Shariah Compliance Under Ifsa and Contemporary Challenges PDF

SYARIAH COMPLIANCE UNDER IFSA AND CONTEMPORARY CHALLENGES

By

Abdul Hakim Osman1

Translated by

Nur Masyitah binti Che Roslan

(UUM LL.B (HONS))

1.0 Introduction

Islamic Financial Services Act (IFSA 2013) is the epitome of the effort by the

Government of Malaysia to modernise the laws that governs and regulates the

financial institutions in Malaysia in order to ensure that the laws remain relevant and

effective to maintain financial stability, to support comprehensive development in

financial system and economy, as well as to provide adequate protection to

consumers.

The Islamic Financial Sector was previously governed and regulated by Banking and

Financial Institutions Act (BAFIA), Islamic Banking Act 1983 and Takaful Act 1984,

which is subsequently prevailed by IFSA. It is to be noted that IFSA is a hybrid of 6

statutes which was previously applied, namely Banking and Financial Institutions Act

(BAFIA), Insurance Act 1996, Payment Systems Act 2003, Exchange Control Act

1953, Islamic Banking Act 1983 and Takaful Act 1984. IFSA was passed on 18th of

March 2013 and gazetted by Malaysian Parliament on 22nd of March 2013 had

brought implications to the banking and takaful industry in Malaysia.

2.0 Advantages of IFSA

The newly introduced IFSA certainly had its own perks and advantages of its own. In

a limited scope, we could observe among the benefits of IFSA, as follows:

1 He is the SVP/Head of Syariah Department in Al-Rajhi Bank Malaysia. He obtained his Syariah degree from

Islam University Madinah, Saudi Arabia. He obtained his degree in Fiqh and Usul Fiqh from Universiti Al-

Bayt, Jordan. He started his career in 1993 as a lecturer in Ahmad Ibrahim Kulliyah of Laws, International

Islamic University Malaysia. In 2004, he left the academic world to work in the Islamic Capital Market

Department of the Securities Commission. He joined Maybank Fortis as the Head of Syariah Investment. Before

holding a position in Al-Rajhi Bank, he is the Head of the Department in Kuwait Finance House (Malaysia)

Berhad and the Head Manager/Head of Syariah Department in AmFamily Takaful Berhad.

1. It strengthens the position of Syariah Committee in the Islamic Financial

Institution. As an example, section 35 of IFSA 2013 stipulates the compulsory

requirement for the management of every Islamic Financial Institution to provide

the required information by the Syariah Committee to execute their duties and

responsibilities. The same applies to the Syariah Advisory Council of Bank

Negara Malaysia (SAC). Central Bank of Malaysia Act 2009, sections 51-58,

amongst others, stated that the SAC of BNM which is appointed by the Yang di-

Pertuan Agong (YDPA) is the one responsible to ensure Syariah compliance in

matters involving Islamic Finance and resolutions issued that needed to be

complied with.

2. Islamic Financial Institutions need to ensure that their objectives, operations,

businesses and activities are all Syariah compliant. This calls for all internal

policy to be developed and approved as not breaching any principles of Syariah.

There may be some skeptics which opined that Islamic Financial Institutions is

limited to only developing and marketing Syariah compliant products only. Of

course, this perception is quite far-fetched for IFSA requires all activities of

Islamic Financial Institutions to be Syariah compliant.

3. Islamic Financial Institution is required to submit Syariah audit report for

assessment purposes. Besides that, should there be any activities that is not

Syariah compliant, it is the obligation of the particular Islamic Financial

Institution to report that to BNM and Syariah Committee for further action. This

heavily implies that no management can act relentlessly without first referring to

the Syariah Committee or at least, the Syariah Department to obtain Syariah

compliance approval.

3.0 Contemporary Challenges

In the effort by the Islamic Financial Institutions to comply with the essential

requirements of IFSA, there are also a lot of challenges to be faced by them. Amongst

the challenges identified as to date are as follows:

1. Definition of IFSA

IFSA which was introduced by BNM is a new Act which brought about various

interpretations from law practitioners and industry players alike. Each sides has

their own arguments in understanding the Act. However, unless and until there are

cases which has been dealt with by the courts and there is proper judgment for the

subject matter, this issue will remain a subject of debate.

