ISRAISRA الأكاديمية العالمية للبحوث الشرعية International Shari’ah Research Academy for Islamic Finance DEVELOPMENT OF ISLAMIC BANKING AND FINANCE

ISRAاألكاديمية العالمية للبحوث الشرعيةInternational Shari’ah Research Academy for Islamic Finance

DEVELOPMENT OF ISLAMIC BANKING AND FINANCE IN MALAYSIA: A LEGAL AND REGULATORY OVERVIEW

Dr. Noor Suhaida KasriResearcher/Head of Islamic Capital Market Unit International Shari’ah Research Academy for Islamic Finance (ISRA)

KAZAN SUMMIT 2015JUNE 15, 2015KAZAN, RUSSIA


Presentation Outline

A- The aim and focus of the presentation. B- Brief historical background of development of

Islamic banking and finance in Malaysia. C- Existing regulatory approaches in global

Islamic finance. D- Legal and regulatory development in

Malaysian Islamic banking and finance.

i) Regulated Shariah compliance and its application in the local judiciary and IFIs.

ii) Further initiatives in undertaking legal reform. E- Conclusion.


A. The Aim and Focus of the Presentation


To briefly discuss the development of Islamic banking and finance in Malaysia.

To discuss the legal and regulatory development in Malaysian Islamic banking and finance:-

i- From the regulatory side with the focus on Shariah compliance as the raison d'être for Islamic banking and finance.

ii- Legal reform initiatives – reforming the Malaysian common law to be in compatible with Shariah.


B. The Development of Islamic Banking and Finance in

Malaysia: A Brief Historical

Background


Islamic banking and finance in Malaysia has gone through four critical phases (Aziz, 2005):

Phase 1: Establishment of first Islamic savings institution, Pilgrim Fund Board (Tabung Haji) in 1969.

• It mobilise savings of Muslims intending to perform haj and channel the funds to Shariah-compliant investments

• Establishment of first full-fledged Islamic Bank, Bank Islam Malaysia Berhad in 1983 under Islamic Banking Act 1983.


• In 1983, the Government Investment Act was enacted to allow for government investment certificates to be issued to facilitate the Bank’s liquidity operation.

• In 1984, the first Islamic insurance/takaful company was established, Syarikat Takaful Malaysia Berhad under the Takaful Act 1984.


Phase 2: Ten years after the establishment of full-fledged Islamic bank, conventional banking institutions were permitted to offer Islamic banking products and service on a window basis.

• Through window, Islamic banking operation leverage on the existing infrastructure, ie., staff and branch network, wider market and cost optimization.

• It also open the door to Muslims and non-Muslims.


• In early 1994, Islamic interbank market was established thus a dual banking system was created.

• Concurrently, firewalls between the conventional and Islamic funds were put in place which included separation of capital funds, cheque clearing system, clearing account with the central bank, settlement account and reporting system.

• Current, the efficiency of Islamic interbank market is enhanced by Real Time Gross Settlement System (RENTAS).


Phase 3: Islamic subsidiary was introduced in 2004.

Phase 4: Issuance of Islamic banking licenses to foreign Islamic financial institutions, ie., Middle East.

• It fosters healthy competition, facilitates greater cross-border flows in terms of increased trade and investment transactions. With greater mobilising and channeling of resources between countries to productive investments, it raises prospects for a more balance global growth and shared prosperity among the Ummah.


C. Existing Regulatory

Approaches in Global Islamic

Finance


Existing Regulatory Approaches

4 main legal and regulatory approaches adopted worldwide to accommodate Islamic finance (Belouafi and Belabes, 2010):-

• Approach 1: By applying the same existing conventional legal framework to Islamic finance for example Saudi Arabia, Algeria.

• Approach 2: By adapting or amending with minimum changes to the existing legal framework, taking into consideration the specificities of Islamic finance for instance United Kingdom, France, Luxemburg.


Existing Regulatory Approaches

Approach 3: By creating a totally new and separate legal framework where the new law for Islamic finance works hand in hand with the conventional for example Malaysia, Bahrain; and

Approach 4: By instilling a full-fledge framework for Islamic finance where it converts the full conventional system into Islamic system for example Sudan, Iran.


D. Legal and Regulatory

Development in Malaysian

Islamic Banking and Finance


A comprehensive, dedicated and enabling legal and regulatory framework has facilitated the robust growth of this industry in Malaysia.

The following slides shows the development of:- • i) the regulated Shariah compliance and its

application in the local judiciary and IFIs.• ii) the initiatives taken in undertaking legal

reform in existing Malaysian common law.


D. (i)Regulated Shariah

Compliance and Its Application in

the Local Judiciary and IFIs


Shariah Compliance under IBA and CBMA (2003)

A. Islamic Banking Act 1983 (IBA)• Shariah Committee at BIMB and later other IFIs.• SAC established – 1/5/1997.

B. Central Bank of Malaysia (Amendment) Act 2003

• Elevated SAC as “the authority for the ascertainment of Islamic Law for the purpose of Islamic banking business, takaful business, Islamic financial business ...”.

