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:

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 AlBayt, 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 diPertuan 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

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.