2. The accuracy of the implementation of IFSA

There is trouble in finding the right body or person to ensure the accurate

implementation of IFSA. The subsequent question that follows would be what are

the benchmarks that set the degree of accuracy of the implementation itself.

3. Fine and imprisonment

IFSA stipulates the type of punishment towards the offenders which is

imprisonment between 1 to 10 years or fine in between RM5 million to RM50

million or both. This shows a huge difference with the punishment stipulated by

the previous Islamic Banking Act which stipulated fine between RM2000 to

RM50,000 or imprisonment of 3 to 5 years or both. Therefore, the question is that

is there any adequate explanation, education and training provided to the industry

players to prevent them for committing any offence under IFSA.

4. The responsibilities and liabilities rests entirely on the Islamic Financial

Institution

There is a problem of the Islamic Financial Institutions having the sole burden to

carry out the responsibilities and liabilities under IFSA. It is as if the client holds

no responsibility should there be any dispute between the client and the Islamic

Financial Institution. This is because, usually, a contract is formed between clients

and an Islamic Financial Institution, when there is a dispute arising from the

contract, it is not possible that the problem could stem from the client.

5. Limited understanding of IFSA

There are some Islamic Financial Institutions that do not take serious efforts to

give explanation and ensure adequate understanding of IFSA to their employees.

It could be seen that only Syariah, Compliance and Law Officers are being

commonly referred to despite the need for other departments in the Islamic

Financial Institution to understand IFSA.

4.0 Challenges Faced When the Islamic Deposit Account and Islamic Investment

Account is Re-Classified

IFSA introduced two main product classification Islamic Deposit and Investment

Account for cash acceptance from client of Islamic Financial Institution.

The Central Bank of Malaysia (BNM) is in the opinion that the difference would

enable the Islamic Financial Institution to develop a wider chain of products for both

classifications to meet various clients demands.

Clients would be able to assess each product that is offered by the Islamic Financial

Institution better and to allow them to make decisions based on adequate information

regarding the desired Islamic Financial product.

Under Islamic Banking Act (IBA) 1983, which is now repealed, all the cash received

from clients are regarded as Islamic Deposit which consists of Deposit Product and

Investment Product. Due to this, Islamic Financial Institutions are required to

reclassify their Islamic Deposit under IBA to Islamic Deposit and Investment

Account under IFSA.

In order to ensure that the classification process is run smoothly and effectively, BNM

had given the Islamic Financial Institution a transitional period of 2 years until 30th

June 2015 to do so.

The Islamic Financial Institutions are also required to communicate and discuss with

their clients to give information and explanation of the difference between Islamic

Deposit Product and Investment Account. The Islamic Financial Institutions will also

provide their clients with information regarding the clients options to maintain their

savings in the Islamic Deposit or change to Investment Account. The Islamic

Financial Institutions shall give ample time to the clients to make decisions. All

Islamic Deposits which are accepted under IBA will continue to be protected by the

Malaysia Deposit Insurance Corporation (MDIC) within the transitional period. The

Islamic Financial Institutions will also ensure that the clients rights are well protected

during the transitional period.

It is a fact that where an Islamic Deposit is obliged to guarantee a principal amount, it

causes difficulties to the Islamic Financial Institutions because most of the Islamic

Deposit which is able to pay profits cannot have the element of guarantee as it is

against the principle of Syariah.

This approach would hamper the development of Islamic Deposit products and will

destroy its dynamic structure. It would also undermine the essence of Islamic Deposit

under the principles of Mudharabah and Wakalah which are basic contracts as both

contracts do not have principal guarantee attached.

The direction laid down by IFSA is indirectly narrowing product variety available for

Islamic Deposit. It also forces the Islamic Financial Institutions to structurize the

Deposit products caused by the challenges and obstacles to comply with the Syariah

principles.

For the record, contracts without principal guarantee which are used for Islamic

Deposit such as Mudharabah and Wakalah did not pose any serious problems to the

Islamic Financial Institutions or its clients.

Regardless, we understand and well aware that the purpose of the new Act introduced

for Islamic Deposit is to safeguard the depositors interest and to prevent loss on their

part. However, this objective could still be achieved through alternative efforts and

methods which are not against Syariah principles. The Islamic Financial Institutions

are responsible to improve their deposit product efficacy such as Mudharabah and

Wakalah bi al-Isthithmar. They are also responsible towards their investment portfolio

by following the guidelines provided by the related authorities. Therefore, the related

authorities should consider and respect the policies and principles applied by some

Islamic Financial Institutions to preserve their deposit contracts.