• However it was not compulsory for the court to refer Shariah issues to the SAC nor the ruling of the SAC binding on the court (only to take into consideration in arriving to its decision).


Shariah Compliance under CBMA (2009)

C. Central Bank of Malaysia (Amendment) Act 2009 (CBA)• Mandatory for the court to refer Shariah issue to SAC in two ways:-

1. Published SAC rulings; or

2. If no published ruling on that issue, to refer to SAC for a fresh ruling.

• The ruling made by SAC is binding on the court.


Shariah Compliance under the Manual for Reference by the Court and Arbitrator to the SAC

D. In 2012, the SAC issued the “Manual for Reference by the Court and Arbitrator to the SAC”• Reference by the court to the SAC is only on questions relating to Shariah arising out of Islamic finance transaction. • The function of the SAC is only to ascertain Shariah ruling on the issues forwarded.• The SAC has no jurisdiction to make findings on facts or to apply a particular ruling on the fact and make a decision.


D. (i) The Application of

Shariah Compliance Provision by Malaysian

Judiciary and IFIs


Ruling on Shariah Compliance in Malaysian Judiciary

Special courts have been set up to adjudicate on Islamic banking and finance cases and named as Muamalat High Court.

The jurisdiction of the SAC is in line with the judgment of Mohammad Zawawi Salleh J. when he interpreted section 56 of CBA in the case of Mohd Alias Ibrahim v RHB Bank Bhd & Anor[2011] 4 CLJ 654, 682 (judgement affirmed by COA).


“If the court refers any question under section 56(1)(b) of the Act 701 (Central Bank of Malaysia Act 2009) to the SAC, the SAC is required mainly to make an ascertainment, and not determination, of Islamic Law related to the question…In this sense it can be seen that the SAC is not in position to issue a new hukm Syara’ but to find out which one of the available hukm is the best applicable in Malaysia for the purpose of ascertaining the relevant Islamic laws concerning the question posed to them. For example, in a matter where there are differences of opinion regarding the validity of a certain Islamic finance facility, SAC can be referred to ascertain which opinion of the jurists is applicable in Malaysia. This ascertainment of Islamic law will be binding upon the courts as per the Impugned Provisions. It will then be up to the courts to apply the ascertained law to the facts of the case. And at the end of the matter, the application and final decision of the matter remains with the court. The court still has to decide the ultimate issues which have been pleaded by the parties. After all, the issues whether the facility is Shariah compliant or not is only one of the issues to be decided by the court.” (own emphasis)

Ruling on Shariah Compliance in Malaysian Judiciary


This position is also in line with the Constitution of Malaysia.

Article 74(1) - Parliament has the power to make laws with respect to any matters enumerated in the Federal List (First List in the Ninth Schedule).

Matters enumerated under Federal List falls under the jurisdiction of civil court as civil courts are deemed to be federal courts.

Federal List enumerates quite an extensive list of matters which includes contract, property and mercantile law, finance, banking, trade, commerce and industry, including ascertainment of Islamic law and other personal laws for the purposes of federal law.

Ascertainment of Islamic Law under Malaysian Federal Constitution


Islamic Banking and Finance is under Civil Jurisdiction

Though the Federal List is silent on matters pertaining to Islamic banking and finance, the silence has been removed by civil courts in a number of cases.

The Malaysian Federal Court in the case of Latifah Mat Zin v Rosmawati Sharibun & Anor [2007] 5 CLJ 253.


Islamic Banking and Finance is under Civil Jurisdiction

“Ascertainment of Islamic Law and other personal laws for purposes of federal law is a federal matter. A good example is in the area of Islamic banking, Islamic finance and takaful… The ascertainment whether a particular product of banking, finance and insurance (or takaful) is Shariah-compliant or not falls within item 4(k) and is a federal matter. For this purpose, the Parliament has established the Syariah Advisory Council – see s. 16B of the Central Bank of Malaysia Act 1958 (Act 519).”


Shariah Compliance under IFSA 2013

Islamic Financial Services Act 2013 (IFSA) The principal objectives of IFSA:-

1. To promote financial stability

2. To promote compliance with Shariah


IFSA Secondary Objectives

To achieve the primary objectives CBM shall

(a) Foster:-

-the safety and soundness of Islamic financial institutions.

-the integrity and orderly functioning of the Islamic money market and Islamic foreign exchange market.

-safe, efficient and reliable payment systems and Islamic payment instruments.

-fair, responsible and professional business conduct of Islamic financial institutions.

(b) Strive to protect the rights and interests of consumers of Islamic financial services and products.


