Purifying non-compliant income

Purification is not only a stock-market problem. It shows up anywhere permissible and impermissible income mix: a business holding a small interest-bearing cash reserve, wealth inherited after decades in conventional banking, a salary from an employer with some non-compliant revenue lines, a joint account holding money of different origins. A screened share portfolio is where it has the cleanest method attached, which is why it is covered here in full, but the same logic applies wherever income is mixed. A screened portfolio still contains some impermissible income, because the standards tolerate up to 5% of revenue from non-compliant sources rather than requiring zero. A tiny slice of what reaches you is therefore not yours to keep.

Purification (calculating the tainted portion of your return and giving it away) is the response. This lesson is about how to actually do it.

Why a tolerance exists at all

It is worth understanding the logic before the method, because otherwise purification feels like a loophole with a cleanup crew attached.

A modern listed company holds cash at a bank and earns interest on it. A retailer takes payment through a financial system built on interest. A manufacturer has a credit facility. Requiring literally zero contact with interest would mean no listed equity is investable at all, which is a defensible position some hold but is not the one the screening standards adopted.

What they adopted instead has two halves, and both are needed. The threshold keeps the contamination incidental rather than central, and purification removes the benefit of the part that remains. A tolerance without purification would be permission. Purification is what makes the tolerance coherent.

The method

The widely applied approach is proportional. You work out what share of a company's revenue came from non-compliant sources, apply that share to what you received, and give that amount away.

Step one: find the ratio

Non-compliant revenue divided by total revenue, from the company's own financial statements. This is the same figure a screen uses to decide whether a company passes the 5% test, so if you can read a screening verdict you already have it.

For funds, do not calculate it yourself. A properly run screened fund publishes a purification ratio, usually as cents per unit or as a percentage of distributions, precisely so members can do this. Ask for it. A fund that cannot produce one has either not thought about purification or is not screening as tightly as its name suggests, which was the screening module's point.

Step two: apply it to what you received

Multiply the ratio by the dividend (a cash payment from a company you own part of) or distribution you actually received during the period.

A worked example. You hold shares in a company whose accounts show $8 million of interest income against $400 million of total revenue. That is 2.0%, comfortably under the 5% ceiling, so it passes. You received $1,400 in dividends across the year. Your purification amount is 2.0% of $1,400, which is $28.

Two things are worth noticing. The number is small, which is the point: the threshold is doing most of the work and purification is cleaning up a residue. And the calculation is per holding and per payment, so a spreadsheet with one row per dividend is the entire infrastructure required.

Step three: give it away properly

It goes to charitable purposes, and the governing principle is that you must derive no benefit from it, directly or indirectly.

• No benefit to you. Not to a facility you use, not to an organisation that will name something after you, not offset against something you would have paid anyway.
• Not counted as zakat. Different obligation, different calculation, different recipients. Keep them separate in your records.
• General welfare is the usual destination. Many scholars favour giving it to the poor and needy or to general public benefit rather than to mosque construction or religious education, on the view that funds of this origin are better directed to relieving need. Positions differ here; the constant is no benefit to you.
• Give it without expecting reward. You are returning something, not donating it.

The two genuine disagreements

Two questions are unsettled among qualified scholars, and both change the number materially.

Does purification apply to capital gains?

Everyone agrees dividends need purifying. Whether the profit you make when the share price rises also needs purifying is disputed.

• Dividends only. The impermissible income reaches you through the distribution. A capital gain reflects the market's view of the whole enterprise and is not a distribution of that revenue, so purifying it double-counts.
• Gains too. The share price partly reflects retained earnings, which include the non-compliant portion, so a gain carries the same taint in a less visible form. Some holding this view apply the revenue ratio to the gain on sale.

The first position is more commonly applied in practice and is considerably easier to administer. The second is more cautious. Neither is fringe.

What base do you apply the ratio to?

Most apply it to income received, as in the worked example. Some apply it to the value of the holding rather than to distributions, which produces a larger figure and does not depend on a dividend being paid. A holding that pays nothing produces no purification under the first method and a positive amount under the second.

Both are defended. Pick one with someone qualified, and then be consistent, which matters more here than the choice itself.

Making it routine

Purification fails in practice not because it is hard but because it is annual, small and easy to defer. Attach it to something that already happens.

• Do it on the same date as zakat. One sitting, two separate calculations, two separate payments, two separate records. You are already gathering the statements.
• Keep one spreadsheet. Date, holding, amount received, ratio used, purification amount, where it went. Six columns, and it answers every question you will have later.
• Record the ratio source. The annual report page, or the fund notice. Future you will not remember where 2.0% came from.
• Round up, not down. The amounts are small and the direction of caution is obvious.
• If you have never done it, start now rather than reconstructing everything. Estimate past years conservatively if you can, pay that, and run it properly from here. Perfect reconstruction is not usually possible and its impossibility should not become a reason to keep doing nothing.

To find the revenue ratios for a specific ASX company, the ASX Screener shows the actual figures behind each verdict rather than a badge, which is what the screening module's lesson on reading a verdict taught you to interpret.

The amounts here are genuinely small. The habit is not, because it is the difference between a portfolio that is compliant in the brochure and one that is compliant in your accounts.