Some of the Syariah Committee is not comfortable with the newly introduced Act and

rejected Mudharabah and Wakalah contracts and this indirectly forces the Islamic

Financial Institutions to change Islamic Deposit to Murabahah contract (Commodity

Murabahah), Wadiah or Qard. We would carefully analyze the compatibility of these

three basic products.

4.1 Commodity Murabahah

Product that is based on Commodity Murabahah or also known as Tawwaruq

for now, is the sole alternative for Islamic Deposit because it guarantees on

capital and profit. It also allows for profits to be granted to depositors as soon

as their money is being deposited. The fixed profit rate is also displayed

disseminated to depositors.

Tawarruq is an arrangement that involves a purchase of a commodity or asset

based on a deferred payment basis by way of Musawamah or Murabahah and

then sold for cash (cash price) to a party other than the original seller.

The fatwa issued by Majma Fiqh Islami li Rabitah Al-Aalam Al-Islami has

permitted the use of Tawarruq: Sale and Purchase based on Tawarruq is

permissible according to Syarak, which is the majority opinion of the Islamic

Scholars on the basis that the original ruling of sale and purchase contract is

permissible based on Allahs Firman in Surah Al-Baqarah ayat 275:

Meaning: Allah has permitted sale and prohibited riba

and it is not evident in this sale and purchase transaction an element of riba

intentionally or in physical aspect, as it is used to pay debts or contract

marriage or as such.

However, there are also previous Islamic Scholars which were against the use

of Tawarruq such as Imam Ibn Taimiyyah and also a view from Imam Ahmad

ibn Hanbal which states that Tawarruq is prohibited (haram).2

There are also other Syariah issues that is being commonly discussed

involving Tawarruq and amongst others are the issue of Tawarruq Munazzam

and the issue of wakil (representative) in Tawarruq.

4.1.1 Tawarruq Munazzam (Organized Tawarruq)

The OIC Fiqh Academy in its 2009 resolution deemed Tawarruq

Munazzam as impermissible (haram).

Bay inah involves two parties to a contract. Where it involves a third

party, it would subsequently become inah thulathiyyah (tripartite inah)

whereby it is still inah (except if it is unintentional). Tawarruq is

supposedly involving at least four parties and the commodity should

not be returned to the original seller (except if it is unintentional).

Unorganized Tawarruq is a pure sale and purchase transaction and not

a fictional transaction eventhough the intention of the parties is to

obtain cash from the sale and purchase of a commodity.

In order to create Tawarruq that is free from the elements of riba and

syubhah requires for a high determination and diligence from the

industry players themselves by taking a higher business risk and at the

same time to demand themselves to be more innovative and creative in

finding a more suitable commodity. It also calls for more strictness

from Islamic Scholars and Syariah experts.

4.1.2 The Issue of Wakil (Representative) in Tawarruq

2 Ibn Qudamah, al-Mughni, p.195-196.

According to Shariah Standards for Islamic Auditing Organization for

Islamic Financial Institution (AAOIFI), a wakil (representative) is

prohibited from selling the items he had bought for the muwakkil (the

person he is representing) to himself, and the wakil (representative) is

prohibited from performing the akad with his own self as this is called

as bay al wakil li nafsihi. Instead, ijab and qabul must come from

two different parties in order to contract a valid akad.

If it is closely observed, the structure of Commodity Murabahah which

is practiced by most of the Islamic Financial Institutions in Malaysia,

some of the Islamic Scholars is in the opinion that the issue of Syariah

would arise in the event that a wakil (representative) which is the one

who bought the commodity on behalf of its clients, which is the bank,

will then sell it to the same bank (his own self) which will cause an

issue of bay wakil li nafsihi to arise.

Based on the above opinion, the bank or any other independent entities

which is owned by the bank is not allowed to buy the commodity from

the supplier (on behalf of the client) and to sell it to its own self as it is

regarded as fake transaction or entirely fictional.

However, the client can appoint another foreign party which do not

have any relations with the bank in terms of ownership to become a

representative to sell the commodity to the bank on their behalf.