Shariah Compliance under IFSA

Section 28(1) IFSA stipulates that:

“An institution shall at all times ensure that its aims and operations, business, affairs and activities are in compliance with Shariah.

For the purpose of this Act, a compliance with any ruling of the Shariah Advisory Council in respect of any particular aim and operation, business, affairs or activity shall be deemed to be a compliance with Shariah…”



Section 29(3) IFSA:

“Every institution, its director, chief executive officer, senior officer or member of a Shariah committee shall at all times comply with the standards specified by the Bank…”



Section 29 (4) specifically provides that:

“Every institution shall at all times:

(a) Ensure that its internal policies and procedures on Shariah governance are consistent with the standards specified by the Bank under this section; and

(b) Whether or not standards have been specified by the Bank (CBM) under this section, manage its business, affairs and activities in a manner which is not contrary to Shariah.


Compliance under the Shariah Standards

Section 29(1) IFSA provides for CBM to issue standards relating to:

(a) Shariah matters in respect of carrying on of business, affair or activity by an institution which requires the ascertainment of Islamic law by the Shariah Advisory Council; and


Compliance under the Shariah Standards

(b) The Shariah Standards also relates to Shariah governance which includes:

i. Function and duties of the board of directors, senior officers and members of the Shariah committee to be in compliance with Shariah.

ii. Fit and proper requirements or disqualifications of a member of a Shariah committee; and

iii. Internal Shariah compliance functions.


Examples of Shariah Standards

1. Guidelines on the Shariah Governance Framework for Islamic Financial Institutions.

2. Guidelines/Shariah Standard of Mudarabah.

3. Guidelines on Musharakah and Mudharabah Contracts for Islamic banking institutions.

4. Guidelines on Credit Transactions and Exposures with Connected Parties for Islamic banks.

5. Guidelines on Ibra’ (Rebate) for Sale-based financing.


Non-Shariah Compliance under IFSA

Section 28(3) states:

“ When an institutions becomes aware that it is carrying on any of its business, affair or activity in a manner which is not in compliance with Shariah or the advice of its Shariah committee or the advice of the Shariah Advisory Council, the institution shall:


Non-Shariah Compliance under IFSA

(a) Immediately notify the CBM and its Shariah committee of the fact;

(b) Immediately cease from carrying on such business, affair or activity and from taking on any other similar business, affair or activity; and

(c) within 30 days of becoming aware of such non-compliance or such further period as may be specified by the CBM, submit to CBM a plan on the rectification of the non-compliance.


Effect of Non-Compliance under IFSA

CBM may carry out an assessment if thinks necessary to determine whether the institution has rectified the non-compliance.

Section 29(6) states:

“Any person who fails to comply with any standards specified under subsection (1), commits an offence and shall, on conviction, be liable to imprisonment for a term not exceeding eight years or to a fine not exceeding twenty-five million ringgit or to both.” Section 2 describes “person” as to include individual, corporation, statutory body etc.”


D. (ii) Initiatives in Undertaking

Legal Reform in Existing

Malaysian Common Law


Law Review Committee

Establishment of Law Review Committee in 2003 by the Central Bank of Malaysia. The committee was set up to review the common-law based domestic legislations to assimilate the Shariah principles.

The aim is to remove any legal impediments and to ensure the effective functioning the Islamic banking and finance system.


The Committee studied and reviewed the legislations concerning land, contracts, companies, taxation and court procedures.

One of its achievements is the adoption of “Tax Neutrality Policy” by the government where consequential amendments were made to laws concerning income tax, stamp duty and real property gains tax to reflect this policy.


Law Harmonisation Committee

In 2010, the Law Harmonisation Committee was set up. The objectives of its establishment is to:-

i- Position Malaysia as the reference law for international Islamic finance transactions;

ii- Achieve certainty and enforceability in the Malaysian law in regard to Islamic finance contracts; and

iii- For Malaysian law to be the law of choice and Malaysian dispute resolution institutions as the forum for settlement of disputes for cross-border transactions (MFIC, 2013).


E. Conclusion


Malaysian Islamic banking…as it is now

Since 2000 the domestic Islamic banking industry has been growing at an average rate of 18% per annum in terms of assets.

As at end-July 2014, the total assets of the Islamic banking system (including the development financial institutions (DFIs)) have reached RM580.8 billion. This translated into a 25.1% market share of the total banking system assets.


The Islamic banking system is currently represented by 25 Islamic banking institutions, comprising of (10) domestic banks, (4) development financial institutions and (9) locally incorporated foreign banks operating in Malaysia and (2) International Financial Institutions.

InsyaAllah with the continuous and concerted support by the stakeholders and beneficiaries, Malaysia will continue to lead the industry.


Thank you for your kind attention !

Documents

ISRAISRA الأكاديمية العالمية للبحوث الشرعية International Shari’ah Research Academy for Islamic Finance DEVELOPMENT OF ISLAMIC BANKING AND FINANCE