many other Muslim countries, there are mechanisms allowing zakat to alleviate the burden of income tax.

Since 2001 in Malaysia, zakat has been recognized as a tax credit directly reducing the amount of income tax payable. Similarly, Turkey also permits zakat and aims-givings to reduce the taxable income.

In Indonesia, the tax relief policy on zakat began to take effect with the enactment of the Zakat Management Law in 1999, which was during the presidency of the late B. J. Habibie. A year later, the Income Tax Law was also amended to include a clause allowing zakat as an income deduction.

Both zakat and taxes share a common goal: to fulfill the rights of others and promote their well-being. Therefore, this tax relief is intended to prevent individuals or businesses that have already paid zakat from being burdened with double taxation on the same income.

Moreover, this policy aims to encourage Muslim individuals obligated to pay zakat to fulfill their duties. Thus, it is hoped that the significant potential of zakat can be fully realized.

If this potential is fully realized, the collaboration between zakat and tax management is expected to bring prosperity to society, especially for the 3.8 million zakat recipients and 71 million beneficiaries targeted to receive zakat throughout this year.

*) This article represents the author's personal views and does not represent the stance of the institution. The Indonesian version of this article has been published in Kompas.com on March 24th, 2024.

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