To abide by these parameters, the bank should establish a special unit

under the bank which consists of a few staff to become independent

representatives which will act on behalf of the client to buy the

commodity from the supplier and then sell it to the bank.

This concept of Wakalah is agreed upon and approved on some

conditions to ensure that the officers who are appointed to become

representatives are independent, and the conditions are as follows:

1) Salary (including bonuses), allowances and benefits such as,

medical benefits for employees whom is acting on the behalf of the

clients under this unit must be beared by the clients.

2) The representatives are only acting upon its special portfolio that is

to uphold the clients interest by providing services to buy

commodity and selling it to the bank on behalf of its clients and

other related works involved with the transaction.

3) The bank is prohibited from directing the representatives to execute

other duties apart from the special duty imposed upon them. The

representatives are also not bound with the banks policy which is

directly against the interest of the clients.

4.2 Wadiah (Safekeeping)

Wadiah means custody or safekeeping. Wadiah in the legal sense signifies a

thing entrusted to the care of another. It refers to a concluded contract between

the client/owner (depositor) of the goods (the money) and the custodian (bank)

for safekeeping. In Wadiah, the custodian (bank) guarantees the safety of the

items kept by it. According to this contract, the client will deposit the cash or

other asset as savings in the bank. The bank shall guarantee the safety of the

items. The client grants the bank their permission to utilize the money for

whatever purpose permitted by Syariah. The bank in return guarantees the

value of the deposit. Upon discretion by the bank, the clients are granted

Hibah as gratitude for allowing the bank to use their deposits.

According to jumhur fuqaha, Wadiah yad Dhamanah contract is an al-Qard

that means debt. It means, the savings of the depositor (client) is managed by

the custodian (bank), and the custodian acts as a guarantor towards the

depositors. Due to this, the benefits given upon debt is classifed as riba based

on dalil. Therefore, this issue would be fatal to the validity of the contract as it

contain the elements of riba.

Contemporary Islamic Scholars agrees with the opinion of Classical Islamic

Scholars that if an Islamic Financial Institution utilize Wadiah assets with the

permission of the depositors, it would be regarded as Qard.

The OIC Fiqh Academy is also in the opinion that the deposits in the current

account whether kept in conventional or Islamic Financial Institutions, are

considered as Qard in Fiqh aspect as the financial institutions which accepts

deposits, guarantees the deposit and must return back the deposit upon request.

In Qard transaction, if the debtor is conditioned to give benefits to the creditor,

then it is prohibited. For example, the creditor conditioned the debtor to sell

the debtors car at a cheaper price, or to give presents or as such.

This would mean that if the Islamic Financial Institution still wants to

introduce Wadiah contracts to the Islamic Deposit clients, then the Hibah

condition cannot be implemented for it would bring about the elements of riba

as been stated in a hadith Rasulullah SAW:

Meaning: Every loan that gives benefit (to the lender) is a riba.

Therefore, to develop an Islamic Deposit based on Wadiah contract is not in

line with IFSAs requirements and the Islamic Financial Institutions should

not bear expenses if the outcome would result in Qard.

4.3 Qard (Debt)

Qard means beneficial loan or benevolent loan which is returned at the end of

the agreed period without any interest or share in the profit or loss of the

business.

Islamic Scholars alike agreed that Qard is permissible in Islam based on dalil

Al-Quran, Hadith and Ijma.

In practical sense, if the contract of Qard is used for Islamic Deposit, it is

indirectly profiting the bank as there is no cost involved for the bank to use the

depositors money in order to fund their clients. At the same time, the

depositors do not enjoy any sort of profits from their deposit accounts.

That is why there are some banks which developed deposit product by creating

two deposit accounts based on Commodity Murabahah and Qard. These two

accounts are connected to each other. This means that the depositors can still

gain profit from their Commodity Murabahah account.

5.0 Conclusion

In order to carry out the requirements contained under IFSA, it calls for strong

determination and high level of patience and diligence from all related parties. There

are indeed a lot of challenges to be faced by the Islamic Financial Institutions

including having to allocate a big budget just to conform to the requirements of IFSA.

Thus, all related parties should cooperate and work together to realize this noble

aspiration.

WALLAHU ALAM.